ROAS Too High Is a Problem
If your ROAS is too high, you are likely leaving a lot of money on the table
It’s a big problem if your ROAS is too high. You are likely leaving a lot of money on the table.
A lot of marketing analysis is trying to figure out how to improve return on ad spend (ROAS) when it’s too low. This makes sense–if ROAS is low, by definition, your advertising isn’t profitable.
But ROAS being too high is a problem too. This sounds like an obvious point but you’d be surprised how many ad accounts I’ve seen where it’s happening.
Why is high ROAS problematic? Because of the opportunity cost. If ROAS is high, you should be spending more on the ads with a high return in order to drive more sales and profit dollars.
Because of the diseconomies of scale in marketing, spending more will hurt your ad efficiency and drive your ROAS down. But I’d much rather have a ROAS of 5x and spend $2,000 a day vs. have a ROAS of 6x and spend $1,000 a day.
Why is that? We can do the math. In the above case, if I drive my ROAS down from 6x to 5x by spending an extra $1,000 per day, that implies my ROAS on the incremental ad spend is 4x. Unless my gross margins are truly poor, that’s almost certainly profitable ROAS.
What ROAS should you consider too high? It depends on a lot of factors including your gross margins, cost of capital, repeat order rate, and many other factors. But at 50% gross margins, I’d say 5x and probably even 4.5x is too high and you can increase overall profit dollars by spending more.
This is just a heuristic, though. I would definitely test it to try to deduce your incremental ROAS on those increased marketing dollars.
As a caveat to the above, if you can’t increase sales for whatever reason then high ROAS is great, of course. For example, if you’re running low on inventory and can’t supply increased sales, you want to be spending as few marketing dollars as possible for the sales you can support. This is also a reason on the margin to buy more inventory.
In general, don’t be scared of lowering your ROAS! There’s no efficiency prize and your business will ultimately be judged on the number of profit dollars.