For many online advertisers, trading and evaluating paid search marketing (PPC) has now moved beyond paying for clicks.  More advanced search marketing campaigns are traded and evaluated on cost per “action” - i.e. paying for a marketing outcome; the generation of a lead, subscription or sale for example. Even more advanced campaigns are evaluated using Return on Investment (ROI) metrics where search engine marketing activity is optimised around the relationship between online spend and revenue generated.  ROI evaluation can be a very powerful way to evaluate paid search, but it is not without its own pitfalls. You need to be careful about which ROI metrics you work with - pick the wrong ones and your best endeavours may still end up generating high volumes of low profit business.

I thought it might be interesting to explore how we can look at ROI as a measure of margin or even profit.  But before I do that, here’s a quick review of current PPC evaluation options.

1) Cost per Click

Cost per click is the most basic and easy to obtain evaluation metric in search marketing. Unfortunately, clicks are of limited value for a number of reasons. First they do not represent whether or not a purchase has taken place. Second, they offer no view of sales value. Third, they are the metric by which most paid search campaigns are traded. Search engine owners want to sell you as many clicks as possible because they’re paid by the click. But you need sales because only sales will drive your business forward. So how can you move from evaluating search on clicks alone? There are two options:

2) Cost per Action

Cost per Action (sometimes called Cost per Conversion) is a much more interesting metric. It can be obtained using either the conversion tracking tool in Google’s main Adwords dashboard or via the Google Analytics tool. You can set conversions as particular actions “goals” or on your site. These might be sales, leads or subscription sign-ups. So if you have a target cost for generating lead or sale, conversion tracking can help you to achieve this. But there is a problem with looking at Cost per Action alone; it does not allow you to understand your revenue Return on Investment.

3) Revenue Return on Investment

Search marketing can only be fully optimised when you can understand the relationship between the cost of generating a sale and the value of that sale. If you are selling a product, or capturing online orders, then it is possible to capture the sales value from the forms generated on your web site. You can then use an analytics tools to look at the relationship between sales cost and sales value across either keywords, ad texts or products.

How do we develop ROI as an evaluation metric?

Calculating ROI in isolation of margins can produce superficially healthy feedback which in fact covers potentially disastrous business practice. ROI ratios can be used to help us understand the business metrics that keep businesses healthy - gross and net profit margins.  Here’s an example of three sales:

1) Sales Value: £200 Cost Per Sale: £50 Sales ROI: 400%

2) Sales Value: £600 Cost Per Sale: £100 Sales ROI: 600%

3) Sales Value: £900 Cost Per Sale: £125 Sales ROI: 720%

So, which sale would you rather have? In sale 1, the cost of the sale is 25% of the revenue generated. In sale 2, the cost of the sale is 16.6% of the revenue generated.  In sale 3, the cost of the sale is 13.8% of the revenue generated. Whilst the capital cost of sale 3 is much higher, it offers more potential profit because it’s a lower proportion of the revenue generated.

If you were optimising your campaign on a cost per sale basis at £75 per sale, then cutting out keywords or ad text that delivered over this level may mean that you miss out on higher margin business which offers better profitability. In a worse scenario, because revenue is flowing in, you might think that the relationship between ppc spend and revenue is healthy and bid for a higher share of the market. But this may be an online form of the venus flytrap;  the revenue may mask preilkously low margins or even loss-making business.

As a post text, there’s an interesting book about understanding the economics of generating sales in direct marketing by Peter Rosenwald, a former CEO of both Wunderman Worldwide and Saatchi & Saatchi Direct called “Accountable Marketing, The economics of Data Driven Marketing”.  Rosenwald attaches great importance to calculating and understanding your own “Allowable Cost Per Order” (ACPO) so that you can organise your marketing activity to deliver profits as well as sales.  Tim Ambler at London Business School takes these ideas further, arguing that marketers need to look at the rate at which cash is generated in relation to outgoing marketing expenditure.