Advantage of POAS v ROAS

May 1, 2024
Advantage of POAS v ROAS

Executive Summary

eCommerce is becoming increasingly competitive, especially for industries like automotive, heavy-duty, and powersports equipment. As a result, maximizing advertising return on investment is crucial. Traditional metrics like Revenue on Ad Spend (ROAS) are no longer sufficient due to their focus on revenue without accounting for actual profitability.

POAS improves upon ROAS by considering costs such as the cost of goods sold (COGS), shipping, and operational expenses, thus providing a more accurate measure of advertising effectiveness this metric is particularly beneficial for businesses with large, diverse catalogs, enabling them to prioritize advertising spend on high-margin products and align their marketing strategies with genuine financial health. In practice, this typically increases profitability 20-50%.

This white paper will showcase how the adoption of Profit on Ad Spend (POAS) based advertising model leads to better margin control and overall financial performance, ensuring sustainable business growth. You will see the difference between a ROAS v POAS based model, how these models work in practice, and an example use case showing advertising success by focusing on real profits rather than mere revenue generation.

To address these shortcomings, Profit on Ad Spend (POAS) offers a more comprehensive analysis by focusing on the actual profits from advertising expenditures. Unlike ROAS, POAS includes hidden costs, providing a clearer picture of advertising's contribution to the bottom line. For instance, if an auto parts company spends $1,000 on ads and generates $5,000 in sales, ROAS would suggest a strong performance. However, if the associated costs total $4,500, the actual profit is actually -$500. POAS accurately reflects this, prioritizing profitability rather than just revenue generation.

Moreover, the calculation of margins for POAS can be further refined by using contribution margin, a metric that provides insight into the profitability of individual products or campaigns by accounting for variable costs directly associated with the production and sale of those items.

This allows for even more precise adjustments to advertising spend based on the actual economic benefit each product or campaign delivers.

The shift from ROAS to POAS, augmented by insights from contribution margins, is essential for businesses looking to align their advertising strategies with financial goals.

This approach ensures that advertising investments not only drive sales but also enhance overall profitability, leading to more informed budget allocations and smarter marketing decisions. Ultimately, this strategy supports sustainable growth in the competitive digital marketplace.

Significance of POAS on the Automotive industry

Businesses managing large product inventories, particularly in the automotive sector, encounter unique challenges in digital advertising due to their extensive range of Stock Keeping Units (SKUs). Each SKU can vary significantly in terms of profit margins, popularity, and shipping costs, which complicates the marketing process.

Traditional metrics like Revenue on Advertising Spend (ROAS), which primarily focus on revenue generation, often lead to a misallocation of advertising budgets by emphasizing sales over actual profit. It also means sometimes the best opportunities for profitable sales aren’t getting any ad budget at all.

The adoption of Profit on Ad Spend (POAS) has proven to be a successful strategy for addressing these complexities. By evaluating the actual profit generated from advertising rather than just revenue, POAS allows companies to optimize their advertising spend based on profitability.

For example, an automotive parts retailer who transitioned from a revenue-centric to a profit-oriented advertising strategy saw achieved a 30% increase in overall profit margins within just the first quarter of implementation.

This shift not only underscores the effectiveness of aligning advertising strategies with profit generation but also highlights the strategic advantage of POAS in managing high SKU count businesses. By prioritizing profitability, companies can ensure more intelligent allocation of their marketing budgets, ultimately leading to more sustainable business practices and enhanced financial performance.

POAS : How it works

Understanding and implementing a Profit-Optimized Advertising Strategy (POAS) revolves around two core elements: contribution margin and advertising spend. This approach can significantly enhance the efficiency of advertising campaigns, especially in industries with extensive product ranges such as automotive.

Best Practices for Implementing POAS

  • Profit Reporting : Set up systems to continuously report cost data, including COGS and additional expenses like shipping costs and fees. This information is vital for making informed campaign decision
  • Product Segmentation : Organize products by profit margins, sales velocity, lifetime value, and other relevant metrics. This segmentation facilitates targeted advertising strategies focused on products that promise higher margins or strategic importance.
  • Dynamic Bid Adjustment : Use algorithmic bidding solutions that automatically modify bids based on each product's profitability, ensuring that advertising dollars are spent where they yield the most profit.
  • Continuous Monitoring and Optimization: Regularly evaluate POAS performance across different products and campaigns. Leverage these insights to adjust product offerings, pricing strategies, and overall advertising tactics.
  • Integration with Business Strategy : Align POAS-driven advertising with broader business goals, including market expansion, brand positioning, and customer acquisition.

ROAS v POAS Example

This necessity for a POAS v ROAS based model is best illustrated through a fictional case study of Starship Components Ltd., a leading supplier of high-quality parts for ships within The Federation, including the renowned USS Enterprise.

The Challenge

Starship Components Ltd. fell into the industry trap of using ROAS as the main measure of advertising success. While ROAS is a useful metric for calculating revenue generated per advertising dollar, it fails to consider profitability. This approach proved to be shortsighted for a company operating in the fast-paced sector of supplying parts for Federation ships. To stay ahead in a cutthroat market where the highest bidder usually prevails, while avoiding unaffordable Cost Per Click (CPC) rates, a more comprehensive and profit-focused strategy was crucial.

Here is a look a sample of some of their products sales and their expected costs of goods.

ROAS Example

In a traditional ROAS based Model, Starship Components Ltd might expect to make around $18M in revenue and $3.4M in profits from the sales of these items related to their $1.4M investment in ads, leaving them with a margin of 18.26%.

The real problem started when the Universal Postal Service decided to double all shipping fees for any “fragile items,” which included Gravity Wheels, right at the same time the Isolinear Chips went on an “Out of this World” sale and became 25% off.

With the ROAS Model, nothing changed. The same campaigns were still prioritized and revenue remained the same. The problem was that due to this change in shipping fees, profitability dropped significantly on these two hot items…all the way from $3.4M to $2.3M.

POAS Example

The paradigm shift for Starship Components Ltd. came with a strategic realignment from a ROSE-centric view to a laser focus on profit margins. Recognizing the strategic advantage in targeting niche markets, such as specialized components for the USS Enterprise and other starships, which were less saturated by competitors, the company undertook a comprehensive overhaul of its marketing strategy.

Even before the changes to shipping rates and sale, a margin-based advertising would have yielded Starship Components both new revenue and a MAJOR improvement to profits. This shift happened because the model recognized that in fact, Warp Coils were the most profitable item to sell and ultimately resulted in over $5M in sales and $2.2M in profit.

This involved implementing a product tagging system within their data feed that categorized products by their profit margins in real-time, from the highest to the lowest. By constructing product clusters based on specific margin ranges, Starship Components Ltd. was able to deploy bid algorithms that prioritized products with the most significant profit potential.

When shipping costs went up, it knew to pull back slightly on both the Gravity Wheel and Isolinear Chips and pull up, just ever slightly, on the Warp Coil and Captain Chair.

Looking at the two models, the change in profitability is stark.

This strategic pivot yielded transformative results for Starship Components Ltd. The company only saw a small uptick on sales (and as a result, improved ROAS) but more importantly, they reported a substantial increase in gross profits. This success marked a new era of growth for Starship Components Ltd., characterized by a profit-driven approach to marketing and the ability to pursue more targeted, efficient, and sustainable growth strategies.

Lessons from Starship

The theoretical case of Starship Components Ltd. underscores the importance of transitioning to a marketing strategy that prioritizes understanding product margins to influence campaigns, accurately measuring performance, and iterating for continuous improvement.

By shifting the focus from ROAS to POAS, the company was able to embark on a journey of more profitable and strategic advertising decisions, demonstrating the critical role of profit-focused metrics in navigating the complexities of digital marketing in the interstellar trade sector

This narrative not only highlights the practical applications of a POAS framework but also serves as a beacon for businesses aiming to enhance their marketing strategies in a way that aligns with their financial goals and growth trajectories in a futuristic marketplace.

Now we recognize the silliness of this fictional example, and it's a bit extreme. But if you work in the automotive market, the idea of “doubled shipping fees” and managing products that range so much in price is not a foreign concept. Now, imagine blasting this concept out to your catalog of 50,000+ products…

Implementation Considerations

Implementing a Profit on Ad Spend (POAS) model, essential for companies with extensive product ranges such as those in the automotive, heavy duty, and powersports industries, faces significant challenges. A primary hurdle is the lack of real-time awareness of product margins, crucial for aligning advertising spend with actual profit generation.

This challenge is compounded by the complex nature of calculating margins for a vast array of products, further exacerbated by rapid fluctuations in costs like supplier pricing, shipping rates, and import duties. These factors make dynamic adjustment of advertising strategies based on current profitability a challenging task.

  • Invest in Analytics : Advanced analytics platforms can provide near real-time margin data by integrating directly with inventory and financial systems, enabling swift adjustments to advertising strategies.
  • Feed Management System : Once you have your margins, you will need a system to push these margin categorizations out to Google Ads, Meta Ads, Amazon Ads, and other PPC platforms.
  • Start Small : As you start pushing POAS campaigns, this doesn’t have to be an “all or nothing” approach. Start gradually, test, and iterate. Most ad systems need enough data to properly know how to target for the new goals.
  • Data-Driven Advertising Strategies : Advertising strategies that can be quickly adjusted based on performance/margin changes to allow for the efficient allocation of resources dollars to the most profitable products.

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