The goal of any ad strategy should be to get a positive return on your investment, which comes down to whether you’re getting more revenue out of the ad campaign than the cost that you’re putting in. So how can you determine what your ad spend should actually be to get the most return on your investment?
To start answering that question, we’ll need to understand the bidding system used by the ad networks. So what’s a bid? A bid is the maximum amount of money that you’re willing to pay for a desired action on your ad. If it sounds like an auction, that’s because it is an auction. Ad networks have a limited amount of ad space and to determine whether your ad or the ads of your competitors are shown to your target audience, they run an auction to see how much each advertiser is willing to pay for that ad space.
Online Advertising Bidding Strategies
Think of it like an auction. The highest bidder wins. Let’s say that you bid 10 dollars for a click on your ad and the next highest bidder only pays 5 dollars for a click. Each ad network will only make you pay the lowest amount possible to win the bid. In this example, you might be willing to pay ten dollars, but in reality you’ll only have to pay five dollars and one cent to win the bid. Winning this auction, in addition to the overall quality of your ads, will determine how your ads are displayed on the different ad networks. So how should you determine what your maximum bid should be to do that will want to work backwards from revenue generated by your final bid?
We’re about to look at an example from a hypothetical B2B company, but the thought process can be applied to any industry. Be sure to keep that in mind. Let’s say that you run an IT solutions company and you want to advertise for your upcoming webinar on network security. Fantastic. Let’s do some math. The first thing that you want to do is to calculate your lifetime value of your customers.
Calculating Ad Spend
There are a number of ways you can do this, but to get a simple average, here’s how you could calculate it. Take the yearly revenue your average customer brings you and multiply it by the average lifespan of that customer. Throughout this example, we’re going to do calculations using dollars, but the same logic applies for all occurrences. So if your average customer pays you five hundred dollars a year and your average customer stays with your company for six years, we can say that the average lifetime value of a customer is 3000 dollars. But let’s not forget how much it costs to service a customer. If you factor in that, it costs you 50 dollars to service that customer each year or three hundred dollars over their entire lifetime. As a customer, you can say that your average lifetime value of your customer is three thousand dollars minus three hundred or two thousand seven hundred dollars. Since our budgeting goal is to have a positive return on our investment, $277 hundred dollars will be our break even point for a maximum budget on our ad spend. Now that you have your average lifetime value for your customers, you can work backwards to see what your monthly advertising budget should actually be.
We’re going to walk through this example focused on the value of a form conversion, but you can apply the same approach to whatever conversion points that you’re optimizing your ads for. So what factors matter in your advertising budget? You’ll want to consider two things to figure out your advertising budget, your average conversion rate and your average lead to customer rate. The average conversion rate is the rate at which website visitors to your site convert on a form and become a lead. In our example. This will be what percentage of people clicking on your ad will actually sign up for your webinar? Let’s say that for our example, you have a seven percent webinar conversion rate. We’ll use this approximation for now. But take a look at your own site’s traffic to see how your landing pages are currently performing and what your own conversion rate actually is.
It’s OK to start with a rough estimate and then refine that over time as you start getting real data. So what’s an average lead to customer? The average lead to customer rate is the rate at which leads become paying customers. In our webinar example, this is the percentage of people who sign up for your webinars will actually become customers later on down the road. You’ll need to look at the historical data for your campaigns to determine the specific number for your own business. But for our example, let’s say that you’re lead to customer rate is 10 percent. So if 10 people sign up for your webinar, you can expect that one person will become a paying customer. Once you start getting real data from your specific ad campaign, you can start adjusting your estimates to reflect reality. You have a lot of stats assembled now. Seven percent is your average conversion rate or the percentage of website visitors coming from your ad that will convert into a lead on your landing page. 10 percent is your average lead to customer or the percentage of people who signed up from your webinar that will eventually become a paying customer? Two thousand seven hundred dollars is your lifetime value or how much each of those customers is worth to your business.
The Advertising Business Model
Now you can work backwards to figure out what an ad click is actually worth to you. If you divide one new customer by your lead to customer rate, you’ll see that we need ten webinars, sign ups to yield one new customer. Next, divide the number of webinar sign ups we need by the average conversion rate. Using our seven percent conversion rate, we find that you only need roughly one hundred and forty three clicks on your ad to generate one new customer. If that customer is worth two thousand seven hundred dollars to you, we can start to calculate how much you should spend on each click of your ads. If we ignored all of their costs of acquiring a new customer, then your break even bid would be your customer lifetime value divided by one hundred and forty three the number of clicks that you need to generate one new customer. This means that you could bid nineteen dollars per click on your ad and break even. Now let’s say that you launched this ad campaign, run the webinar and you want to understand how well your digital ads actually performed on revenue 90 days later. This is where return on ad spend comes in. Also known as ROIs. Return on ad spend is a calculation that helps you understand the actual return on investment for your advertising to calculate ROIs take the revenue driven by a campaign and divide it by the amount of money spent on that campaign. These insights can be used to prioritize the types of ad campaigns that bring in the highest return on investment in the future. As you continue to iterate on your advertising strategy, you’ll be able to determine how long you need to run your ads in order to reach your goals and what your daily ad spent should actually be for that result.
The advertising networks are making it easier to determine how you can manage your ad spent. But the exercise that we just went through is a great way to determine your advertising objective, what achieving that objective is worth to you and how all of that fits into your overall marketing goals.