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Sep
03

Forecasting Google Paid Search ROI for New Businesses

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If you are a new business or have yet to start Paid Search (PPC) for your existing business here is a quick way to calculate its’ ROI in order to forecast your Paid Search ROI. Keep in mind that since you have no historical data to use, you are trying to get close to whether or not it makes sense for your new business to test Paid Search. If you decide to go forward with it you will need to make adjustments over time in your forecast as you receive more true data.

Step 1: Search Impressions And Cost Per Click For Your Keywords

We are going to assume that you already have a keyword list of terms and phrases that you want to bid on. Sign in to the Google Keyword Tool and enter in your keyword list. The output will show the estimated cost per click of your terms and the estimated monthly searches that your terms get to help  to determine potential ad impressions you could have . Please note that typically the information in the Google Keyword Tool usually over estimates traffic volumes and underestimates the cost per click.

For this example lets use the following as data returned in the Google Keyword Tool:

  • Estimated monthly impressions for your terms: 1,000,000 impressions
  • Avg cost per click: $2.00 per click

Bonus: To be even more accurate you can calculate this at an individual keyword level but for a high level ROI we will use averages here.

Step 2. Click Through Rates

This step will let us determine how many people will click on your ad if they see it in Google search. Here we will need to estimate the click through rate (CTR) you expect to see for your terms. There are two ways to do this if you have no historical Google Adwords Data:

  1. Search Google for benchmark data from others in your industry to get the Average Click Through Rate. You will probably find this in an industry benchmarking report, or via a Paid Search Benchmark report that lists data by industry
  2. Or, use overall CTR average numbers regardless of industry

For this example we will use a 1.5 % Click Through Rate. In other words, 1.5% of the people searching for my terms will click on my ad.

In step 1 we determined that there are 1,000,000 impressions for our selected terms per month, so we will multiple 1.5% X 1,000,000 impressions to get an estimate on click throughs for a total of 15,000 click throughs. 15,000 click throughs multiplied by $2.00 average cost per click as determined in step 1 is a marketing cost of $30,000.

Step 3: Conversion Rate Of Your PPC Campaign

This will let us know how many people will convert, or perform your desired action after clicking on your ad in Google. Again, seeing as though you don’t have historical Conversion Rates for your keywords or Google Adwords you are going to have to come up with an estimation. If you are a new business you will most likely have zero insight into what your conversion rate will be. If you are an existing business you have some idea, but not from this source of traffic.

I like to go with a low number and be conservative, so for this example lets use 10% as a conversion rate. In other words 10% of the people who click on my ad in Google Search will convert (become a lead, buy a product, etc.).

In step 2, we determined that there would be 15,000 click throughs on our ads, multiply this by our estimated conversion rate of 10% and we have 1,500 estimated conversions.

Step 4: Average Order Value

As in the above examples we don’t know what the average order value for visitors coming from paid search will be. If we are an existing business we have somewhat of a guideline from existing sales to use for this exercise. If we are a new business we again will have to estimate based on the products we are attempting to sell (are they commonly $10 items, $50 items, $100 items, and how many do we think we sell at a time per customer)

Lets use an Average Order Value of $20.

In step 3, we determined that we will have 1,500 conversions. Multiple this by our Average Order Value of $20 and we therefore estimate that we will have $30,000 in sales for the month from our Google Paid Search Campaign.

Step 5: Calculating The ROI On Paid Search

So we have forecasted in the previous steps that we will spend $30,000 and make $30,000 in sales. You may be thinking that we still haven’t factored in the cost of the goods or services we are selling yet, so it’s not truly a break even. This is true, but we also aren’t factoring in Life Time Value (LTV) of a customer – will each customer ultimately spend $100 with us over time nor have we calculated revenue from other people that each customer will refer to purchase from us over tune. We may not have this data yet since we are a new business and therefore will need to create some conservative estimations as well.

For this exercise let’s use the following numbers:

  • Cost of each good sold: $7.00 (you should have this data even if you are a new business since you know what your products or services cost you)
  • LTV of Customer: Lets be real conservative and say they will spend 50% more, this would give us a LTV total of $30
  • Referrals: Lets say that 5% of the customers acquired will refer people, with 1,500 conversions this means 75 people will be referred to us and buy with a LTV of $30 each ($2,250 additional revenue).

So Calculate it all out from the steps above:

  • Paid Search Spend: $30,000
  • Cost of Goods Sold: 1,500 customers X $7 = $10,500. $10,500 + Cost of Goods Sold on their lifetime purchases (we determined everything at at 50% so $3.50 = $5,250) for a total of $15,750
  • LTV of Customers: 1,500 x $30 = $45,000
  • Referral Customers from PPC promotion LTV: $2,250
  • Referral Goods Cost: (75 x $7) + (75 x $3.50) = $787.50

So finally, we have:

  • Marketing Spend of $30,000
  • Goods/Services Cost us: $16,537.50 (Cost of Goods Sold + Referral Goods Cost)
  • Total Cost of $46,537.50 (Marketing spend + Cost of Goods Sold)
  • Revenue: $47,250 (LTV Value + Referral Value). (Note from Josh: To be truthful, I would usually take off another 10% to be on the safe side.)
  • Total Customers Acquired Due to PPC promotions: 1,500 + 75 = 1,575 customers
  • Cost Per Customer Acquisition (CPA): $46,537.50 / 1,575 = $29.54
  • Profit Per Customer: $30 – $29.54 = $0.46

Profit of $712.50. Now typically spending $46k to make $712 isn’t the best use of money BUT  if I can start small and can optimize, cut some costs, increase Average Order Value, or any other factor that I estimated along the way I could potentially make money.

If we were looking at pure Return on Ad Spend  (Revenue Generated minus Marketing Cost) we would have made $47,250 and spent $30,000 for a $17,250 return and a Cost Per Customer Acquisition of $19.04 ($30,000 spent/1,575 customers). So we would be spending $19.04 to make $30.00.

 

Step 6: Realize That You Did It All Wrong

OK, here is the catch. This is all forecasting and you have no historical data to really use, but we have to start somewhere. You have to test and determine the true outcome and percentages. But from our example in which we were being extremely conservative,  it’s break even or slightly profitable. But truth be told, we could have calculated this many other ways. For instance, we could have added the cost of an employee spending their time doing the PPC or an agency cost. Maybe you sell funeral caskets and don’t expect referral revenue at all. Perhaps, you don’t want to factor in LTV. Or we could have factored in additional Operational Costs, or completely left out the Cost of Goods Sold to just get the Return on Ad Spend (ROA). There are a lot of different ways to do this, but remember you have to start somewhere and you are starting with no data at all.

This exercise is purely directional and gives you a baseline to work with. It will also help in optimizing your Paid Search Campaign such as knowing you need a 1.5% click through rate and 10% conversion rate if everything else is correct we estimated or that if you can get a 20% conversion rate with the same 1.5% click through rate you could significantly increase your profit. You are going to also find out that your Per Click Costs will vary per keyword just as the conversions will, so perhaps your higher costing keywords will convert worse than your lower costing ones and therefore you will make either landing page adjustments or bid adjustments etc. In your math you may find that your cost per click is a $10 average but the goods you sell are for $5 or less. There is a lot of insight to be had from this “napkin math” even knowing that it truly won’t be accurate once you launch and will have to be adjusted once you have data rolling in.

Good Luck!

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