The calculations we presented assumed an average conversion rate of 1%. Table 2-3 shows the bottom-line impact of both increasing the conversion rate to 2% and reducing it to 0.5%. With a conversion rate of 2%, the company is able to generate twice as many sales, and the campaign generates a total of $110,000 in profit. A 0.5% conversion rate results in the campaign losing $1,500.
|
Campaign parameters |
1% conversion rate |
2% conversion rate |
0.5% conversion rate |
|
Total number of visitors |
100,000 |
100,000 |
100,000 |
|
Pay per click |
$0.24 |
$0.24 |
$0.24 |
|
PPC spending |
$24,000 |
$24,000 |
$24,000 |
|
Average conversion rate |
1% |
2% |
.5% |
|
Number of orders |
1,000 |
2,000 |
500 |
|
Profit per order |
$75 |
$75 |
$75 |
|
Total profit from orders |
$75,000 |
$150,000 |
$37,500 |
|
Campaign budget |
($24,000) |
($24,000) |
($24,000) |
|
Additional costs |
($15,000) |
($15,000) |
($15,000) |
|
Profit or loss |
$36,000 |
$111,000 |
($1,500) |
While setting paid campaigns, conversion rate is usually the unknown element. We refer to the minimum conversion rate for a campaign as the breakeven conversion rate. As the name implies, at the breakeven conversion rate the campaign will not generate any profit or loss.
The formula to calculate the breakeven conversion rate is:
| Breakeven conversion rate = Total costs / (Profit per conversion * Number of visitors) |
Let’s assume this company knows it will have to spend 55 cents per click. Let’s walk through how to calculate the lowest possible conversion rate:
| Pay-per-click budget: 100,000 * 0.55 = $55,000 |
| Design, optimization, and software costs = $15,000 |
| Total campaign costs = $55,000 + $15,000 = $70,000 |
| Total number of widgets sold to cover cost = $70,000 / $75 = 934 widgets |
| Minimum conversion rate = 934 / 100,000 = 0.934% |
| Or minimum conversion rate = $70,000 / ($75 * 100,000) = 0.934% |
Most companies see their first sale with a new customer as the initial step in a long-term relationship. If things go well, these companies will receive multiple orders from that customer, building loyalty to their brand. Our calculations in the previous sections used the profit from a single order to determine the campaign budget and its profitability. We did not take into account the fact that returning customers will likely not click on paid advertising.
Taking lifetime value (LTV) into account can drastically change the budget for the campaign. How to calculate LTV is beyond the scope of this book and is the subject of many debates. But for the purposes of our discussion, let’s assume you are able to calculate LTV for your customers. How does LTV impact the calculation for a campaign? In our example, the company determines that the LTV of a customer is $187.50. Table 2-4 shows how using the LTV calculation versus a single sale calculation will have an impact on the campaign’s bottom line.
|
Campaign parameters |
24 cents per click and LTV calculation |
24 cents per click and single order calculation |
48 cents per click and LTV calculation |
48 cents per click and single order calculation |
|
Number of orders |
1,000 |
1,000 |
1,000 |
1,000 |
|
LTV |
$187.50 |
$187.50 |
$187.50 |
$187.50 |
|
Profit per order |
$75 |
$75 |
$75 |
$75 |
|
Income |
$187,500 |
$75,000 |
$187,500 |
$75,000 |
|
Total number of visitors |
100,000 |
100,000 |
100,000 |
100,000 |
|
Pay per click |
$0.24 |
$0.24 |
$0.48 |
$0.48 |
|
PPC spending |
($24,000) |
($24,000) |
($48,000) |
($48,000) |
|
Additional costs |
($15,000) |
($15,000) |
($15,000) |
($15,000) |
|
Net income |
$148,500 |
$36,000 |
$124,500 |
$12,000 |
With an average bid of 24 cents per click, the company is able to generate $148,500 when using LTV calculations versus $36,000 when using a single sale calculation. At an average bid of 48 cents per click, the company generates $124,500 in profit versus $12,000 when using a single sale calculation.
The campaign’s breakeven conversion rate also improves. The updated formula for the breakeven conversion rate is:
| Breakeven conversion rate = Total costs / (Lifetime value * Number of visitors) |
Let’s use the same numbers from the previous example:
| Pay-per-click budget: 100,000 * 0.55 = $55,000 |
| Design, optimization, and software costs = $15,000 |
| Total campaign costs = $55,000 + $15,000 = $70,000 |
| Total number of widgets sold to cover cost = $70,000 / $187.5 = 374 |
| Minimum conversion rate = 374 / 100,000 = 0.374% |
| Or minimum conversion rate = $70,000 / ($187.5 * 100,000) = 0.374% |