Bidding With Your Brain

Know which numbers matter when you set your bid

What’s that ’99 Honda Accord worth to you? That’s easy enough to answer, just click on over to Edmunds.com or the Kelly Blue Book, and you can get a pretty precise valuation that even factors in its high mileage. Want to make a smart bid on a new home? (We hear it’s a buyers’ market at the moment.) Well, that info is easily uncovered right here on Yahoo!.

But when it comes to figuring out what to bid on a certain Sponsored Search keyword, where do you start? In a constantly fluctuating keyword market where competitors are jumping in and out, and raising and lowering bids, it can be a challenge to know what a smart bid is. Let’s start with the basic concepts you need to know when you bid.

Profit
Profit = revenues minus costs

Profit is truly the “bottom line” number. Most businesses want to maximize profit, but profit can be hard to maximize when there are lots of moving parts. Increasing advertising spend will bring in more customers, but you must ensure it will also increase profits.

Cost per action (CPA) or cost per conversion
CPA = advertising costs divided by number of buyers

CPA measures how much it costs for you to obtain the desired action (an action might be a purchase of a product, a download of an application, or a registration for a service). It’s helpful for you to know how much it costs to get a buyer, but it’s even better if you know what that buyer is worth.

In order to do that, you need to know how much a buyer typically purchases and what you make on that purchase; knowing how many visitors actually become buyers is also important. CPA is most useful when compared with the value of a customer. Useful measures include:

• Average purchase amount
• Margin
• Conversion rate

Return on advertising spend (ROAS)
ROAS = profit divided by advertising costs

ROAS measures how effective the advertising spend is at generating profits. Most businesses prioritize their spending based on how much payback it will yield. Sometimes businesses will set a “hurdle rate,” or a minimum threshold, for that payback. Each business is different, so one advertiser may have a very different hurdle rate than another. But no matter what the hurdle rate, if there is one, ROAS will show you what rate-of-return you are getting from your advertising spend.

Return on investment (ROI)
ROI = profit divided by total costs

ROI measures how effective your overall business spending is at generating profits. ROI is essentially the same as ROAS, but takes into account all costs, not just advertising spend.

That’s how you figure out the metrics you should be using when you set your bids. Next week, we’ll show you how to put it all together and calculate your bid.

—The Team