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Here at CTC we talk a lot about how ROAS is a poor guiding metric for ad account decision-making. That’s because it doesn’t take into account your ad spend’s impact on your entire business. So what should you use instead? In this episode, Richard and Taylor break down a new way to think about profit in an environment where capital isn’t cheap.

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[00:00:00] Richard: Hey everyone. Welcome to the E-Commerce Playbook Podcast. I'm your host, Richard Gaffin, the Director of Digital Product Strategy here at ctc. I am joined as I always am by Mr. Taylor Holiday, the CEO of Common Thread Collective. Taylor, how you doing?

[00:00:13] Taylor: You know, I'm doing better than I was Sunday afternoon. So today is Monday, March 13th. We're coming off of the Rollercoaster that was the collapse of the Silicone Valley Bank and everything that we learned there, and it's why today you're gonna see the other side of us Last week, super philosophical.

Today we're going deep into the finance

[00:00:30] Richard: That's right. Yeah. It's gonna be all numbers. It's gonna be all. Well, like I was saying before we hit record, I will be the finance for dummy's voice here, just so we make sure that we're all speaking English. But yeah, to your point, the recent issue with SVB calling it an issue is maybe light, but as sort of brought to mind something that, that you and I have talked about that's been on your mind for a while, and that we have a video about that we'll release or re-release rather, which is the idea of using this metric, return on invested capital as. Is a target or a K P I metric to go after for e-commerce businesses. So obviously maybe we should start down by breaking that metric down, the idea of return on infested capital. And maybe actually also be important to set up that part of the reason that the SVB collapsed is so important is because part of the reason that happened is that interest rates went.

And the environment surrounding capital changed dramatically. And because they were over-indexed on, it was just like bonds, right? Treasury bonds or something they were able they managed to collapse in like a, over the course of 48 hours or something like that. And so part of what ROIC can do for you is give you an eye towards how the.

Financial situation kind of changes around you as say, interest rates go up and down as the cost of capital becomes greater or smaller. So, let's just kick it off with definitions. The end. Tell us what is ROIC return on invested capital? Break it down.

[00:01:50] Taylor: Okay, so, so ROIC. Is a financial term that is a measure of the profitability of a company's investments as a percentage of its capital from debt and equity. So what it's really intended to be at the highest level is a measure of the efficiency of the utilization of a company's capital. So it's supposed to take into account the total operating expenses of an organization and their ability to generate a.

On the money that they're deploying inside of the business. Okay. So this, it was a financial analyst metric that was created to look uniquely and find an edge from companies in the early nineties, I think is when the metric I think came into glance. Bill Gurley was talking about this on a podcast the other day.

He was part of the group of analysts that initially brought this to bear, to look at companies like IBM to show how efficient they were at generating a return on capital. And so I just wanna acknowledge that we are gonna take this idea, apply at a corporate level and analyze more specifically a narrower segment of a company's investments, which is to look at the process of investing capital for the sake of new customer acquisition inside of an e-commerce business, and calculate the ROIC, or return on invested capital in a subset of the business to really get a sense of how capital E.

Is the business in this specific discipline, not necessarily in the ti totality of their operating expenses. So ROIC, the calculation is net operating profit after taxes divided by invested capital, and then invested capital is just the total assets minus liabilities on somebody's balance sheet. But what we're gonna look at today is sort of a one year customer value.

Divided by the invested capital and to think about, Hey, you have this investment vehicle available to you inside of your business that is new customer acquisition. How efficient is that for you and how should that frame up how you think about the deployment of your capital into that opportunity? And how does the landscape that we exist in the broader economic landscape alter how you should think about that investment?

[00:03:51] Richard: Gotcha. So maybe let's start with or rather continue with this, maybe exploring maybe I'll put it this way. Why aren't people in the e-commerce right now using ROIC? What is it

[00:04:01] Taylor: so I

[00:04:01] Richard: Yeah, go ahead.

[00:04:03] Taylor: yeah, we didn't grow up on ROIC. We were trained on roas, right? Which is a return on ad spend, right? So these are sort of attempts at a similar idea. Right, which is return on ad spend or return on invested capital. They're really functions of the same thing where. Ad spend is, in this case, the invested capital.

Right now, the reason I want to bring ROIC forward is because we can do it to do a couple of things. One is we can use it to frame up the time horizon that we're looking at. So we can say the return on invested capital in a year as an example, like in the way that you would with an ltv, the C, and it also is intended to have a consideration uh, especially when using debt for the cost of the capital.

So it's just elevating. The way we as advertisers think about the process of new customer acquisition to both consider the total net value. So ROAS has a problem because it just uses revenue. It's really return on revenue, or revenue returned on ad spend versus going no, let's think about the total return.

So in a ROI calculation, it would be net operating profit after taxes. In our world, even if we just say L T V, like bracketed, big V, so net of costs. Value over invested dollars. And what I wanna bring into this conversation is a consideration how for how the cost of capital should actually affect the necessary return that would warrant an investment for us as an operator.

So we're gonna get in the weeds, and if you have to play this episode back a couple of times, do it because there's a really important. Thesis here that I think we all in this industry need to grab hold of, to elevate our view as marketers on how efficient we are at generating cash flow for a business.

[00:05:50] Richard: Gotcha. maybe. Okay. Maybe let me put this to you then. So like, what's the difference then between ROIC and let's just call it ROI generally, or maybe EBITDA or something like that. a, There's a number of metrics that people are looking at, like, yeah, I take opex into consideration, whatever.

I take all of these other things into consideration. What's the benefit of this metric specifically compared to those broader metrics?

[00:06:14] Taylor: Yeah. I think the key is that I think framing it as return on investing capital connects you to the idea of the cost of capital. , right. And in a lot of businesses, okay. One of the things that's been a big talk in our industry lately is revenue-based financing and the cost of some of these loans that exist.

And we all know interest rates are going way up right now. And so we're in an environment right now where the cost of capital is way higher than it was two years ago. Okay? So what that should require, Is that in order to clear the hurdle rate another financial term. So hurdle rate just simply means the level of necessary return in order to warrant an investment is actually should be higher now.

In other words, we should only be spending dollars if we could generate a better return than we were two years ago. Because two years ago, money was basically free. You could go out and get a loan at a very low interest rate and. In a very simple arbitrage calculation, if you could generate an 8% return on money and the cost of that money was 2% to get the loan, you would do it.

That's why everybody was yoing helos out of their home and taking money from their, at a low interest rate from Charles Schwab and buying Bitcoin or whatever everybody was doing two years ago because there was an arbitrage on a really low interest rate on a, didn't have to be that good of a return.

And this is true for media. This is true for us as allocators of capital in media buying. And this is really what started this for me. Okay? So this weekend you hear all this story about how Silicone Valley Bank gets in trouble a amidst a bunch of things that they did because they bought this bond at a really low yield.

It was like 1.4% return, which. Sitting here today with, you know, like 6% interest rates or whatever it is, like, sounds crazy , like, why would you do that? But you have to remember, back in the world two years ago, there was no expectation that interest rates were gonna skyrocket suddenly. And the cost of capital was so low.

Interest rates were so low, they were negative in some cases. , that was actually a warranted return. Now you can make an argue about diversification and risk and all these things that they should have known, and that's their job. So bad investment. But the point is that a 1.4% return was actually, it passed regulators.

It passed smart people inside of a bank. They all thought good enough. Today, that wouldn't be good enough. You would need a much higher yield. You can get a treasury bill at, you know, whatever it is, 5%, six months, or some crazy zero risk, 5% return on treasury bills today. So as an advertiser, how does that affect us?

Well, it means that in order to justify the same investment in customer acquisition, my expected return needs to be higher than it was two years ago. And so in theory, in my head, what I'm thinking about is. As an industry, we should be spending less if we were disciplined under the principle of ROIC and had a clear point of view.

Because I know that ROAS hasn't gotten more efficient, if anything in the last two years. ROAS has gotten less efficient. So if you have less efficiency and a higher hurdle rate, a higher cost of capital, that should in most cases lead to less media spend across the industry. But I don't know that's really woven into the fabric of how we think about how we spend our money.

[00:09:26] Richard: Right. So what do you think people are, maybe this is a dumb question, but what do you think people are going on then? Like, why aren't they seeing this?

[00:09:32] Taylor: Well, because I think in many cases we still have media spend propping up revenue expectations. Not actually thinking it as in unnecessary of return. So it's like even this is a really hard thing for people to process. Even ctc, media buyers, I'll get in arguments where it's like, hey, that spend isn't profitable.

It's actually deteriorating the company's business. And it's like, yeah, but if I turn it off, their revenue will go down.

[00:09:56] Richard: Yeah.

[00:09:56] Taylor: it's like, oh, okay. Yeah but that revenue is, even though the number at the top is going up, the number on the bottom is going down. And that's actually the point, is that this idea that media dollars or customer acquisition has an obligation or responsibility, To generating a positive return is pretty novel

It's actually pretty new to the system to think this way. And so that's primarily why is that this isn't really the case. And then the other thing is just most media buyers I bet, have no idea how their business is capitalized and what the cost of the capital is that they're spending, such that they could use it to set an appropriate ROAS or CPA target for their business.

They also don't have a very clear view of the L T V. On a net basis, and so the ambiguity around the financial metrics leads to a focus on metrics that are more available, easier to understand, but less useful overall.

[00:10:53] Richard: right? Yeah. This does seem like a good example or rather another angle on one of our core CTC principles, which is to never judge performance by a single metric. And the idea is that ROIC, although of course it is a single metric, it's kind of a scoreboard metric that incorporates all of the other channels into one place.

Whereas again, like

[00:11:11] Taylor: And it also would be,

[00:11:12] Richard: Yeah.

[00:11:13] Taylor: Yeah but you're right. Like you still couldn't use ROIC by itself because ultimately you're playing games in multiple horizons all the time. In other words, I have an obligation to a 30 day PNL and the next five years at the same time, right? And so an investment that may be, may pay off really well on a 12 month basis may be it's deteriorating to my 30 day p and l.

And this is another really hard thing, is that we function in business in Snap. 30 day PNLs that evaluate and assess the performance of my media dollars. And it could be totally true that I could make an investment of capital in customer acquisition that would in a 30 or even 60 day basis, deteriorate the financial view of my p and l and generate a highly valuable return on a 12 month.

[00:12:02] Richard: Right.

[00:12:03] Taylor: both of those things, and that's where it becomes really hard to think in those multiple horizons as a media buyer or as a growth strategist or as anyone who's trying to think about as a founder, it's really hard.

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[00:12:50] Richard: Yeah. So actually let's then kind of tease out one example of where that can happen. Where, so sorry. So, so like the kind of like original. The thing that brought you to this in the first place, which is people overspending relative to the environment. Right? But it's totally possible, and you were mentioning before that you've seen this, right?

Where people's roic is actually better than they think and they should be spending into it, but they don't understand that. So maybe break down what that looks like. Maybe give an example or two and how people can avoid that.

[00:13:19] Taylor: Yeah, so I'll give you, I'll give you a couple. So first, our own brand. Bamboo Earth is one where we are. Suffocating in some ways the opportunity under the reality of our present capitalization. So what do I, what does that mean and how does that relate to Roy? Because we are bootstrapped, we raised a million dollars almost 10 years ago, so like that cash is no longer available to us.

We have to be cash flow positive in Bamboo Earth. And because we're trying to maximize our trailing 12 month ebitda right now, a long-term view. Of investment of capital is not the current financial modus operandi, right? Like we are trying to generate short-term outcomes and long-term outcomes. So basically we're playing this game where every month we wanna maximize the new customer acquisition at breakeven and allow the profit margin then to just grow off of the existing customer base.

O over time, if we were willing to look. A return invested capital model, and we had the cash to justify it. I think there is a very strong case to be made for much more aggressive new customer acquisition that on a longer time horizon would be very good for the business. But we aren't in the position to do that.

And so there's a tension in those ideas all the time. Right. And I think that it sort of warrants this consideration. How you match growth strategy and capitalization. That I would say in some ways for Bamboo Earth is a mismatch. Now it's a mismatch in that we could be bigger, but the reality is like we have a very healthy business and a conservative investment mechanism that we're deploying.

So it's not really a problem, but it is a consideration for an evaluation of the opportunity. And it's what led me to a tweet the other day where I was like, man, you know, what's an inve? An interesting investment vehicle would be if. Said to a business, Hey, here's an idea. I will personally fund your new customer acquisition. I fund 100% of new customer acquisition for 30 days. I get the total capital V value net os of the cohort of customers I generate for six months. After that, they're all yours free money, right? Would you take the offer? Yes. It's because I was thinking about this for Bamboo Earth. Like if I could go to Bamboo Earth and say, Taylor wants to invest his own money, like outta my personal bank account, against this thesis of new customer acquisition, it'd be the best investment vehicle I could find in the whole universe.

Better than any stock, better than any index, even better than my precious Bitcoin, right? Because I know and can control at scale a really positive, high value return in a 12 month.

[00:16:02] Richard: Mm-hmm. 

[00:16:03] Taylor: That's sort of what the way I was thinking about what was happening there. Now, alternatively, on the other side, there are brands where their ROIC is so good that they don't even have any idea of how much. Growth, they're potentially leaving on the table. And so sometimes I'll literally make this graph where I'll calculate their one year return on invested capital, and I'll show the percentage return, and I'll put it next to Bitcoin, Tesla, the s and p 500, Amazon, you know, everybody's favorite growth stocks of the past 10 years.

And look at the like annual growth rate and the investment return of each of them to illustrate like, Hey, you're the founder. This is your money. You have this investment vehicle available to. And you're generating 150% return in a year. Imagine your personal financial advisor offered that to you. What would you do

And you would jump at it right now and that's available to you inside of your business. Now of course, there's more complexities than that because there's inventory and there's you know, all sorts of operational requirements that don't just allow you to endlessly invest in something. There's also degradation as you scale and lots of things to consider.

So it's important to not be frivolous about this discussion, but it is a different way of considering the problem.

[00:17:15] Richard: Right. Yeah. I think like one thing that you talk about a lot that's interesting is the idea that like, at a certain point, your business is something where you're putting $1 in and you're getting a dollar 50 back, and that's pretty incredible. And it's easy to see that as, it's not like you put, you know, it's not like playing the slot machine or whatever, or like buying a stock and watching it go up and selling it or whatever, right?

There's all this work that goes into it, so it's easy maybe to lose sight of the fact that this is actually an asset that is, Significantly for you after a certain period of time. So, okay, so one thing we also discuss a lot is the idea of setting your targets or setting your kind of main goal based on what you want to do with your business, right?

So you wanna grow top line revenue or grow profit, like that's usually the the dichotomy I guess, that we talked through. However it sounds like Roy could be or maybe is the target metric that you wanna go for. If what you're trying to do is sell your. Eventually as a something to point at in terms of something investors should look at if they're considering a sale.

[00:18:18] Taylor: so well. So I would say that it is the right metric to look at if you have the longest view of ownership of your business. So if you were trying to sell the business in the next six to 12 months, it's not going to be useful because it's going to be deteriorative to your short term ebitda. But one of the things that I actually think I've come to believe is that I don't think that revenue and profit should grow in this perfect.

Linear relationship throughout the entirety of your business. I think there are periods of investment and periods of realization of investment. And especially early on you are not in the realization of investment phase. And so I think there's always this question at which in the begin, eventually you have these cycles where you're realizing.

And spending, realizing return and investing. And then it becomes, you can grow it 20, maintain that sort of healthy 20% investment over time. But in the beginning, when you're buying those first cohorts of customers, there's no realization yet. It's all investment. And this is really true for the first, you know, in, in many ways, 2, 3, 4 years of building and growing a business.

And you can push that horizon out further, the bigger you're willing to get Now. I think what's, this could be a very triggering conversation that I could see receiving critique because a lot of people did this in the last era. And that was a lot of the thesis that existed. And the problem was, there was ne the realization that they modeled never came to be.

And I think that would be, it would be, I think, frivolous of us to throw the whole premise out, throw the baby out with the bath water and get rid of the entire premise of ROIC because we were bad at modeling. This is an important thing, is that because we were over aggressive in the L T V and the marginal gain in efficiency, you know, the economies of scale we presumed would exist, doesn't mean that future value isn't real, right?

It just means that we modeled it poorly in the first era. And so I think we have a better understanding now of the economics of e-commerce returns such that we can model in maybe they aren't software level returns, you know, five years from now. Like I think everybody had maybe hoped, but there still are good returns that warrants continue to investment and scaled investment with the delayed or latent value capture.

I think we just gotta be better at the consideration for all the costs.

[00:20:33] Richard: Yeah. Well, I was gonna say, I think that there's a pretty significant difference between, you know, a Silicon Valley darling tech startup that doesn't have any, basically doesn't have any road to profit, where the modeling of the return on investment was like, well, the total addressable market for this is that, and then there was a pitch deck or whatever, and they all jumped on it.

Whereas what we're talking about here is this is modeled based on. Hopefully a couple years at least, or more of customer l t v information. So the, in that sense, like the ROIC number is like, we can not guarantee, but we are pretty certain based on historicals, based on what we've built, that this is actually a possibility.

Like this is, it's not, you know, it's not made up in the

[00:21:15] Taylor: And that's a great call out. And so here's something I would say, Cory, turn the TikTok camera on Bill Simmons tagline there. Okay. If you're an enterprise company, if you're greater than 50 million, this is actually a really important conversation for you because this moment right now, Is when you are actually capitalizing in a position to take a longer view on, the return on investment of your capital and that cost of capital, you might actually have had access to cheaper capital.

You might have more of it available to you. Whereas the new players in the space, those challenger brands that are coming trying to bite at your heels, cannot justify the same level of investment at their current return. That. And so there is a massive competitive opportunity in every bit of digital real estate that exists from the search engine results page that we're competing on to the Instagram feeds that we're all competing in.

And there's an opportunity right now, and I think you're gonna see this, where the big players, the incumbents can throttle that spin. They can take that roik down from 70 to 60 to 40 to 30% maybe in a year in a way. Under capitalized or people running debt financing or people who are bootstrapping a business will not be able to afford that growth.

They just flat out cannot capitalize it right now. And so you will widen the margin in your competitive space if you make that decision. And if I was in a, in, this is how we're even advising some of our enterprise companies right now is to look around at the landscape where we just came out of a thousand upstart businesses trying to slice you to death or nip at your heels in every available.

And to say this is the moment where you leverage your position in the market, your existing customer revenue base, to really put pressure on a lot of those brands because it's really hard to capitalize e-commerce right now.

[00:22:58] Richard: Right. In many ways, it's the perfect opportunity for them to do exactly what you were talking about before, which was to look at that ROIC number and ask yourself if there isn't an enormous opportunity here to push into it and maybe be those brands who are continuing to spend, because that would make sense.

[00:23:11] Taylor: That's right.

[00:23:12] Richard: All right. Do you wanna hit anything else?

[00:23:15] Taylor: Nope. I think that's a good spot to end. 

Hey folks. Thanks again for listening to the E-Commerce Playbook podcast. If you wanna watch the video and learn more about ROIC, the video that we mentioned is live on YouTube right now, and we'll put a link in the show notes so you guys can check that out. Also, if you want to drop us a note, give us some feedback, ask a question, you can always reach us at

That's Have a good one, guys.