What Is Return on Investment (ROI)?
Return on Investment is the return an investor receives relate to the investment they gave. Return on Investment can be shortened to ROI. The returned sum is expressed as a percentage to show the success of an investment. To calculate ROI the returned sum is divided by the cost of the investment.
How to Calculate ROI?
Calculating ROI is straight forward to do and the formula is simple to follow. For instance, if an investor paid $5,000 to invest in new technology and received $7,500 after the product went to market, their return would be $7,500 – $5,000 = $2,500. Their ROI would then be $2,500/$5,000, which is an ROI of 50% on the original investment.
Why is Return on Investment Important?
Return on Investment is huge when you look at what it can achieve for a company. ROI calculates the success of an investment but the investment doesn’t have to be external. Once you have calculated the success of an investment you can optimize to improve this in the future. Here are just a few examples of where ROI is a great indicator of success within a business.
- New Product Reporting: ROI can equate the success of investing in a new product to market by analyzing how much revenue it generated against the cost to create, promote, and sell.
- Smart HR: Many companies hire salespeople but find it hard to track whether they are performing well. One way to track performance is to find their ROI in relation to the sales they brought in compared to their salary.
- Integrated Tracking: It can be hard to track the success of a sales or marketing project but ROI can change this. ROI looks at the cost of marketing a product compared to the sales that came from that marketing to find out if the campaign broke even, surpassed expectations, or didn’t perform well at all.
Return on Investment Example
The above three reasons why ROI is important are great examples of Return on Investment so let’s look at them closer to see how they are calculated.
- New Product Reporting: New products can be costly to research, create, promote, and sell so it is important to track costs. After placing the product on the market for the first year it is important to look back to find out if you have received a return for your investment. For example, if a new product cost $25,000 to research, create, promote, and sell and the company made $32,000 in the first year in sales then the ROI is $7,000/$25,000 or 28% (don’t forget to calculate your return which is $32,000 – $25,000).
- Smart HR: You might hire a salesperson for $100,000 a year but wonder if they are worth the money. After a year of work, you can run a report to see the sales that the salesperson have brought in. If they have brought in $250,000 in sales you have found a superstar whose ROI is 150% ($150,000/$100,000).
- Integrated Tracking: A marketing campaign can be hard to track if a company still uses traditional channels but if you are tracking a digital marketing campaign it is definitely easier. If you spend $2,500 on a marketing campaign and it results in sales of $2,000 your ROI will be -20% (-$500/$2,500) which is not good news for your marketing department!