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09/17/2014

Read This before You Talk about ROI

Todays post is by Darrin Fleming, managing director at Stratavant, which provides strategic marketing and value-based sales and marketing tools for B2B companies. Read the original post here on the Stratavant blog (this version has been slightly edited and is used here with permission).  

How frequently do you use the term “ROI” (return on investment) in front of customers and potential buyers?

I frequently hear sales and marketing professionals talk about ROI inaccurately. In a casual conversation, people might give you the benefit of the doubt and have faith that you know your stuff; however, if you’re making a formal presentation or having a serious conversation with a prospect who’s well versed in financial terminology, misuse of the term could obviously leave a disastrous impression of you and your company on your conversation partner.

For example, I hear both sellers and marketers say things like this all the time: “Your ROI is $100,000.” Here’s why this is incorrect: if you’ve ever expressed ROI in dollars, you’ve likely confused it with net present value (NPV). NPV answers this question: “What is the cash benefit minus the expenses required to achieve the benefit worth in today’s dollars?” ROI is not a dollar amount, it’s a percentage. Specifically, it’s a percentage that represents what your net gain will be on any investment.

In other words, if your benefit is $100 but you spend $50 to achieve that benefit, your ROI is 100 percent.

NPV is still an important consideration because the term takes into account the value of a dollar over time. Let’s say you invest $100,000 with an expected return of $120,000 within the next two months. That investment would be worth more to you than an investment of the same amount of money with an expected return of $120,000 five years from now. The reason is that $120,000 is worth more two months from now than it will be five years from now.

I’ve also heard sellers and marketers say things like this: “You’ll get a six-month ROI with our solution.” Here’s why this is incorrect: if you’ve ever expressed ROI in terms of a period of time, you’ve likely confused ROI with payback period. Again, ROI is always a percentage, never a period of time. If I invest $100,000 in a project, the payback is the length of time it takes for the cumulative benefits to become greater than the cumulative investment. Payback period is always measured in time (typically months).

In my first job out of college, I was an economic evaluator. That meant part of my job was to evaluate capital investments and decide whether they represented a good investment for the company (including evaluating the payback period, NPV, and ROI). So that was where I learned a lot about financial analysis and how to talk about numbers with chief financial officers.

The magic of these financial metrics is that together they give you a great picture of the impact of an investment. Essentially, you can measure ROI on anything. The formula is simply to subtract the cost of your investment from the gain of your investment, and divide it by the cost of your investment. That’s how we’re able to build ROI calculators for so many different scenarios for our clients.

People confuse financial terms all the time, so if you’ve gotten this one wrong in the past, don’t feel bad – just don’t let it jeopardize your ability to close a deal.

What’s your understanding of the term “ROI,” and how frequently does it crop up in your discussions with prospects and clients? Share your thoughts in the comments section.