Return on investment, better known as ROI, is a key performance indicator (KPI) that’s often used by businesses to determine profitability of an expenditure. It’s exceptionally useful for measuring success over time and taking the guesswork out of making future business decisions. The ability to calculate return on investment is extremely valuable for any business, regardless of size or industry.
After all, knowing if you’re getting your money’s worth is a basic concept that both individuals and businesses need to understand in order to strengthen — rather than hinder — financial success. By calculating ROI, you can better understand how well your business is doing and which areas could use improvement to help you achieve your goals.
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How to calculate ROI
At first glance, ROI calculation is relatively easy. Simply divide the gains from your investment by your investment’s cost and you have your answer as a percentage or ratio. If you calculate a positive number, you gained a return on your investment; if it’s negative, you lost money through your investment. For example, let’s say you’re a mid-size company that’s decided to purchase a new piece of software to boost profits. So, your ROI formula may look something like:
(Financial gains after software purchase – cost of software) / cost of software
This is a pretty straightforward formula that can be applied to practically any business department, no matter if it’s HR or marketing. However, determining ROI can be a bit more complex than a simple math equation. When calculating ROI, it’s important to take into consideration other factors that may be less obvious such as time, hidden costs and fees, and even emotional factors such as stress. All of these things can significantly impact your ROI. Let’s go back to the software return on investment example. Your “cost of software” shouldn’t just include the hard expense of the program — it can also include factors such as the time you spent exploring software options, training time for employees, and other hidden “costs”. Being mindful of these factors will help you more accurately measure your return on any investment.
How to use ROI
ROI calculation gives you numerous advantages. The first and most obvious? Knowing your investment’s impact on your business. If you determine you’re wasting money on an expense, it’s a no-brainer that something needs to change. Many types of ROI can help you make important business decisions, including but not limited to:
- Purchasing a new tool: Adding new tools, equipment and products to your business can be a step in the right direction, but they must be purchased wisely. Calculating the ROI on an equipment purchase allows you to gauge how valuable your new tool is and what types of equipment to invest in the future.
- Hiring new employees: Is your new employee increasing or decreasing your business’s profitability? Tracking the return on investment of your employees will help you better understand which kinds of people to hire (or fire).
- Adding a new department: Just like hiring a new employee, adding a new department to your business can be a smart move if it helps increase profits. You don’t want to play a guessing game here — calculate return on investment to determine the profitability of your departments and identify opportunities for expansion.
- Sales strategies: Did a particular strategy help lead to a sale? Tracking which kinds of sales strategies drive results will give you an idea of how to boost profitability for your business.
ROI & Marketing
In addition, knowing how to calculate ROI can be especially beneficial for marketers. The objective of marketing is to get the word out about your product or service, meaning your efforts have a direct impact on the success of your sales. You can calculate marketing return on investment to determine which campaigns are giving you the greatest return for your business. For example, you may launch both online and offline campaigns to promote an upcoming event that your business is hosting. After the campaigns have run their course, you can evaluate which one yielded the greatest results by calculating ROI. A formula for each marketing ROI calculation may look something like:
(Revenue gained from registrations – cost of marketing campaign) / cost of marketing campaign
By correlating event registration with your respective campaigns, you can see right away which one gave you the greatest return on your investment and further build out that campaign for future events.
However, the marketing ROI calculation process may be a bit more complex than calculating ROI for something more concrete, like a new piece of equipment. The process becomes even more difficult when offline campaigns are involved. Fortunately, there are plenty of tools out there that can help you achieve a more accurate marketing ROI analysis.
Some helpful tools you can leverage to calculate marketing ROI include:
- Google Analytics/ Ads: Using Google Analytics and Ads (formally Adwords) is essential for marketers who want to measure the success of their organic traffic and online campaigns. By gathering and analyzing data about your digital audience, you can gauge the success of your campaigns and make adjustments as needed to improve profitability.
- CRM software: CRM software such as HubSpot and Salesforce helps businesses maintain healthy relationships with customers by streamlining interaction and gathering important customer data. The information gathered through your platform of choice can help you determine which marketing efforts and sales strategies yield the greatest results for your business.
- Call tracking: Call tracking software uses online and offline campaign tracking to help determine which are leading to phone calls and conversions, allowing you to pivot your strategy accordingly.
Using marketing ROI to your advantage
Calculating your marketing ROI gives you valuable insight that you can use to advance your marketing strategy. These are just a few things you’ll learn by measuring your marketing ROI:
Where to spend your money: Perhaps the most obvious insight you’ll gain through measuring ROI in marketing is where you should be spending your money. If you discover that one particular segment of your marketing strategy isn’t yielding much of an ROI, you can better allocate your funds according to what works for your business.
How to pivot your marketing strategy: Similarly, calculating marketing ROI can help you adjust your strategy according to customer behavior. You don’t necessarily have to focus on revenue, either — for example, if you’re trying to boost your social media following, you can calculate ROI to determine the success of your efforts.\
Which tools to use to help your marketing succeed: If one particular marketing tool helps increase profitability for your business, you’ll feel confident in spending your marketing dollars (and time!) there.
The bottom line
It doesn’t matter if you’re a hiring manager, a director of marketing or a CEO: Practically every business decision requires knowledge of ROI. If you’re not sure whether or not your efforts are yielding results, how can you properly optimize profitability? Understanding the importance of ROI is crucial for any business to succeed.