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Investing, whether it’s in another business, project or asset is something all businesses do. As a small business owner, you need to be sure that the investment you make will pay off, usually in monetary terms. When looking to invest, you will normally have more than one item to compare, all different prices and costs. To be able to effectively compare them, you can start with using the Return on Investment (ROI) of each.
When investing in, or looking for investment in your next IT project, or any project for that matter, you will need to calculate ROI and what factors to consider when making investment decisions.
ROI is calculated by taking the gain on an investment, subtracting the initial investment amount and dividing this number by the original investment amount. If calculated correctly, you will get a decimal that can be multiplied by 100 to get a percentage. If you take this percentage, and multiply the original cost by the percentage, you will get your total gain or loss.
To calculate ROI of a product, project or anything that brings in direct income – sales – to your company take the amount of money you will save or make over the life of the product and subtract the cost of the product over the total expected life. Divide this number by the cost to get an ROI in decimal point, which should be multiplied by 100 to change it into a percentage.
ROI in example
Assume you’re looking to invest in a new CRM system based in the cloud that costs $50.00 per year and plan to use it for three years. You also estimate that by using this software, you will save $75.00 per year. With these numbers your calculation would look like this:
Cash saved: 75 x 3 = $225
Cash spent: 50 x 3=$150
ROI= (225-150)/150 = 0.5 x 100 = 50%
This means that your ROI will be 50% of your initial investment, in other words, you will make $75 (225-150).
Why ROI is important
ROI, in percentage form is one of the most important factors to investors, as it gives them a number with which they can compare other investments. For example, when comparing two investments, one that returns $5,000 and one that returns $3,000. On these numbers alone, it seems the $5,000 return is the better. Looking into the costs however, you find that $5,000 return carries a cost of $4,000, while the $3,000 investment carries a cost of $1,800. The ROI on the bigger investment is lower, meaning you end up making less money.
ROI is a simple calculation that helps you determine the bottom line of different options. When investing in a project or product with established, historical ROIs, be aware that these are based on past measurements, not future measurements. This means that you may not achieve the same ROI. If you’d like to learn more about technical products and services that can help increase ROI, please contact us.
Published on 8th August 2012 by Jeanne DeWitt.