Question

Topic: Research/Metrics

Calculating Net Roi

Posted by Anonymous on 11/8/2010 at 3:19 PM ET 500 Points
Hello Marketing Profs~

Need your expertise here. I am trying to calculate net ROI based on web leads generated and need clarification on a point. First, some background:

Lets assume ABC Company spent $115K on marketing expenses in 2009. This figure is for PPC marketing as well as the salary of the marketing manager. From the web leads generated in 2009, sales generated from those web leads as well as subsequent sales through 2010 totals $1.1M. Assuming a 30% GM, those initial leads have generated $330K. Therefore the ROI (from my perspective) would be 187%.

My question is this: do you think any other costs should be included in the marketing expenses cost? I.E. sales payroll costs, rent, utilities, etc. If so, which ones and why?

Thanks in advance.


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  • Posted by michael on 11/8/2010 at 4:23 PM Member
    You're trying to figure the ROI for a specific campaign. I'm assuming you'll always need the marketing people so that should not figure into your costs.

    On the other hand, if you hire an outside agency/person to handle it...THAT would go into the cost.

    Michael
  • Posted by michael on 11/8/2010 at 4:23 PM Member
    You're trying to figure the ROI for a specific campaign. I'm assuming you'll always need the marketing people so that should not figure into your costs.

    On the other hand, if you hire an outside agency/person to handle it...THAT would go into the cost.

    Michael
  • Posted by Chris Blackman on 11/8/2010 at 7:07 PM Accepted
    Interesting question. Sure, you should be including all the costs of operating the marketing function within the business, and then dividing that cost into the incremental income generated by the results of the whole marketing function.

    Which would sales payroll costs, rent, utilities, recruitment, consumables, communications, share of IT expense, etc. etc.

    EXCEPT... If you're expecting the marketing function to show an ROI above some predetermined 'hurdle rate' and you're sharing a whole bunch of other costs that would have to be paid anyway (the building rent and utilities, for example), you have to be careful what you do with that metric.

    SAY for example the hurdle rate is 25%. Meaning the company wants to make 25% ROI on any investment it undertakes, or else it will cancel that program and stop making that investment. If the Marketing ROI is slugged with those fixed costs and those bring it below the hurdle rate, what next? Close the marketing department? Then which department bears those fixed costs? Because they won't necessarily go away simply because you close Marketing down.

    A better solution is to acknowledge that Marketing shares part of the fixed cost burden but that is in itself a fixed cost.

    Then ROI can be measured on an incremental expense/incremental income basis, campaign by campaign. Now this means that management will likely be looking for a higher average hurdle rate. But the decision making will be aligned more towards which campaigns worked, which campaigns to cut, which activities to expand - rather than analysing the investment effectiveness of the department in general.

    Hope that makes sense.

    ChrisB

  • Posted by mgoodman on 11/8/2010 at 7:54 PM Moderator
    ChrisB gave the answer I would have given, except he was very succinct and clear, and I'm not sure I could have done that.

    You probably want to consider the INCREMENTAL profit that resulted from the INCREMENTAL marketing spending. Anything that would remain if the program spending went away should not be counted in the calculation. If the marketing manager's salary would still be there, for example, then it shouldn't be included in the incremental investment.

    Hope this is clear enough. A lot of this depends on what you're expecting to do with the ROI calculation. The specific methodology isn't that important as long as you can make smart investment decisions based on the information, and that you're looking at apples and apples when you consider alternatives.
  • Posted on 11/9/2010 at 3:27 AM Member
    Sales ROI is a popular terminology in big corporations or for people who invested in the stock market trade. The calculation is taken against the probable profit from buying stock shares and identifying how much these stock shares can generate profit.

    The first formula worthy of discussion is the formula of Simple Return. According to this formula, the Return on Investment or Sales ROI is equivalent to the net proceeds plus any dividends divided by what you paid minus 1. Here is an example. Let us say that you bought 100 stock shares from a telephone company for $10.00 USD per share. Other than that, you paid a commission worth $5.00 USD. The total equivalent or cost of this investment is $1005.00 USD. This is because you have to multiply the number of shares to its price per share and then add the commission.

    After a few years, you decided to sell your stock shares for $15 USD each. Add to this the $5.00 USD commission. If you receive $2.00 USD per share, your total received dividends is 100 shares multiplied by $2.00 USD equals $200.00 USD.

    The final calculation is this: $15.00 USD X $200 .00 USD = $3000.00 USD. Subtract $5.00 USD for the commission. This gives you $2995.00 USD for your net proceeds.

    Finally, you use the very first formula mentioned above. Net proceeds + dividends / what you paid for - 1.

    In our example: Simple return is equal to: $2995 (net proceeds) + $200 (dividend) / (Total expense paid) $1005 - 1

    = 3195 / 1005 - 1

    = 3.179 - 1

    = 2.179 or 217%

    This example may be very big. In the average, people only receive about 20% to 30% Return on Investment. Remember, knowing how to calculate Return of Investment based on this formula is only a guideline.
  • Posted by koen.h.pauwels on 11/9/2010 at 5:41 AM Member
    Hi Stephanie,

    It all depends on whether you believe that the $330 K margin was only due to the $ 115 K spend on the marketing department. If it is not (my hunch), you should indeed include sales payroll, rents, etc.

    As stated in the previous answers, it all comes down to what is incremental margin and cost. For specific marketing campaigns, I warn against including assigned fixed costs. However, when you take the whole marketing department and the margin its leads generated, you do need to give other departments/costs proper credit. Otherwise the CEO wakes up to find that her 6 departments have high ROI each, but the company is loosing money :-)

    Cheers
  • Posted by koen.h.pauwels on 11/9/2010 at 5:43 AM Member
    Quick note on your ROI calculation: how do you get 187% ? In my calculation,

    ROI = (margin - marketing cost) / marketing cost
    = $ 330 K - $ 115 K / $ 115 K
    = 100 %

    This is the formula in eg Lenskolds ROI book; I do realize that different companies use different formulas, so am interested in yours

  • Posted on 11/9/2010 at 2:43 PM Accepted
    I think bad decisions are made when fixed costs are allocated to new ventures. The fixed costs of the marketing department are sunk costs: rent, utilities, IT, etc are going to be there whether or not you took on this new campaign. I believe revenue generated less the variable costs associated with this campaign are the measurements upon which you should judge failure or success.

    This assumes everything is within a relevant range, that you don't require expanded physical facilities or support personnel to take on the new campaign. Any additional resources required by the new campaign should be included.

    I have seen clients stay away from activities that have a great contribution margin by loading their analysis with fixed overhead, even when there was excess capacity in their facility.
  • Posted by mgoodman on 11/10/2010 at 11:49 AM Accepted
    You: Boss, I have an idea. I will invest in the online advertising campaign myself. You won't have to pay me or fund the advertising at all.

    Boss: Are you crazy? Why would you do that?

    You: Because I can make more money that way than by cashing my current paycheck.

    Boss: Huh?

    You: I'll get my reward when the program works and I recover the cost of the advertising, my current salary, and the biggest bonus ever ... AND you'll realize a greater ROI than you do now ... actually it will be infinite!

    Boss (now very curious): OK. Explain this to me one step at a time ...

    You then track him/her through the ROI assumptions and calculation.
  • Posted by mgoodman on 11/10/2010 at 1:16 PM Moderator
    If you're generating that kind of ROMI, I will invest in your marketing program and take the deal from my script! And I'll pay you more than you're making now.
  • Posted by Chris Blackman on 11/10/2010 at 6:35 PM Member
    Sorry Techgirl, I wasn't monitoring the thread. You asked: "Can you elaborate on the incremental expense/incremental income basis?"

    If you're mainly using PPC you should have a fairly good idea of which clicks resulted in sales and which didn't. So what we are really looking at the the sales revenue generated by a particular click or series of clicks (or millions of clicks) and the cost of those clicks. I call this 'incremental' revenue because I am assuming if you turned off that advertising campaign, the sales revenue would immediately stop as a result.

    You would need separate landing pages per campaign or per advert, and discrete sales funnel flows through your site to be absolutely sure what you are measuring is, in fact, an incremental revenue flow, as distinct from a sale that has occurred through, say, an organic Google search result.

    Hope that helps.

    ChrisB

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