ROii – New way to account for internal Investments
The classical definition of ROi (Return on investment) is “the amount, expressed as a percentage, that is earned on a company’s total capital calculated by dividing the total capital into earnings before interest, taxes, or dividends are paid”
This is the most common method when companies make their investments. But this method is primarily used when companies make external investments. There is no standardized method for companies to calculate the same when it comes to internal investments. Here we are unveiling our definition of ROii. We hope to save companies millions of dollars of wasteful expenses, improve the bottom line and increase market capitalization.
Let’s answer all the questions to reveal the truly transformational value of this concept.
What is ROii?
Return On Internal Investments (ROii) is the method of calculating the true returns of an internal investment via a project, program or initiative. Whether it is a marketing program, an IT project or a real estate consolidation initiative. Each of these projects are technically nothing but internal investments. Today, in many companies, they are treated as projects and hence they become just expenses. Once companies start treating all internal projects as investments, then the managers will start looking for returns on these internal investments.
Why should companies calculate ROii?
Today companies are reeling under various pressures. Be it technology driven or competition which is hurting the bottomline, every executive is under severe pressure to deliver better results with available budget. Many companies execute 1000s of projects but when you probe how many of these projects are truly directly connected to the corporate goals, there will be absolute silence. The CEO, CFO and other CXOs are constantly pushed by the stock markets to focus on a quarterly basis instead of an annual basis. The rest of the company are not focused on revenue and bottom line goals directly. This disconnect is so dangerous that even very established companies tend to fail to realize expected benefits from internal investments.
Where is ROii really useful?
ROii is very useful when companies are under severe margin pressures like retail or airline companies. In these companies, the CXOs will be constantly on the lookout to save money. Not only that, it is about directing the limited resources in the absolute right direction rather than wasting them on wrong projects. Even governments and larger organizations can use this method and improve their success in delivering the best results.
When it really hurts?
In large companies which have many products or lines of business and multiple subsidiaries working in multiple countries, the probability of a team which is about to execute a project, to be aware that a similar type project have been executed in some other subsidiary is highly unlikely. In such situations, the cost of “reinventing the wheel” is very high and extremely wasteful. These types of expenses lead to a draining of the bottomline as well as hit market capitalization.
Who should use this?
Ideally, the whole organization should be aware of the ROii methods rather than some people. At least all managers of the company should be well versed with ROii so that wasteful projects are not even brought up to the committee for investment.
Which elements affect ROii?
Primarily 3 kinds of elements affect the calculation of ROii. Every initiative or project boils down to people, time and money. People resources can be either internal employees or consultants from outside the company. Apart from the people issues, the time expectations come to the fore. Have the proponents of the projects calculated the right timelines, have they added adequate buffer for unexpected schedule overruns, etc. Finally, about money. Is there enough money to execute the project to deliver expected quality? Is there a proper cash flow management built into the project plan? Once you have these answers, it becomes meaningful to figure out the ROii.
How to calculate the ROii?
ROii is calculated based on the total expected value (EV) and the cost of all expenses (CE) on a given initiative or project.
The formula will be ROii = (EV-CE)/CE * 100%
A marketing campaign is expected to increase the sales by $1,500,000.
The cost of running this campaign is $550,000
Then the ROii = (1,500,000 – 500,000) / 550,000 * 100% = 172.72%.