Yesterday I was chatting with a young friend who was incredibly excited about a new marketing program she’d launched for her company. She’d spent about $65,000 and brought in almost $130,000 in new revenue.
She proclaimed, “My campaign generated 100% ROI!”
Whoops. I hated to rain on her parade, but she was making a major mistake – she was comparing her investment ($65,000) to her gross revenue ($130,000). In her mind she had earned the company another $65,000, or 100% of her initial investment. She thought she’d doubled their money.
In poker, her calculation would be accurate. But in business, you have to consider what it costs to produce whatever it is that you’re selling and subtract that cost from your gross revenue.
In other words, it’s a good idea to calculate your marketing ROI based on your GROSS PROFIT for the product/service you’re selling, not on your GROSS REVENUE.
ROI calculations for marketing campaigns can be complex — you can have many variables on both the profit side and the investment (cost) side. But understanding the formula is essential if you need to produce the best possible results with your marketing investments.
In simple terms, the best formula for marketing ROI is
(Gross Profit – Marketing Investment)
Marketing Investment
Here’s how this common mistake can get you into trouble. Let’s say that her company’s average profit margin for this type of product/service is 50%. That means that only 50% of that $130,000 in revenue was gross profit; the other 50% was spent to build the products she was selling.
In this scenario, her true ROI is actually 0:
($65,000 – $65,000)
$65,000
Unfortunately, she would have been better off putting the $65,000 she spent on media buys in an interest-bearing checking account rather than spending it on this campaign. In fact, in this scenario, the company most likely lost money on this campaign, as the gross profit figure hasn’t yet accounted for other expenses.
Marketing campaigns are investments. And like any smart investment, they need to be measured, monitored and compared to other investments to ensure you’re spending your money wisely.
With solid ROI calculations, you can focus on campaigns that deliver the greatest return to your company regardless of which product or service you’re selling. After all, you probably earn more profit in some areas than in others.
Using ROI also helps you justify marketing investments. In tough times, companies often slash their marketing budgets – a dangerous move since marketing is an investment to produce revenue. By focusing on accurate ROI measurements, you can help your company move away from the idea that marketing is a fluffy expense that can be cut when times get tough.
If you’re not sure how to calculate your profit, here are two more formulas:
- Gross Profit = Gross Revenue – Cost of Goods Sold [here's an article that shows you how to calculate COGS]
- Gross Profit = Gross Revenue * Profit Margin (the % of your revenue that is actually profit)
For detailed guidance, the below demo will walk you through the steps to calculate ROI using three different methods: using cost of goods sold, using customer lifetime value, and using gross profit percentage.
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I dont know how to calculate ROI . I am a sales person sence 2007 these days i am facing to many chalange during intervew when intervewer asked me what is RO|I and how to calculate .
How can i answer these question practicaly.
Help me
thanking you
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There is something I dont understand from this ROI calculation upthere still. I mean,
65 000 divised by 65 000 is not 0! Its 1
Now in percentages 1.00 is 100 % right?
Please help me to understand this Thanks
Jonathan, you are right that 65 000 divided by 65 000 is 1, but the formula states that you must subtract investment from your PROFIT, then divide that number by your investment again. This means that you must first calculate profit.
(130 000 Gross revenue – 65 000 Cost of investment) = 65 000 profit
(65 000 profit – 65000 investment) = 0
Zero divided by any investment amount is going to be zero.
Cheers.
I feel you’re double counting costs.
If you invest $65,000 into a venture and it makes $130,000, then your return on investment is 100%.
ROI is calculated: (Revenue – Investment) / Investment
The way you seem to have it set up is $130,000 in revenue, $65,000 COGS and then an ADDITIONAL $65,000 in other costs. If that’s the case, what you have written is correct. Otherwise, the only cost in this scenario from what your example stated is $65,000 and the gross profit is $65,000 and you divide this by $65,000 (initial cost) and that = 1 or 100%.
can any body give explanation on why they took (profit-investment) instead of (revenue-investment)
This article is incorrect. The numerator in an ROI calculation should be the REVENUE from the investment minus the COST of the investment, also known as the PROFIT from the investment. By suggesting the numerator should be PROFIT minus COST, the author is double-counting the costs.
Perhaps the author means that the numerator should subtract both DIRECT costs (the costs directly attributable to producing goods and services) and some allocation of INDIRECT costs (the costs not directly attributable, such as administrative salaries and office lease expenses).
The author also likely doesn’t understand the definition of GROSS REVENUE, but that’s a discussion for another time.
Matias, Chaitu and Act – This article was meant to teach elementary marketers without a financial background who often think of ROI in terms of (top line sales – marketing investment, i.e. campaign costs) / (marketing investment) to think of calculating ROI at the gross profit level instead of the top line revenue level.
And, gross profit would have already factored in gross revenue.
The formula, as described in the above scenario, is correct: a marketer who spends $65,000 in media buys to produce $130,000 of revenue, of which only $65,000 is gross profit, is not earning a true 100% return on investment.
hello,
If the investment period is 10 years, then do i need calculate the gross profit ( 10 years) / investment as its ROI ?
If i need calculate the ROI of the 2nd year, how should i select gross profit? the 2nd year’s or add 1st year’s ?
do i deduct biz tax & CIT ?
The person who wrote this article must not have a background in finance.
As a finance major and auditor I can confirm that:
ROI = (Revenues – Expenses) / Expenses
So in this example ROI=(130,000-65,000)/65,000 or 100%
If the project takes place in a period that is greater than a year you will have to use present value calculations to discount the return to a more realistic value. (Following the whole idea of money is worth more now than it is to me in 5 or 10 years..). You can find on-line calculators to do this for you or hire a finance grad like myself, haha.
Hey Simon,
Actually the author of this post is correct in their calculations.
They are taking into account the profit margin which is 50%. So it does come out to 0. You are not.
Profit Margin- $130,000 * .5 (or 50% which is pretty much Cost of Goods Sold)= $65,000
$65,000 is your Gross Profit minus Cost of $65,000 which will end up being zero.
Still have a way towards earning that degree, huh.
If you think it through the author is correct. In the situation outlined the $130,000 is sales $65,000 is marketing expense plus $65,000 in production cost. So the total expense is $65,000 + $65,000 = $130,000. That means total expense $130,000 – $130,000 / $65,000 = 0!
ROI is calculated like this (Net Revenue – Net Expenses)/Net Expenses * 100. So she did infact make 100% ROI on her money if $65000 was her net expense.
To Simon and everyone else that claims this calculation to be incorrect:
The calculation Simon provided is the almost the same as the one in the article where he said-
“As a finance major and auditor I can confirm that:
ROI = (Revenues – Expenses) / Expenses
So in this example ROI=(130,000-65,000)/65,000 or 100%”
The article states-
ROI = (Revenues – All Expenses) / Marketing Expenses
(Because we are calculating ROI for a marketing campaign)
Many of you seemed to have missed the fact that the article presumes that 130,000 was the gross revenue (not gross “profit”), and that the production expenses were 65,000 (presumed for the example but not accurate of the case subject). After the “production expenses” the author added “marketing expenses”, an additional 65,000. So the total expenses were 13,000. So if the “total expenses” are 13,000 then in Simons calculation we have
ROI = (Revenues – Expenses) / Expenses
or
ROI=(13,000-13,000)/13,000
which STILL solves to 0!
I don’t know what the heck the calculation for ROI should be, but you should read an article at least twice before leaving a comment or dissing others. (i.e. “The person who wrote this article must not have a background in finance.” – not cool dude)
Thanks to the author, you have helped me a lot.
CORRECTION: several times in my rant I wrote “13,000″ when I meant “130,000″
So – all very interesting and for the record I am in the authors and Alex’s camp. So let me pose a far more challenging question. How do I calculate ROI on a branding campaign ie I cant accurately measure what sales arrived because of a specific campaign as it was a campaign to create awareness not a call to action. To be really clear lets say 1 ad is call now for a 5% discount and the other is “hi this is our company and this is what we do ” The first you can measure, the second not so easy. How do I get the $$ for the second from the CFO ?
Thanks for the write up. I am currently reading a book where he talks about figuring out what products to sell.
He looks at the ROI of a campaign, but didn’t explain how to calculate it. This helped.. even though in the book he did not take his expenses into the equation..and just did profit/expenses. I think this is a more accurate way of doing it.
He got a 3.75 ROI and with your formula it gave me 2.75.
The ROI formula is: (Revenue – Total Expenditure) / Total Expenditure. Total Expenditure = Marketing Investment + Production Cost.
The author states that the marketing investment $65,000 and the revenue is $130,000. The product cost is $65,000 as well which means total investment is $130,000. When you plug these figures into the formula I stated above you get 0.
ROI should always be calculated using the total expenditure, not just marketing expenditure. In business you will always have the operations process whereby goods are created (productions costs) or services are rendered (labour costs). Marketing, though a value added service may not always be required. You can spend $65,000 to build a product and sell it to an available buyer for $130,000 while spending $0 on marketing. But what you can’t do is spend $65,000 on marketing and $0 on production cost because you have no product to sell unless you got the product for free or it appeared out of thin air. “Marketing ROI” is a misnomer and misleading unless you attribute it to the additional revenues gained by marketing activities.
I am seriously troubled by the commenters on this post who think Revenue and Return is the same thing. These are the kinds of actions that undermine the credibility of marketing with the executive suite. The metric is ROI and the R stands for Return. You have to subtract Cost of Goods or Cost of Revenue to get to Gross Margin or Contribution Profit depending on what you call it – this is the money left over after delivering the product or service.
You then also have to subract the cost of the investment to get to the Return, this divided by the investment gives you the ration or Return to Investment = ROI. An ROI of 100% means you brokeeven. To the author’s point, in this case if had done nothing, the result (on a Return basis) would have been the same. Of course the program increased Revenue but it did not incrementally increase the profit of the company, so the next impact was $0 on a Return basis.
If you want to use Revenue as your metric, then Return on Ad Spend (ROAS) or Sales to Cost are more appropriate. The online display guys bastardized ROAS by using Revenue because it made the numbers look better. Keep in mind, these metrics need to account for Cost of Goods or Cost of Revenue, so you need to at least be in the 200%-400% range if you care about profitability.
I think i understand but theres so much confusion in who is posting, who should i listen to becasue Jake sounds correct to me
i want fully solved roi
Unfortunately you’re wrong. In poker her calculation wouldn’t be accurate unless over an extremely large sample size. If anyone has an roi of 100% then they are truly amazing. In poker we calculate by “certain product” as well. I.e specific games we are playing.
Reece -
If you invest x in a campaign (or stock market, business, etc) and receive a return of 3x, 4x or more, your return would be well over 100%. It happens. The poker analogy was used to illustrate that she should include all costs in her ROI calculation, not just marketing campaign spend and gross revenue.
roi=net profit/investment*100
After reading all the comments, the Author is correct. ROI – 0
Calculations
Revenue – 130,000
GP % – 50%, i.e. 65,000
Marketing Investment – 65,000
ROI = (GP – Marketing Investment) / Marketing Investment
= (65,000 – 65,000) / 65,000
= 0
Mkhan,
I dont agree with your formula.
If we want to get ROI for marketing investment we have to know Revenue – that was gained by marketing investment ONLY or gross profit that were gained by marketing investment ONLY!
We should have some “marketing investment contribution something” to measure how much exatcly was gained by marketing investment.
for example if my sales before marketing investment were 10.000 and after is 15,000 and my marketing expences is 1.000 then we can get roi for that.
ROI = ((15.000 – 10.000) – 1.000)/1.000= 4.000/1.000=400% ROI on my marketing investment.
But it is very hard to be sure that this 5000 was gained only because of my marketing investment.
I feel everyone read into it way too much, if I spent $1 on a bag of chips and resold it for $2 I now have 100% more dollars than I started with. All it states is that she spent $65000 which generated $130000.
$130000-$65000=$65000. It doesn’t state whether that money was invested into her own company or into a third party marketing company. If it was third party yes she has the initial $65000 she started with and a bunch of wasted effort, but if it was invested through her own companies marketing than she would likely have retained the initial investment plus the revenue of $65000.
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