What Is ROI, And Why Is It Important?
If you put something into your small business, you have a reasonable expectation to get something out of it. And that’s the simple premise behind return on investment, or ROI.
ROI is one of the most basic but important concepts that small business owners need to grasp. It will guide your every expenditure and speak to how you evaluate almost any initiative you carry out.
Here’s how to figure out ROI and why it’s so important.
How Do You Calculate Return on Investment?
Don’t fear: This is really simple math.
- Start with the final value (FV) of your investment.
- Subtract the starting value (SV) of your investment.
- Divide this number by the starting value (SV) of your investment.
- Multiply by 100.
The equation will look like this:
([FV – SV] / SV) * 100 = ROI%
For example, if you invested $10,000 into something, and the final return was $20,000, here’s how you would calculate your ROI:
([20,000-10,000]) / 10,000) * 100 = 100%
Why Is ROI So Important?
Return on investment is a fairly back-of-the-napkin way of calculating profitability. You can think of the initial investment as your expenditures, any money gained as a result of those expenditures as the revenues, and thus the ROI would be your profit margin.
Let’s create a more practical example using the numbers above.
If you spent $10,000 on an industrial-grade oven to bake bread, and you sold $20,000 in bread, your ROI on that oven would be 100%.
Operating a small business isn’t as simple as “buy oven, bake bread,” of course. You’ll need to spend on many more things than just an oven to start a bakery business – ingredients, other equipment, rent, appropriate licenses, advertising and so on.
On the other hand, ROI on that oven – a one-time cost – is going to look a lot better as you keep making bread over the years.
And theoretical ROI isn’t the same thing as cash flow. That oven might pay for itself one day, but most important in the short-term is that you’re generating enough cash month in and month out to stay afloat.
But when you start to look at every expenditure in terms of ROI, you’ll become a lot more responsible about how you spend your capital and more realistic about what to expect in return. As you delve more into your chosen industry, you’ll start to learn about its profit margins and ROI on certain investments … and hopefully, over time, how to improve those margins and become more profitable.
A Little Help With the Numbers
The good news? You don’t have to figure out all this on your own. McManamon & Co. – a full-service accounting, tax, fraud, forensic and consulting firm – can help you better understand how to get the most out of what you invest in the business. Our consulting services include hashing out cash flow and tax strategies, finding new banking relationships and strategic planning assistance.
You’re not investing your ideas, hard work and dedication for nothing. Make the most out of your personal investment by calling us today at 440.892.8900 or contacting us online.
Tags: consulting, McManamon & Co., small business, small business consulting | Posted in Consulting, McManamon & Co., small business