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Part 1: What Is ROI? And 4 Strategies To Use When Calculating It

By: Simon Spencer

July 23, 2020

Part 1: What Is ROI? And 4 Strategies To Use When Calculating It

What is the true purpose of an ROI and how can it be applied when implementing a digital work instruction solution?

It's important to look at return on investment (ROI) by examining how your company can benefit and improve from a well-defined and executed continuous improvement program.

In this three-part series, we're going to analyze what an ROI is and we're also going to look at different examples of why companies must use digital work instructions to boost ROI. Finally, we will explore the role of ROI in Continuous Improvement.

What Is an ROI?

ROI (Return on Investment)Simply put, ROI is short for Return on Investment. It is a performance measurement to evaluate how well a project (or investment) has performed based on the initial cost and its benefits (or return).

ROI allows a person to review a project and judge its success. In the end, you want a project that pays for itself rapidly and then provides further profit for years to come.

A common break-even point for projects is 1 year. Therefore, the savings gained by implementing the project equal the initial investment at the end of the first year.

ROI is a retrospective indicator, but it can also be used to estimate a possible outcome if a project is undertaken. Based on data that you can collect during a preliminary review you can then estimate the savings you will achieve and then estimate a break-even point. As a metric, it can greatly help prioritize the right projects and give the green light for an investment.

What Is an ROI Worth?

A well-prepared return on investment allows for rapid decision-making of investment proposals. It can estimate a successful outcome based on sound logic and calculations. You no longer have to use words such as “it should improve our…” or “we think we will save…”

Instead, a good return on investment calculation allows you to use facts.

Above all, an ROI forms an important part of a continuous improvement program. Done well, they speak for themselves and lead to strong successful investment projects.

What Should You Keep in Mind When Calculating ROI?

1. Don’t Make It Up

Sounds silly, but it’s true. What I mean is that you should use data which is strongly recognizable in your company. Your metrics and improvements should speak for themselves. If you develop a new metric to demonstrate the improvement for the project, you are going to really struggle with data credibility.

Many question marks will surround your data and make it very difficult to assess. At the same time, your demonstration of how much improvement you will gain ideally comes from actually trialing/testing the new methodology. Never rely on a suppliers ‘Sales’ talk as you may come unstuck. With real practical data, you can demonstrate this IS what happened, and this WILL be our savings. You can then use that data to extrapolate across your manufacturing floor with credible results.

2. Focus on the Metrics That Count

ROI CostWhen you look at the data you are compiling, does it cover the key metrics your company focuses on? Many companies have key performance indicators (KPIs), these are the cornerstone items that tell the management team if they are on track or off the rails when it comes to getting the best outcomes for all their activities. Ideally, your data directly correlates with and show’s improvements to these important KPIs.

Again, as mentioned above, if you use information that is easily understood by your management team and directly corresponds to the data they use regularly, a project can be easily reviewed and approved.

3. Make Sure Your ROI Has a Defined Break-Even Point

You need to make sure the ROI complies with your company's expectations. As mentioned above many companies have clear targets for the break-even point. If your company doesn’t, you must ensure you make this point very clear.

For example, it can make a very big impact on your project if the timeline to break even is 1 year away or 5 years away. A project which recoups and then provides profit in a shorter period of time is always more preferential.

Equally important is the amount of profit it could yield in the future. A longer break-even point, a longer ROI, but providing a bigger gain is also very beneficial. Whether it is a short or long break-even point, defining it clearly within your presentation, the decisions to move forward are easier to make.

Break-Even Point

4. Don't Break the Bank

You can provide information in a transformational project which has a fantastic ROI, but if the initial investment is huge, it may be simply impossible to implement. In this example, it is a balance. Many companies have budgets for yearly investment. If your project uses the whole budget or more, it may not even get past the first hearing. However, it may be achievable in the future by allowing the company to adjust its budgets in the following months or years.

The only way to present your proposed projects is by using clearly defined data. Any project worthwhile of being accomplished is sure to be approved if investments are well-established and clearly stated, the break-even point is defined and the return on investment (ROI) is straightforward.

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