SEVEN COMMON ERRORS IN ROI MEASUREMENTS

In today's economy, the pressure is on for the marketing department to improve upon results with a scaled back budget If you are not already using ROI measurements to guide your marketing investments, now is the time to do so—but make sure you avoid these common errors that can lead to poor decision-making. Many of these errors are made by wellrespected, leading marketing companies and consultants, so check your own internal measurements carefully.

Error #1: Revenue is used in place of return

In the English language, "return" could be construed to mean everything gained back from an investment, but in the financial language, return is equal to the net profit minus the original investment. It is the amount that goes to the bottom line, not the top line. Most corporate measurement processes have this correct, but beware of the worksheets on Web sites that are trying to convince you to use their email or direct marketing services where revenue is often used in place of profits. If you are going to make a marketing investment, you need to know what profit it will generate for your company. If you are going to make many marketing investments, you need to have an accurate view of ROI to establish the correct priority.

Error #2: The investment is overstated with cost of sales

You will have marketing expenses to get business and then expenses associated with delivering that new business. The investment portion of the equation represents only the marketing expenses that are put at risk. The easiest way to clarify what counts as an investment is to determine what expenses will be lost if the marketing program generates no sales at all. In addition to the cost of materials and media, this could include development costs and system costs that are incurred specifically for the marketing campaign being measured.

Error #3: Only Immediate profit Is counted, neglecting future value

The return generated by marketing programs is sometimes restricted to the profit from an immediate sale without taking into account the future value of that customer. This may be based on limited data, the need to make decisions promptly in order to replicate the performance of a marketing program, or a priority on short-term profits over long term value. The extra effort to capture the future value of a customer and appropriately discount the future value into a net present value can alter marketing decisions in such a way that increases the profits generated with the same marketing budget or less.

Error #4: The total customer lifetime value is counted in place of incremental profits

Here we have the opposite problem where too much value is counted instead of too little. It is important that all of the profits generated immediately and in the future that result directly from this investment are captured—no more, no less. Some companies identify the total lifetime value of a customer and use that as the value of each new customer. However, typically the amount of profit a customer is expected to generate over the course of their lifetime with the company is dependent on additional marketing investments. The customer value should be measured as if no additional investments were to be made. A portion of customers will continue to do business with the company, while others will not contribute additional profit without additional marketing investment.

Error #5: The ROI analysis is not aligned with the decision to be made

The ROI analysis should be different when measuring past performance or future investments. Expenses already incurred are not important when choosing between possible marketing investments; however, these expenses are very important when measuring the performance of a marketing program as a benchmark for future decisions or measuring the performance of decision-makers for rewards and recognition.

Error #6: Overriding ROI analyses because of "strategic" value

It is sometimes claimed that certain "strategic" business objectives must override the financial analysis that would guide marketing investments toward the greatest profit. Strategic decisions could include customer satisfaction, employee satisfaction, or service quality. However, since businesses exist for the purpose of generating profits, there is typically some financial benefit that is expected to be derived in the future from these strategic decisions. Developing assumptions as to the incremental value of these decisions, or running an ROI analysis to determine the results necessary to justify the strategic decisions, will lead to better, fact-based investments from the marketing budget.

Error #7: A total ROI is calculated in place of an Incremental ROI

Using the power of ROI as a planning tool for marketing leads to a better understanding of the expected value for each investment so the budget can be effectively allocated to maximize the total return. Each investment decision should be made comparing the incremental investment to the incremental return. When comparing a marketing campaign with and without an offer, it is common practice to compare the total ROI for each marketing program and choose the higher ROI. However, the ROI for the incremental investment into the offer should be run separately from the ROI for the base campaign. The incremental return generated from that incremental investment must be compared to alternative investments. It is possible that the ROI for the offer itself is positive, but lower than other investment opportunities.

The key to successfully using ROI in marketing is establishing a standard formula that:

1. Is accurate

2. Aligns with strategic decisions

3. Can be used consistently throughout a company for a fair comparison to guide investments.