September 9, 2019

How to Do an ROI Analysis in 4 Steps

Image of steps to illustrate the "4 Steps" to Creating an ROI Analysis.
Image by Free-Photos from Pixabay

A return on investment (ROI) analysis is a useful tool for evaluating a variety of business opportunities. Technology investments, business process projects, and marketing campaigns are just a few examples. When fighting for budget or preparing a cost-justification, knowing how to do an ROI analysis allows you to compare a potential investment to other initiatives or make a go-no-go decision.

While the ROI calculation is simple (ROI = (Total Benefits – Total Costs) / Total Costs), creating a comprehensive ROI analysis (also known as a business case analysis, cost-benefit analysis, or business value assessment) can be complex. But after performing thousands of ROI analyses for clients, we’ve found that you can break down the process into 4 steps:

  1. Discovery
  2. Metrics Gathering
  3. Collaborative Analysis
  4. Executive Presentation

I will review each step, so please read on and use this as a guide. But if you’re concerned, keep in mind that Technology Finance Partners (TFP) can help. We can partner with you to build an ROI analysis so your proposed project or technology investment gets the priority it deserves.

Let’s dig in.

The 4 Steps to Creating an ROI Analysis

The 4 steps to creating an ROI analysis: discovery, metrics gathering, collaborative analysis, and executive presentation.

To provide context, let’s paint a common scenario, but from the seller’s perspective.

You are a software salesperson. Your cloud solution automates the design and manufacture of custom widgets. Your prospect believes the technology is a fit, but she’s choking on the price and has asked you to roll up your sleeves and help her create the business case, especially the return on investment analysis.

You tried using your marketing team’s ROI tool with her. But the numbers were too good to be true and you couldn’t show her the math because the tool is online. You’ve lost credibility and need to get it right this time! What do you do?

Step 1: Discovery

The first thing you’ll want to do is pull your internal team together. Call a meeting with your pre-sales engineer, inside sales rep, director, solution architect, etc. to discuss what you collectively know about your prospect. For instance, you may already have:

  • The number of users, the number of widget producing machines, the systems to which your solution needs to integrate, and other information from the needs assessment.
  • Insights from your prospect’s annual report and investor presentation. If you know that the cost of goods sold are growing faster than revenue, for example, this could help the business case. You could tie your solution to that corporate pain or need.
  • A list of the benefits that are commonly realized by your proposed solution.
Image of a person with a question mark where their head should be to illustrate the "discovery" step.
Image by Gerd Altmann from Pixabay

Clarifying what you already know is useful because it puts you in the mindset of your prospect, so you can have a productive and respectful discovery session.

The goal of discovery is to identify compelling benefits that you can quantify for the ROI analysis. So, it’s also important to consider the complexity of the deal before scheduling time with your prospect. If you’re selling a $100K SaaS subscription and quick math tells you that break-even only requires one or two FTEs (full-time equivalents) of labor savings, talking to your sponsor alone may be enough. But if you’re selling a multi-million-dollar solution plan on involving a larger audience.

Now you’re ready to schedule a kickoff call (with your prospect) for the ROI analysis. If necessary, come to the call ready to discuss the other roles in the organization that you will need to interview separately.

Tips for Conducting a Discovery Call

  1. It’s always good to confirm timing when you get started with discovery. Is there a deadline your prospect needs to meet with the final analysis and executive presentation? Avoid surprises by asking this early.
  2. During discovery, you want to paint the picture of current state, especially current state pain, and what a future state could look like with your solution. So, a great starting question is, “Why are you considering my solution?” You can follow this with, “What are three to five challenges you hope to fix and that you think we can quantify?” Since you prepared, you may be able to guide the discussion based on information they already revealed or by sharing quantifiable benefits other customers have experienced.
  3. If your sponsor isn’t able to identify enough quantifiable benefits, ask to talk to other stakeholders. In this case, engineering, production, and finance should be able to contribute.
  4. Do light math on each possible benefit as you go to get a sense of its value. For example, 10 people in a role with a fully burdened labor cost of $50K per year and a 20% productivity gain = 10 x $50K x 20% = $100K in value per year. This is a significant benefit that you will want to include. Once you’ve identified enough meaningful benefits (three to seven is often enough), you can move on to the next step: metrics gathering.

Step 2: Metrics Gathering

During discovery, it’s common to get estimated numbers or ranges for some of the metrics. But oftentimes interviewees don’t have the data or say they’ll follow up with the information. To keep everyone on the same page, email your participants after the discovery session. Provide a list of the benefits you agreed to quantify and the data you need to quantify them.

Benefits typically fall into the following buckets:

  • Increased margin through increased revenue
  • Reduced cost
  • Labor productivity
  • Reduced risk

Keeping with the widget example, here’s an illustrative set of benefits that you might identify and data you might request:

Identified Benefit Data Requested
Increased revenue through accelerated widget design time ·  Number of custom widgets designed per year

·  Average revenue per custom widget

·  Average contribution margin per custom widget

Reduced cost of goods sold ·  Average annual cost of goods sold for custom widgets
Reduced custom widget reporting effort ·  Number of people involved with custom widget reporting

·  Average percent of time they spend on custom widget reporting

·  Annual fully burdened cost per custom widget reporting employee

Reduced on-premises technology costs ·  Avg. annual spend on hardware or software that will no longer be necessary once they move to the cloud

·  Current labor time spent to support the on-premises technology

·  Average fully burdened cost for that labor

Tips for Metric Gathering

  1. After sending the data request, have a quick call to review the list of benefits you intend to quantify and the data you need. This facilitates buy-in and ensures that your prospect understands the request. It also allows you to establish a timeline for how long the prospect thinks it will take to collect the data and how long you will have after receiving the data to create the analysis and executive presentation.
  2. When you receive data, review it immediately to ensure that it is complete and to check for inconsistencies. This allows you to confirm receipt of the information, but intelligently. If there are gaps in the data, communicate to your prospect which metrics are “must-haves” versus “nice-to-haves.” You can plan to use “industry benchmarks” for the “nice-to-haves.”

Now, on to the fun part.

Step 3: Collaborative Analysis

The key word here is collaborative. As soon as you have the data, schedule a preliminary analysis review session with your sponsor and a preparation call with your account team. This gives you a deadline!

Let’s go back to our widget example.

Calculating the Benefits

For the first benefit regarding increased revenue, you receive the following data:

  • Number of customer widgets designed per year = 1,000
  • Average revenue per customer widget = $10,000
  • Average contribution margin per customer widget = 20%

With this data and an estimate that your company can increase revenue by 15-25%, you could lay out this benefit as follows:

This is a chart showing the first calculated benefit in the ROI analysis.
You may have a preferred format, but we do recommend being clear and transparent. Give it a title, describe how they will realize the benefit, then lay it out so it’s so easy to follow someone could check the math on their smartphone.

Knowing that your anticipated SaaS ACV (annual contract value) is $350K, you’re pleased to see that this benefit mostly covers that cost by itself, so you are off to a great start.

In a similar fashion you use the data provided to lay out the other three benefits and land on this list of annualized values:

This is a chart showing a summary of the benefits that will be used in the ROI analysis.
You try not to get too excited, but you note that the likely scenario is 3X your ACV and the conservative scenario is more than 2X! Who said financial analysis wasn’t fun? Now you have a foundation for a multi-year analysis.

Factoring in Deployment and Adoption Time

The next step is to consider how long it will take to deploy the solution and realize the benefits. There are many ways to do this, but it’s common to consider the deployment time in months and then apply a percent to the remaining months in year one for initial receipt of benefits.

You talk to your professional services team and estimate that deployment will take 6 months. And you decide on a conservative estimate of 50% for the initial benefits. If growth is core, we can apply growth factors to years two and on. But we often do a “no-growth” model to keep the analysis conservative (and simple).

Incorporating the Investment

Adding in the initial costs for implementation and training, the five-year analysis for the custom widget “likely” scenario might look like this:

This is a chart showing the combined benefits, costs, and net benefit for the ROI analysis.
We typically use five years for the period of time in the analysis as it aligns with software lifecycles and shows more value. Some vendors prefer to keep it to three years, aligned with contract length. Notice how the year one numbers are 25% of year two (6 months took out half and 50% reduced the remainder to 25% for the year). Also, notice how years two through five are the same (no growth).

On these numbers alone, this feels like a go decision, but it is an ROI analysis, so we probably should provide additional insight by calculating a set of key financial metrics.

Adding Key Financial Metrics

  • First, you include ROI, which is expressed as a percentage. In this case, the five-year ROI, which equals $2,906,250 / $1,875,000 = 155%.
  • We also like to include the net present value (NPV), a critical metric that discounts the forecasted cash flow into today’s dollars. Check out our blog on ROI vs NPV for an explanation of the math and why this is important.
  • We’ve also found that most customers want to understand payback (or break-even) to round out the analysis. In the widget example, payback happens in year two.Chart showing key financial metrics for the five year ROI analysis.

Now you’re ready to present the preliminary analysis to your sponsor and her team.

Though much of the heavy lifting is done, know that some prospects will accept your analysis as is (or with just a couple tweaks), while others will challenge every single number (even the ones they gave you). You learn a lot about who supports you and who may be a detractor during this collaboration.

Even so, if they’re participating, it’s likely that you’re on the path to a deal. If they’re a bit guarded upon seeing the result, it can also be a sign of them realizing that their negotiation position has shifted. Your price is now defended and justified. You have effectively “value sold” your solution!

Tips for Collaborative Analysis

  1. For TFP, a big part of being collaborative is delivering the analysis in Excel so that the prospect can easily see the math and make adjustments.
  2. At TFP, we like to show the projection of value as a range. ROI analysis is not a precise science and a range of projected outcomes adds to credibility.
  3. To truly value sell, create the benefits analysis before providing any pricing!

Step 4: Executive Presentation

Ultimately, you’re doing everything you can to get your prospect to take ownership of the ROI analysis. If you’re successful, having them take the analysis forward for budget or purchase approval can be effective. But you really don’t want to lose control. So, stay close to them on the formal proposal and presentation.

The C-Suite tends to think big picture and probably wants an executive summary. The business case and proposal deck usually work best with a few slides aligned to an agenda that looks something like this:

  • Executive Overview and Value Proposition
    On this slide, summarize the top three to five points from the rest of the deck and include a concise value proposition. In the widget example, this could be “Investing in custom widget design and manufacturing automation will result in a likely five-year NPV of $2.26M with an ROI of 155%, and a payback of 18 months.”
  • Strategic Alignment
    Ideally, you can pull a slide from your prospect’s investor presentation about their growth strategy and align your solution to that. In this example, you’re highlighting higher revenue, reduced cost of goods sold, and possibly digital transformation or cloud migration. You did the homework, here’s where you make it clear that your solution ties to your prospect’s key initiatives.
  • Current State & Business Challenges
    This slide highlights some of the data collected and relevant sound bites from the discovery interviews. It may mirror the prior slide, but at the functional level.
  • Proposed Solution
    This may take a couple of slides, but don’t go crazy. If it includes an IT architecture, keep it conceptual. These are busy executives. Keep it crisp and clear. Some will put a solution cost slide here—resist the urge!
  • Summary of ROI Analysis
    The multi-year view from step 3 is often sufficient; some like to throw in a pie chart or multi-year graph.
  • Implementation Plan
    A summary slide on implementation is fundamental to conceptually reducing risk in the executive’s eyes. Adding logos to spur a couple of customer success stories is great.
  • Timeline to Value
    You can also call this “next steps.” We’ve seen this being too vendor-centric and too granular regarding every step required to execute a contract. You’re selling, sure. But consider drafting this from the buyer’s perspective.

Tips for Executive Presentation

  1. Less is more. Executives want a concise summary and want to know that their team is fully bought in to the solution
  2. Having said that, keep the details readily at hand. You never know when that “numbers person” will ask for more.

How to Do an ROI Analysis: Wrapping Up

A return on investment analysis certainly isn’t required for every investment decision. But if you’re proposing a multi-million-dollar solution that impacts many aspects of a business, it’s in everyone’s best interest to be thorough. This is especially critical when you know your prospect will be comparing investments that are competing for limited capital and operating budgets. It does help, however, to have a process and we recommend the 4 steps as described above:

  1. Discovery
  2. Metrics Gathering
  3. Collaborative Analysis
  4. Executive Presentation

If you want to read more about ROI analysis and best practices, download my colleague, Alex Corman’s white paper, “Calculating ROI for Technology Investments.” You can also learn more in this blog that compares TCO and ROI.