How to use a return on investment approach to work out the benefits of new technologies
1. Introduction
If you are reading this guide it is almost certain that your organisation doesn’t have enough money to do all the things you want to do. You are probably also a leader who wants to analyse whether a proposed piece of new technology is going to be a ‘good’ investment for your organisation. The trouble is that very often, it is not clear what ‘good’ means. Digital projects often end up being labelled successful or disastrous not on the basis of their objective impact, but according to how people feel about them.
Return on Investment (RoI) measures aim to take the subjectivity out of digital projects and enable you to make decisions that are better informed and therefore lead to better results.
Return on Investment – the basics
RoI is a measure of the financial benefit to an organisation of making an investment. It is usually expressed as the proportion of the money invested that is earned or saved annually as a result of that investment over a number of years.
Example
Investment: Cost of a new ticketing system: £5,000 up front plus £1,250 a year
Return: Ticket sales value as a result of new ticketing system: £2,500 a year
| RoI | = | Annual Return/Total Cost |
| = | £2,500 / £10,000 | |
| = | 0.25 (25%) |
It’s often useful to express RoI in ‘payback’ time: the number of years it will take to recover the original investment. This is calculated by dividing 100 by the RoI figure to give you the number of years it will take to get back 100% of your investment. In this example the payback time is four years (100/25).
2. What kinds of project can I use return on investment (RoI) calculations for?
Our expert, Andrew Evans from Think Philanthropy, talks you through the benefits of RoI and how to perform your own calculation.
You can use an RoI approach for any digital project that has costs and that will provide a financial benefit to your organisation. The simplest projects to do this for are those that have a direct cash cost and generate a direct cash return. In the example above, this is the cost of the software and ticket sales.
You can also use an RoI approach where the costs/investment are harder to calculate such as how much time staff will spend learning to use a new system. It is also helpful in quantifying less observable benefits such how investment in a new preventative conservation technology may avoid more expensive remedial conservation in 10 years’ time.
In these cases, you will need to apply additional tools to ensure your approach is not over optimistic. Even then, it’s important to recognise that the RoI will be approximate. However, provided you consistently use the same method, RoI will still provide a helpful mechanism to enable you to meaningfully compare different options.
Why might RoI go wrong?
The most common reason that organisations’ investment in digital doesn’t meet their expectations is that their initial calculations about costs and returns didn’t include the right elements, or were wildly unrealistic. Also people often don’t factor time requirements into their return calculations. In the sections that follow we will consider both what to include in your RoI calculations and how to make those numbers realistic.
What counts as an ‘investment’?
RoI calculations should always include the direct costs of the technology you propose to adopt.
Typically, these are things like:
- The capital cost of hardware or software
- Any direct costs incurred in procurement (e.g. a fee paid to the procurement platform)
- The ongoing subscription cost of Software as a Service (SaaS) or maintenance/updates
- Setup costs such as transfer of data from one CRM to another
- Direct training costs from a third-party provider for using your new technology.
You may also want to include the indirect costs of adopting new technology. These can be harder to calculate but are often greater than the direct costs and make a huge difference to RoI.
They include:
- Any loss of income incurred while the technology is installed. For example, if you have to close a space to hires while hybrid meeting technology is installed. Equally, sales on a new ticketing system may be lower for the first couple of months until it is fully operational.
- The cost of the staff time invested in the project. This is often difficult to work out. Some organisations take the view that staff time is a core cost that would be incurred anyway. But unless you have staff not doing anything, it is reasonable to assume that all hours spent on your digital project are hours that would otherwise either not be worked (saving cash) or be spent on productive activity. Most organisations underestimate the staff time required for new digital projects, so this is worth careful calculation.
What counts as ‘return’?
Projecting return is generally the more difficult element, because while costs are often reasonably certain, returns usually depend on a range of external factors. For example, the projected return of a new theatre ticketing system in 2018 would not have anticipated the total closure of theatres in 2020.
You should include the following items in calculating returns:
- Direct costs savings – For example, your new ticketing system has lower charges than your old one. Some direct cost savings are harder to calculate. Spending £50,000 on preventative conservation of objects now might prevent deterioration that will cost £200,000 to reverse in 20 years’ time. But our successors in 20 years’ time might choose not to spend that money, so there is no cash saving.
- Direct income generation – For example, contactless donation boxes generate an additional £500 per year per box in donations.
- Indirect income generation – A superb medieval sword fight interactives increase sales of wooden swords in the castle shop.
- Efficiency savings – These are the hardest to calculate but, for some projects, can be significant. They are simplest where they enable a clear reuse of resource somewhere else. A new CRM may enable an administrator role to be replaced with an income-generating or visitor-facing role. Savings should include any staff time saved on the tasks that the digital technology is facilitating, as long as you have fully included staff time on the project in the investment cost above.
Putting it all together
Once you have put together all the investment costs and returns you should then apply some caution. This is usually done through applying a contingency to your costs. 10% is a recommended minimum, but add more if you feel any of them are uncertain.
However, there is also a “demonstrated systematic tendency for appraisers to be over-optimistic about key project parameters, including capital costs, operating costs, project duration and benefits delivery.” [1] This can be addressed by applying an optimism bias, usually in the form of adding between 10% and 25% to the costs. If possible, the best way to calculate the right optimism bias is to look back at previous projects and compare the initially projected costs and returns with what actually transpired. If you have the data for several such projects in your organisation it will help to show what your typical optimism bias is.
Sensitivity analysis
A sensitivity analysis looks at the impact of variations from your projections on the RoI of your project. For example, if your new ticketing system costs £10,000 over five years and you project it will help increase ticket sales by 5% from £100,000p/a to £105,000p/a, your RoI would be 50%. But if your increase in ticket sales is only 2.5% (not the 5% your projected) your RoI would only be 25%.
A sensitivity analysis can help answer questions such as:
- How much less return could we get from this investment before we feel it stops being value for money? How likely is this?
- How much can costs increase if the investment is to remain worthwhile?
- How much better will the RoI be if we can reduce the costs of the investment?
[1] UK Government Green Book Guidance.
3. A model to calculate RoI
Now you understand the details of RoI, download a copy of this template – A model to calculate ROI (Word document, 204kb) – to help you calculate the RoI for your own digital project.
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Please attribute as: "How to use a return on investment approach to work out the benefits of new technologies (2022) by Andrew Evans supported by The National Lottery Heritage Fund, licensed under CC BY 4.0
