Return On Investment - How and why to calculate the operational cost

If you are looking to gauge and improve the performance and profitability of your business, you will have to calculate return on investment (ROI). ROI deals with the funds that you invest in your company as well as the return that you realize on these funds based on the net profit of your business. Experts usually recommend using an ERP as a solution to measure these forecasts with relevance. You can do it by calculating the operational cost. It is a statistic that is often neglected by professionals in the financial sector.You may use ROI in many different ways in order to gauge the profitability and performance of your business. You can, for example, measure the performance and effectiveness of your pricing policies, capital equipment investment, inventory investment, and so forth.So, what measurement tools that are integrated into your ERP software allow you to access this valuable information? This article will give you all the answers you need so you can make the right decision.

Calculating ROI through an ERP Solution

ROI (also known as return on investment) refers to possible return investment opportunities where the optimization of services will promote and facilitate the development of your business. You will need funding, though.You will have to use a simple rule to calculate ROI on your investment:

Cumulative benefits/ operational costs = ROI

However, you have to consider other essential information, like the recovery time (more on that later in this article), or the NPV.

Return on Investment: Calculations and Measurement Tools in an ERP

It is good to see that many entrepreneurs in France now prefer ERP over other solutions. Indeed, these software packages are great as they allow you to maximize your turnover by:

• Reducing operating costs and expenses
• Optimizing product returns
• Reducing waiting times for each customer account
• Correcting any errors or mistakes
• Centralizing critical data

Fundamental Characteristics of ROI

The following factors affect the calculation of your company's ROI:

1. NPV (or cash flow value): It measures accounting for operations allocated to cash where a certain discount rate will produce a specific level of profitability.
2. Recovery time: This is the number of periods (usually in years) needed to recover your initial investment.
3. IRR (Internal rate of return): Is a key metric that is used in capital budgeting in order to estimate the profitability of any potential investment. This often involves income, purchase, sale, or even tax-related expenses.

Information that ERP Considers

Your ERP solution will consider certain essential information in order to calculate your return on investment on a project.

Inventory Management

There is no denying that "questionable" or poor inventory management can hurt your business. Indeed, sometimes, investment in surplus goods is essential for a business. However, you can divert this investment to other tasks in order to improve the results of your company.

In the manufacturing industry, some ERP solutions have incredible tools and features, such as:

• MRP (Materials Requirements Planning): Forecast / current statistics confirming the material needs to ensure smooth production.
• The MPS (Master Production Schedule): This information shows the main planning.

Compared to conventional methods of analysis, ensuring the accuracy and timeliness of centralized data through integrated management software is certainly a significant advantage for your business.In addition, your ERP can calculate how you can minimize stocks in order to reduce your operational cost. You can use this "rule":

(Number of products stored) x (% of reduced stocks desired) x (capital-related expenses) = reduced stocks

During this important calculation, the designation of the capital is essential. You have to invest these savings to earn positive cash flow.

The costs of managing your business

Your ERP will also take into account operating costs. Thanks to multiple analyses, you can optimize the operational plan quickly by multiplying order lines. Keep in mind that several characteristics are essential for your ERP solution:

• The number of employees your company has
• How your employees are paid (such as hourly basis)
• The desired increase in income and headcount

Your ERP will automatically perform a relevant calculation in order to analyze a possible revaluation of wages based on an "accelerated" production rate and a total of 2080 hours worked each year:

(hourly basis per employee) x 2,080 x (number of employees) x desired increase in income) = A

A - (hourly basis per employee) x 2,080 x (number of employees) x (increase in workforce desired) = forecast of management costs

Note that when the forecast yields a negative or zero value, you cannot apply a reduction in management fees.

Customer service

If you can't achieve the desired savings through the optimization of your customer service, you have to take some steps to reach your goal.Nevertheless, your ERP solution can highlight three figures:

• Your annual income
• The premiums associated with this service (subjective value)
• Your margin denoted in percentage

It is no secret that a customer service is a crucial tool for communicating directly with your customers. Ensuring effective communication can quickly distinguish your business from others in the industry. On the other hand, restricting your services (absence of order intake, inaccessibility, etc.) will indicate a lack of interest on the part of customers.A simple and quick calculation will allow you to verify a possible improvement:

Turnover (monthly or annual) x net margin x premiums associated with your service

You can deduct the manufacturing costs (and other relative costs) from the total, and your ERP will confirm whether you can apply new strategies or not.

Time values

Finally, your ERP will consider the time values, as these are another important piece of information. Thanks to correct and precise time values, the calculation of your ROI will be very accurate. You can also measure the following:

• Current values: These define the cash flow according to the cost of capital (a positive value will confirm the relevance of an investment).
• Internal Performance: This is linked with the traditional interest rate.
• The recovery period

ERP: Calculate the ROI of your ERP

There is no doubt that deploying an ERP is a great solution to automatically analyze a lot of crucial information. However, using ERP software for your business, incurs monthly costs. However, your allocated budget may produce a considerable return on investment.This will often be defined for a period (between 5 and 10 years) based on many elements, such as:

• Your license fee or cost
• Implementation costs
• The necessary training
• Periodic maintenance

However, keep in mind that the results obtained through the amazing functionalities of an ERP solution can vary considerably depending on the characteristics of your company and defined objectives. This is why no "general rule" may apply.

Multiply your Time" to Improve your Return on Investment

If you are an entrepreneur, "multiplying your time" can be instrumental in optimizing your business results. Indeed, by reducing the time constraints, you can increase the number of tasks carried out by your workforce (or yourself).

Keep in mind that for several decades, the "prioritization" of actions has been identified by many as a relevant solution; this is done to meet the key objective. Note that prioritizing only some of your tasks will ultimately produce no time savings. On the contrary, every reorganization requires time.In this case, you may wonder if it is possible to "multiply your time" effectively.

Yes, you can "multiply your time" in particular thanks to the monitoring feature of the Focus Funnel system. With this system, you can filter each professional task according to your strategic decisions.

• First, you can ask a question: "is it possible to delete this task?"
• A negative answer means you can check if you can automate this task in order to multiply your time "in the long term".
• And if you are not able to ensure this process, then the delegation will often become a relevant solution.
• Finally, if this decision seems incompatible to you, you will have to perform or "postpone" your task (finalization of the Focus Funnel model).

Final Thoughts

The calculation of ROI and production costs evokes many essential rules. The information presented in this article will help you understand the associated processes. Thanks to the use of an ERP, your company will benefit from an indisputable centralization and precision of this essential data. A few studies will suffice to confirm or not the relevance of a new strategy.

Need help with your ERP software implementation? Discuss your project with a ERP expert.