Why You Should Calculate ROI Before Starting a Business

The Real Test of Your Business Idea (ROI) – Return On Investment

We have a lot of aspiring entrepreneurs in South Africa starting businesses, yet only a few survive to the next year.  The greatest challenge entrepreneurs come across is starting a business with huge expectations without research. Before you start a business, the first thing you have to consider is the expected return on investment (ROI) calculation. Calculating ROI helps you decide if your business idea is worth the effort you will be putting in, especially when the drive for profit overpowers the passion. 

Calculating ROI helps you decide if the time spent on your business is worth the expected return or whether to explore other ideas.

Steps to take before putting your business idea into action: 

1: Calculate Your Return on Investment

This is an estimated calculation of how much profit you can make when investing a certain amount in a business you want to start.

Meaning ROI is equivalent to:

In simple terms:

• To calculate your net profit, you need to subtract all your business expenses from your total income either monthly or weekly. Your business expenses may be rent, stock, salaries, marketing, etc.
• A total investment is the money you spent/may spend to start up your business.

Realistic scenario:

After spending R10,000 on equipment, space, chemicals, and machinery to start a mobile car wash, let’s calculate your ROI after making an R2,000 profit in a month:

(2,000 ÷ 10,000) × 100 = 20, (2,000 ÷ 10,000) × 100 = 20%, and (2,000 ÷ 10,000) × 100 = 20.

In a lame man’s terms, you have earned a 20-cent return for every 1 rand spent. As small as it seems to the naked eye, a 20% ROI in a month means a 240% ROI in a year, which makes this a feasible business idea. 

2: Calculate Every Startup Cost Involved

To avoid over calculating your profits, be accurate when it comes to expenses. This is beneficial for someone starting because accuracy involves calculating every big and little cost, including water, transport, and airtime (data included).  

If you had to start a small detergent manufacturing business, for example, this is how you should list all your start costs:

Item	Estimated Cost (R)
Raw materials (chemicals, bottles, labels)	3,000
Mixing equipment	2,000
Branding and packaging	1,500
Marketing (flyers, social media ads)	1,000
Transport/delivery	2,000
Total Investment	R9,500

3: Find Out How Much You Can Make a Month in Revenue

This is where you determine how much you will make every month with your desired pricing.

If you sell 200 bottles of 1L detergent per month at R40 each, you will make a total of R8,000 in revenue. 

• 200×R40=R8,000 (Total Revenue)

Let’s assume that your total expenses are R5,500 a month that you have to subtract from your revenue. 

• Net Profit = R8,000 – R5,500.

Your expenses may include labor if necessary, operating services, raw materials, fuel, and packaging.

4: Explore Multiple Business Ideas for a Suitable ROI.

Calculating ROI opens your eyes to what to expect with the business idea you have chosen, and this gives you an opportunity to explore other business ideas to see how well they would go for you. If you are conflicted about which of the three small business ideas to choose, this comparison will provide useful information:

1. A capital investment of R500 in sweet selling has the potential to generate a monthly profit of R400.
2. An R5,000 investment in a mobile car wash with R1,500 profit a month potential
3. An R8,000 investment in a lawn care business with R2,400 profit a month potential
   

Here’s how they compare

Business Of Interest	Average Investment (R)	Estimated Monthly Profit (R)	ROI Calculation (%)
Sweets Business	500	400	80%
Mobile Car Wash	5,000	1,500	30%
Mobile Lawn Care	8,000	2,400	30%

The sweet business might look smaller in profit, yet it makes the highest ROI making it a goldmine in case of scalability. Calculating ROI will forever be a powerful tool when making a decision because it doesn’t only show sales but also shows the profitability and feasibility of the business. 

5: Balance Time and Effort

As much as ROI on its own may make you jump to the roof with excitement of the kind of money you can make, consider the life-work balance to avoid exhaustion and failure. We all have day-to-day commitments, family time, kids’ time, and even social events with either relatives or friends. As a human being, you must also consider if these factors are worth giving up for a business making you an 80% ROI and taking 12 hours a day from you compared to that part-time job giving you 30% ROI but still allowing you to live like a normal human being.

On top of ROI, you also need to look at:

• If you have the time to handle the business
• Either the business is low or high risk
• If the business is easily scalable
• How consistent the demand is

Market consistency depends on the business you have, e.g., ice cream has high sales in summers but very low in winter, yet tutoring is consistent throughout the year.

6: Economic Factors Affecting Return On Investment In South Africa 

ROI calculations may differ because of:

1. How consistent the demand is; some businesses are seasonal and popular on either holidays/festive seasons or when schools are open.
2. Unpredictable load-shedding can increase costs and also reduce product availability.
3. Profit margins may be affected by price hikes in fuel, raw materials, and packaging prices.
4. Your ROI is highly likely to be affected by exchange rates if you import your raw materials or goods.

Just to be safer, include a rider of 10 to 15% for unforeseen expenses when calculating your ROI.

7: Ways To Improve Your ROI

Just in case you feel strongly about your business idea, try the following to improve your ROI in a strategic way:

• If possible, cut costs and negotiate for discounts with your suppliers, share office or ground space, and also buy in bulk.
• Slightly increase prices, but make sure you provide quality service and have a professional presentation for clients to trust you.
• Focus your energy on repeat customers by offering discounts and loyalty discounts to boost sales.
• Go digital for marketing, booking, and transaction tracking

Expected ROI can be adjusted with the right strategies.

8: What is a “Good Enough” ROI?

A truly good enough ROI depends on the individual and the kind of business suitable for their lifestyle.

Most South African entrepreneurs believe that:

• A small business under 10% ROI is risky and will take forever to grow.
• A business with 10 to 30% ROI can be sustained.
• A business with a 30 to 50% ROI is feasible and scalable.
• Any business above 50% ROI will be successful and eventually make millions.

NB: High ROI yields high risk, so be financially and emotionally prepared for whatever happens.

9: How ROI Can Be a Benefit When Attracting Investors or Lenders

Well-planned and studied research with financial projections stands out when dealing with investors. When it comes to strangers injecting money into your business, dreams don’t work; you have to show potential, and that comes with ROI projections. Estimating exact ROI expectation when presenting your business to your investors shows them that you have thoroughly done your research and you are ready to dive into the business.

Conclusion

A business idea can sound great on paper until you put it in motion. The best way to know if this business will satisfy your needs and still be standing in the next 5 years is by calculating ROI.

The modern economy does not allow us to make decisions only on passion; you still have to make a profit out of the business you are starting. The best way to do that is to research and compare how other businesses’ expected ROI is before you settle on your final idea. The best option is taking your time to research instead of rushing to invest your money in a business that will terribly fail before rushing to announce your business. No matter how small it is, take time and understand if the profit is worth the time.