Q

Do traditional ROI planning models apply to electronic business?

Do you agree with the statement "Traditional ROI planning models that base ROI calculations on five-ten year-cycles cannot be used in electronic business"?
E-businesses inherently require a slightly different ROI planning model, analyzing costs and benefits over a three-year period because these projects typically are riskier, mostly because market conditions and assumptions change so frequently.

A basic formula is:

ROI = cumulative net profit over three years / (initial costs + three year management costs)

In general, costs are tallied for initial development and estimated for the next three years, breaking out the costs for each of these periods. Typical e-business start-up costs include:

1. Research and planning
2. Site development
3. Consulting services
4. Hardware and software
5. Hosting or connectivity
6. Marketing development
7. Advertising
8. On-going site management and improvement

The most important element to consider is the cost to obtain visitors and the proposed conversion rate. Be wary that costs to attract visitors is typically much higher than expected, and the conversion rates of visitors to purchasers is typically much lower than expected.

Against these costs, benefits will be applied, which requires a sales projection. Benefits in an e-business are often difficult to accurately predict, especially for a new business in a new market without established ROI benchmarks. Once the sales projection of revenue is made, the profit is applied against the cost in the ROI analysis.

Too often, e-business analysis uses a simple revenue-versus-profit model, overstating the benefits to the corporation. Typically, start-up e-businesses estimate an ROI of 100-200 percent within three years, but only about half achieve that much. Those who don't see IT costs go over budget, fall behind schedule, and have slow user adoption.

This was first published in November 2004

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