As a B2B seller why wouldn’t you want to promote your personal FINANCIAL value to your company using the same metric that your company executives use to analyze CAPEX and OPEX investments? ROIC is that metric.
Sellers often confide in me that they feel under-valued by their company. When I hear this complaint I flip their comment around and ask them to describe the FINANCIAL value they provide to their company. Invariably the answer is not concise, not convincing and not quantitative. If you aren’t articulating your personal value in crisp clear financial language, it’s very likely that others in your company won’t recognize it and reward you. Sooner or later you are going to be the subject of a “price” negotiation (read compensation dispute) and you won’t be happy with the outcome.
When I push sellers for quantitative evidence of their personal financial value, most will mention sales or a sales-related metric. I am underwhelmed when I hear this response since sales, as a data point metric of selling performance achievement, lacks important insight into true financial value created. When was the last time your company analyzed an investment in a major new product launch by only looking at forecasted top-line sales impact? There are much better metrics to articulate your financial value.
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ROIC – The “Hottest Metric In Finance” According to the Wall Street Journal
As a F500 CFO I love metrics as you might expect. I admit, however, that measuring selling performance is tricky. After all, measurements drive behaviors (especially the case with sellers) and what gets measured gets managed. This makes the measurement selection process critically important to get it right.
My favorite financial metric for measuring the performance of a sales organization (or an individual seller for that matter) is Return on Invested Capital or ROIC. ROIC is a fraction reflecting profits in the numerator and investments required to generate profits in the denominator. ROIC also goes by other names, including ROC (return on capital), RONA (return on net assets), and ROCE (Return on Capital Employed). In 2016 the Wall Street Journal described ROIC as “the hottest metric in finance”. ROIC is not a perfect measure of true financial value, but it is far better than traditional sales-related data points. Here’s why.
Sales Performance Is Just a Precursor to Personal Financial Value
Sales performance metrics alone don’t reflect the true cost of the financial investment the company is making in the career of a seller, let alone the financial return they are generating on this investment. Sales metrics ignore the financial elephant in the room: Is the investment the company is making in the sales organization (or individual seller’s career) generating sufficient financial return over time to clear the financial hurdle rate for similar investments in CAPEX and OPEX? Sales are not profits and they certainly don’t reflect invested capital, so we need to “extend the math” from sales metrics to determine personal ROIC and true financial value.
Employees are Assets and “Human Capital”
As a financial executive I viewed our employees as assets. I figured if accountants can account for buildings and equipment as assets on the balance sheet, then surely employees (including sales employees) should be properly accounted for as assets. Unfortunately, EY (our auditors) never agreed – something about SEC regulations.
I also never understood the term “human resources”. I preferred “human capital” instead because companies and organizations continuously invest in employees in the form of annual salaries, bonuses, benefits and training. In essence, this annual stream of cash outlay mirrors a typical capital investment; alas, a human “capital” investment. So how do we calculate the “return” part of ROIC as well as the “capital” part? Here’s how.
Step 1 – Calculate Your Personal “Return” (Numerator of ROIC)
You can calculate your personal “return” as well as your colleagues and entire sales organization. Here’s how. Use your annualized actual booked sales figure (say $2,000,000) and multiply it times the gross profit margin (say 30%) disclosed by your company on the income statement. Gross profit margin is a percentage that represents gross profit divided by net revenue. The product of your annualized booked sales and your company’s gross profit margin represents your personal “return” (in this case $600,000). If your company is privately-held, use the financial statements of a competitor that is publicly-held to obtain a gross profit margin.
While far from perfect, gross profit margin only takes into account sales as well as the direct costs of products and services sold. It is not burdened by fixed overhead costs such as SG&A and R&D expenses, which are clearly outside of the responsibility and influence of a sales person. Obviously, a sales person is not responsible for all elements of gross profit, but they do have significant influence over the quantity, timing, pricing and mix of products and services sold, which is incorporated in gross profit.
Step 2 – Calculate Your Personal “Capital” (Denominator of ROIC)
You can calculate your personal “capital” as well as your colleagues and your entire sales organization. Here’s how. Calculate the sum total of your annual salary (say $150,000), target bonus (say $25,000) and benefits (say $25,000). In this example the annual cash outlay is $200,000.
Next, make the assumption that this annual amount (in this case $200,000) will continue ad infinitum. In essence this amount represents a fixed annuity in financial terminology. This is a logical assumption since the cash outlay will take place whether you are the employee or someone else takes your place. You can ignore the inflationary and tax impacts on this annual amount since the discount rate (see below) will adjust for these.
Finally, calculate the present value of the annual outlays for your salary, bonus, benefits and training by discounting them (opposite of compounding) back to today’s value (called present value). You should use a “cost of capital” discount rate to accomplish this. (This is how NPV and IRR investment cash flow investment analysis is conducted). I suggest you use a 10% discount rate, which is a reasonable estimate in today’s economic environment.
The good news is you don’t need a fancy HP 12C calculator to calculate present value. In this case you can use a shortcut by taking the annual total outlay ($200,000) and divide it by the discount rate (10%). This will produce your personal “capital” and in this example that number is $2,000,000. This number goes in the denominator of the ROIC fraction.
Step 3 – Calculate Your Personal ROIC
Divide your personal “return” in Step 1 by your personal “capital” in Step 2 to produce your personal ROIC. In the example, $600,000 divided by $2,000,000 equals 30%. Compare this result to 3 things:
• Your personal ROIC in the last 3 to 5 years. Is it going up (more financial value) or down (less financial value)?
• High-performing sellers in your sales organization. How do you measure up to their ROIC?
• Your company’s ROIC (gross profit divided by sales & marketing expenditures capitalized at 10%). Are you above the company average or below?
Two Examples: Oracle and Cisco Systems
Oracle Example: Assume you are a Sales Executive at Oracle with a personal ROIC of 30%. Last year Oracle disclosed $30.3 billion of gross profits on its income statement. This figure should be used as the “return” in the numerator of ROIC. Oracle also spent $8.2 billion on sales & marketing. If you assume a 10% cost of capital discount rate, this produces a “capital” amount of $82.0 billion. This figure should be used in the denominator of ROIC. Finally, divide $30.3 billion by $82.0 billion to produce an ROIC of 37%. If you are a Sales Executive at Oracle with a personal ROIC of 30% and a company ROIC of 37%, you should formulate and implement a plan to improve your personal ROIC.
Cisco Systems Example: Assume you are a Sales Executive at Cisco Systems with a personal ROIC of 30%. Last year Cisco disclosed $30.2 billion of gross profits on its income statement. This figure should be used as the “return” in the numerator of ROIC. Cisco also spent $9.2 billion on sales & marketing. If you assume a 10% cost of capital discount rate, this produces a “capital” amount of $92 billion. This figure should be used in the denominator of ROIC. Finally, divide $30.2 billion by $92 billion to produce an ROIC of $33%. If you are a Sales Executive at Cisco with a personal ROIC of 30% and a company ROIC of 33%, you should formulate and implement a plan to improve your personal ROIC.
Bottom Line: Know your financial value. Calculate your personal ROIC and use it to your advantage.