We recently wrote about the correct usage of the term ROI in a B2B sales. A great follow-up question we received was, “How do I know what to show my customer, ROI or NPV (net present value)?” Let’s take a look at the proper use case for each.
We’ve already looked closer at ROI, so let’s spend a moment on NPV. Net present value is important because it measures the incoming cash flow from an investment over time, and converts that cash flow to today’s dollars. To quote Investopedia:
NPV compares the value of a dollar today to the value of that same dollar in the future, taking inflation and returns into account. If the NPV of a prospective project is positive, it should be accepted. However, if NPV is negative, the project should probably be rejected because cash flows will also be negative.
Your prospects are concerned with the potential profitability of their investments, so if you want them to spend money with you, NPV is something you should be prepared to discuss. (As a side note, we’ve previously discussed why preparing a business case is critical to sales success. We also wrote about how to inspire confidence in your proposal. Those are two initial considerations before you even get to NPV.)
Now, let’s imagine your prospect is comparing your offering (Investment A) to an unrelated investment opportunity (Investment B). The NPV for Investment A is $3,760 and for Investment B it’s $2,949. Remember, NPV measures the cash flow over time from an investment and converts that cash flow to today’s dollars. (For those of you scoring at home, we used an eight percent discount rate in this example.) So, you’re feeling pretty good because your investment opportunity provides a higher NPV.
But what if I told you that the ROI for Investment A is 21 percent and the ROI for Investment B is 1,025 percent? ROI is a simple metric that suggests the rate of expected return for every dollar invested in a project. Now you are thinking, uh-oh, my offering’s ROI is much lower.
Let’s introduce a third metric, payback period. Payback period tells us how long before the cash flow from a project turns positive. In our example, Investment A has a five-month payback period and Investment B has an eight-month payback period.
Present your business case and let it stand on its own merit. The evaluation of the financial indicators is going to vary from prospect to prospect. One prospect might focus on the payback period because they want to know how soon they are going to get back their investment. In this case, the prospect would favor Investment A. Another prospect may be risk-averse and focus on finding the highest ROI with lowest project costs because they are thinking how much capital they’ll lose if the investment doesn’t deliver the benefits. This favors Investment B.
The only guarantee is that if you don’t quantify the value of your solution for prospects, none of the above will matter because your deal will never merit serious consideration.
Do you always give prospects a business case? Are you comfortable with concepts such as ROI and NPV? Share your thoughts in the comments section.