Marginal Return on Investment Analysis
In a recent study, 75% of CFOs always or almost always use NPV and IRR in their capital budgeting:
Working out marginal return on investment in different marketing activities
Required Rate of Return
20.0%
Investment
Forecast Incremental Cash Flow/Profit
Year
0
1
2
3
4
5
NPV
IRR
Consumer Advertising
(100,000)
100,000
20,000
10,000


$3,009
23%
Trade Advertising
(100,000)
80,000
40,000
20,000
10,000

$10,841
28%
Publicity campaign
(100,000)
60,000
40,000
40,000
20,000
20,000
$18,609
30%
Salesforce training
(100,000)
50,000
60,000
50,000
40,000
40,000
$47,634
41%
Sales promotions
(100,000)
120,000
10,000
10,000
10,000
10,000
$21,573
39%
Packaging redesign
(100,000)

60,000
60,000
50,000
50,000
$20,595
27%
Product redesign
(100,000)

80,000
80,000
70,000
60,000
$59,722
40%
Spreadsheet Instructions:
Ask the management team to estimate the cash flow from an incremental spending of $100,000 on each of the above activities.
Remove the two extreme estimates and average the rest to compute the incremental cash (contribution) in the matrix.
The spreadsheet does the rest. Use the "Type a question for help" to learn the formula for calculating NPV and IRR.
If you type in NPV and go to NPV worksheet function it presents the formula for NPV.
Required rate of return (RRR) is what management require as a return on capital employed before taxes.
The above spreadsheet can also be modified for other capital budgeting decisions.
NPV stands for Net Present Value which is the sum of the present value of all cash flows (inflows and outflows)
If the NPV is positive it should be undertaken because it is generating a rate of return even higher than the RRR.
A negative NPV means that the rate of return is less than the RRR.