What is Return on Investment (ROI)?
Return on investment (ROI) sometimes referred to as GMROI measures a business’s ability to turn inventory into cash above the cost of the inventory (profit). This ratio informs you of how much money you earn for every dollar you invest in inventory. A higher ROI indicates greater profitability and increased inventory efficiency.
A ratio over 1 means you are selling your inventory for more than the cost to acquire it. If your ROI is less than 1 you are selling your merchandise for less than its acquisition cost, thus losing money on each sale.
For example, if your ROI is 1.25 this indicates that the revenue earned is 125% of its cost, or for each dollar spent you earned $1.25.
What affects your ROI?
ROI can show substantial variance depending on the market, product category, competition, as well as where the product falls in the life cycle stages. You should expect to see less return on a product that is new to the market than you would on a mature product.
Typically ROI is negatively impacted by over/understocking inventory. Having excess inventory ties back your business, cash is tied up in older units, preventing you from purchasing new inventory. This ratio will also be affected by the age of the inventory. Products that have been in Amazon for over 90 days typically incur higher storage fees.
If units are not selling you typically need to reduce the price or increase ad spend, cutting into your gross margins.
You can review trends in historic sales performance and sell through rate to better understand customer demand as you progress through different life cycle stages and seasons. Be sure to keep an eye on the competition and always consider your advertising strategy at the time.
ROI = [(Item Price - COGS - Fees- Ad spend)/Average Inventory Cost]