How to Calculate the ROI of Personalization on E-commerce Websites

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How to Calculate the ROI of Personalization on E-commerce Websites

April 15, 2016 by

Measuring ROI is a critical activity for marketers, allowing them to prove the impact of their efforts, justify their resources, increase their budgets, and more. If you are looking to evaluate the merits of your website personalization initiatives or plans, you can determine the ROI with some straightforward calculations.

My first two posts in this series were focused on demand generation and content publishing use cases. In this post I’m going to show you how to measure the ROI of personalization for e-commerce optimization.

Getting Started

The formula for calculating basic ROI is simple — you just need to isolate the gain you receive and divide it by how much you spend to achieve that gain.


% ROI = (Gain/Investment) x 100


To get started, you’ll need these variables:

  • Monthly volume of unique visitors (UVs)
  • Average conversion rate
  • Average order value (AOV)
  • Average margin
  • Expected increase in conversion rate and/or average order value
  • The cost of a personalization solution
  • Optional metrics you can use to compute the effect on conversion rate:
    • Add-to-cart rate (and expected increase)
    • Cart abandonment rate (and expected reduction)

Note that I’ll be doing all of these calculations with monthly values so that we can calculate the monthly breakeven point later in the post.

How to calculate increase in monthly revenue

Personalization can impact many different metrics on an e-commerce site (conversion rate, average order value, cart abandonment rate, add-to-cart rate, etc.), and each of those metrics ultimately impacts revenue. Let’s start by exploring the impact of improvements in the conversion rate and AOV on revenue and profits.

Projected e-commerce revenues can be calculated by multiplying the number of unique visitors your site receives each month by your average conversion rate and your average order value. Let’s calculate monthly revenue before and after personalization is implemented for this example.

Let’s assume that you have an average of 100,000 monthly visitors, an average conversion rate of 2%, and an average order value of $100. Your monthly revenue would be $200,000.


Monthly revenue before = UVs x Conversion Rate x AOV

100,000 x 2% x $100 = $200,000


If through personalization you achieve a 10% lift in conversion rate and a 10% lift in average order value, you would have a new conversion rate of 2.2% and a new order value of $110. These increases result a new monthly revenue of $242,000.


Monthly revenue after = UVs x Conversion Rate x AOV

100,000 x 2.2% x $110 = $242,000


The increase in monthly revenue can be found by simply subtracting your revenue before personalization from your revenue after personalization. In this case, you have a gain of $42,000 each month.


Gain: $242,000 - $200,000 = $42,000


Note that if you do not realize or expect to realize improvements in both the conversion rate and AOV, just alter the appropriate variable and leave the other constant.

How to calculate increase in monthly profit

Now that you've calculated the impact to revenue, you just need to multiply it by your average margin to understand the impact to your profits. Assuming that your average margin is 20%, you would have an incremental profit of $8,400 each month.


Incremental Profit = Incremental Revenue x Average Margin

$42,000 x 20% = $8,400


How to calculate the ROI of personalization

Now we can return to ROI calculation in beginning.


% ROI = (Gain/Investment) x 100


You just need to divide the monthly gain you receive from personalization (which we just calculated) by what you invest to achieve this gain. If you pay $30,000 a year for a personalization solution, that would be a monthly cost of $2,500, so you’d have an ROI of 336%.


($8,400/$2,500) x 100 = 336%


How to calculate breakeven point

That’s definitely the type of ROI you want to see! As a final step, we can calculate how many months it will take you to make back your investment by dividing your yearly upfront cost by your monthly increase in profits. As you can see below, it’s just 3.6 months.


Breakeven point = Yearly cost/Monthly increase in profits

$30,000/$8,400= 3.6 months


How to calculate impact on other metrics

Throughout this post you may have wondered what to do if your personalization efforts impact other e-commerce metrics aside from conversion rate or average order value. The easiest way to determine this is to identify the impact of these additional metrics on your conversion rate, and then plug that new conversion rate number into the formulas I outlined above.

For example, we’ve found that personalization can increase add-to-cart rates and decrease cart abandonment rates. Note in the formula below how add-to-cart and cart abandonment rates impact overall conversion rates.  


Conversion Rate = (Add-to-Cart rate) x (1 - Cart Abandonment Rate)


Let’s assume that your add-to-cart rate is 8% and your cart abandonment rate is 75%. If that’s the case, you’ll have a 2% conversion rate.


 8% x (1 - 75%) = 2%


If you anticipate that personalization will increase your add-to-cart rate by 2.5% and decrease your cart abandonment rate by 2.5%, you’ll have a new add-to-cart rate of 8.2% and a cart abandonment rate of 73.1%. Plugging this into the formula above, you have a new conversion rate of 2.2%.


8.2% x (1 - 73.1%) = 2.2%


To calculate your ROI with this new conversion rate, return to the top of this post and fill in the calculations with this new conversion rate appropriately.

Wrap up

E-commerce can be a tricky case to calculate ROI because there are a few different metrics that website personalization impacts. Give some thought to where you intend to focus your efforts (average order size, conversion rate, add-to-cart rate, cart abandonment rate, or all of the above) before you begin calculating. Then modify the calculations in this post to best suit your needs. Happy computing!

 

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