Selling Your Programs Developing an ROI

Wayne McBrian – Brookstone

Dom Zuccala – Borders Group Inc.

Objectives

• Identify potential uses for the ROI analysis• Build Partnerships to Support Projects• Definitions and gathering information• Example of a capital ROI model• Using the ROI model for non-capitalized projects

Selling Your Programs Developing an ROI

• Define your profit improvement objective.– Improve sales

• Reduce Returns• Improve Profit Margin

– Reduction in operating expense• Reduction in Payroll• Reduce equipment cost or services purchased

• What is the true cost and benefit from your project?

Selling Your Programs Developing an ROI

• Benchmark your objective– Many control procedures or equipment are used

today.– Contact your peers in the industry for feedback.– Review studies like the National Retail Security

Survey from the University of Florida by Dr. Richard Hollinger.*

• If your proposal is something new you start from the bottom by defining what elements you need to achieve success.

• * We make reference to Dr. Hollinger’s 2004 Survey during this presentation

Selling Your Programs Developing an ROI

• Examples where you might develop an ROI for known Capital Improvement.– Burglar Alarms used by 95% of retailers– Non discrete CCTV used by 92%– Digital Video Recording used by 78%– Armored Car used by 66%– Check Approval Database used by 59%– POS Data Mining Software used by 55%

Selling Your Programs Developing an ROI

• Examples where you might need a bottoms up ROI for a capital project.– CCTV Interfaced with Exception

Reporting used by 29% – Timed Entry Safes used by 15%– Vendor Source Tagging used by 8% – RFID used by 6%

Selling Your Programs Developing an ROI

• Examples of a non-capital project where you might develop an ROI or other financial justification.

– Refund Control used by 89% – Void Control used by 86%– Employment Verification used by 75%– Criminal Conviction Checks used by 56%

Selling Your Programs Developing an ROI

• Examples of non-capital programs where you might develop a bottoms up ROI or financial justification.– Mutual Protection Association used by 33%

of Retailers– CD Rom / Internet Training used by 22%– Web Based Communications used by 30%– Pay Check Stuffers used by 29%

Selling Your Programs Developing an ROI

• Obtain Field Support for your Project– Reduce Loss and save Sales

• Get Finance involved– Partnership to improve profits – Obtain goals necessary for funding

• 12 or 24 months for ROI

Selling Your Programs Developing an ROI

• Develop a pilot / test criteria and prove assumptions.– What were the pre-pilot conditions?– Measure as much as possible

Sales Returns Shrink

Voids Payroll Other Expense

• Enter your results in an ROI Model.

Return On Investment Model

Return On Investment Model

Division:Project Name:Asset Useful Life:Accounting Unit:Project Start Date:Project Completion Date(s):Depreciation Start PeriodCapital Project Cost:Expense Project Cost:Write Off:Internal Cost of Capital Funds 6.5%

Initial Year Year Year Year Year Year Year Year YearCapital 1 2 3 4 5 6 7 8 9

Cash Flow Summary Investment 2005 2006 2007 2008 2009 2010 2011 2012 2013

P&L Impact:1 Annual Sales Increase 0 0 0 0 0 0 0 0 02 Margin Increase - Input Margin Rate 0.00% 0 0 0 0 0 0 0 0 03 Disposal Expense 0 0 0 0 0 0 0 0 04 FTE Reductions 0 0 0 0 0 0 0 0 05 Expense Reduction 0 0 0 0 0 0 0 0 06 Depreciation Reduction from disposals 0 0 0 0 0 0 0 0 07 Annual Maintenance / Support costs 0 0 0 0 0 0 0 0 08 Depreciation Expense 0 0 0 0 0 0 0 0 09 Pretax Profit Improvement 0 0 0 0 0 0 0 0 0

10 Income Tax Impact (rate = 38%) 0 0 0 0 0 0 0 0 011 After Tax Profit Improvement 0 0 0 0 0 0 0 0 012 Add back: (Depreciation, net of tax) 0 0 0 0 0 0 0 0 0

Project Costs:13 Initial Project Capital Cost -

14 Annual Project Cash Flow 0 0 0 0 0 0 0 0 0

Total Project Cash Flow 0 0 0 0 0 0 0 0 0

15 Number of Months Payback 0.0

16 Year that Initial Project Capital Cost is Returned

17 Net Present Value of Project Cash Flow $0

Assumptions: Summary:

Instructions:* All areas that require user input are shown in red. If the item is not applicable leave the amounts at zero.

1. Insert project name, project number (if know n), asset expected life (consult property accounting if necessary) and project capital cost in cells C4 through C7. 2. Insert total project capital cost in cell C12. Attached copies of price quotes received from vendors.3. Insert annual sales increase for each year of the life of the capital asset. The margin increase w ill calculate automatically.4. Insert the applicable annual expense reduction for each year of the life of the capital asset. Detail the nature of the expense reduction in the area above or on a separate supporting schedule as necessary. Be very specif ic.5. Insert the cost of any additional maintenance or support costs associated w ith the capital item to be added. For example, annual maintenance or license costs for a new softw are package. Another example w ould be any store payroll, annual maintenance fees and supply costs associated w ith new EAS systems. ALL COSTS ON THIS LINE MUST BE INSERTED AS A NEGATIVE AMOUNT. Detail the calculations as needed in the area above. Again, be very specif ic.6. The depreciation amount on lines 5 and 9 is calculated automatically w hen the project cost and asset life is f illed in.

Return On Investment Model - Components

Return On Investment Model

Division:Project Name:Asset Useful Life:Accounting Unit:Project Start Date:Project Completion Date(s):Depreciation Start PeriodCapital Project Cost:Expense Project Cost:Write Off:Internal Cost of Capital Funds 6.5%

Initial Year Year Year Year Year Year Year Year YearCapital 1 2 3 4 5 6 7 8 9

Cash Flow Summary Investment 2005 2006 2007 2008 2009 2010 2011 2012 2013

P&L Impact:1 Annual Sales Increase 0 0 0 0 0 0 0 0 02 Margin Increase - Input Margin Rate 0.00% 0 0 0 0 0 0 0 0 03 Disposal Expense 0 0 0 0 0 0 0 0 04 FTE Reductions 0 0 0 0 0 0 0 0 05 Expense Reduction 0 0 0 0 0 0 0 0 06 Depreciation Reduction from disposals 0 0 0 0 0 0 0 0 07 Annual Maintenance / Support costs 0 0 0 0 0 0 0 0 08 Depreciation Expense 0 0 0 0 0 0 0 0 09 Pretax Profit Improvement 0 0 0 0 0 0 0 0 0

10 Income Tax Impact (rate = 38%) 0 0 0 0 0 0 0 0 011 After Tax Profit Improvement 0 0 0 0 0 0 0 0 012 Add back: (Depreciation, net of tax) 0 0 0 0 0 0 0 0 0

Project Costs:13 Initial Project Capital Cost -

14 Annual Project Cash Flow 0 0 0 0 0 0 0 0 0

Total Project Cash Flow 0 0 0 0 0 0 0 0 0

15 Number of Months Payback 0.0

16 Year that Initial Project Capital Cost is Returned

17 Net Present Value of Project Cash Flow $0

Assumptions: Summary:

Instructions:* All areas that require user input are show n in red. If the item is not applicable leave the amounts at zero.

1. Insert project name, project number (if know n), asset expected life (consult property accounting if necessary) and project capital cost in cells C4 through C7. 2. Insert total project capital cost in cell C12. Attached copies of price quotes received from vendors.3. Insert annual sales increase for each year of the life of the capital asset. The margin increase w ill calculate automatically.4. Insert the applicable annual expense reduction for each year of the life of the capital asset. Detail the nature of the expense reduction in the area above or on a separate supporting schedule as necessary. Be very specif ic.5. Insert the cost of any additional maintenance or support costs associated w ith the capital item to be added. For example, annual maintenance or license costs for a new softw are package. Another example w ould be any store payroll, annual maintenance fees and supply costs associated w ith new EAS systems. ALL COSTS ON THIS LINE MUST BE INSERTED AS A NEGATIVE AMOUNT. Detail the calculations as needed in the area above. Again, be very specif ic.6. The depreciation amount on lines 5 and 9 is calculated automatically w hen the project cost and asset life is f illed in.

Header Information

Profit and Loss Calculation

Assumptions Summary

Definitions

Return On Investment - HeaderDivision: Home Office, Stores, Distribution Centers

Project Name: Summary Name (Core Merch Systems) or Activity ID (07-04ITS-3600)

Asset Useful Life: Estimated Life that the resulting assets of the project will be in Production

Location/Accounting Unit:

Home office Data Center, Park Avenue Store, #200, or 02003001

Project Start Date: Estimated physical launch date of project if approved

Project Completion Date(s):

Dates Hardware is put into use, date software program and modifications are put into production

Capital Project Cost:

Projected cost of all asset components – hardware, software, development modification and roll-out costs

Expense Project Cost:

Projected cost of all expenditures that are not capitalizable – Pre-project planning hours, employee travel, training, contracted maintenance charges

Write Off: Hardwares or softwares that will be taken out of service when this project is put into production. ($500,000 server purchased 3 years ago will have $200,000 of undepreciated net book value “NBV” remaining) This cost of taking an asset out of service in advance of it’s initially estimated useful life is a cost of the replacement project

Profit and Loss Impact Line Definitions

P&L Impact: All projects have an impact on the income statement, during the project and once it is completed

Annual Sales Increase Sales will be affected for many projects that are rolled out to the stores. This is more often impacted by marketing campaigns and fixture roll-outs, but also by program rollouts and enhancements.

Margin Increase – Input Margin Rate

Increased sales also have additional cost of product sold. We have defined margin rates (sales price in excess of product purchase price) for store categories and departments, and a store-wide margin rate

Disposal Expense The NBV of assets to be written off plus the actual cost to dispose/sell the assets – shipping & freight, hazardous materials charge, seller’s commissions

Payroll Adjustment Cost of the projected number of positions to be added or eliminated from the efficiencies of the completed project. Not a scenario where the project will free up 5 hours/week of staffer’s time. Projects may also lead to an increase in payroll

Expense Reduction Eliminated maintenance costs both contracted and “time & material” repairs, reduced consumables such as paper used in producing a current report, utilities reductions such as data line charges or electrical use

Depreciation Reduction from disposals

Using the “Write Off” example above, the $500K server would have 2 more years of $8,333 monthly depreciation (cost divided by the useful life) removed from expense with the disposal of that asset

Annual Maintenance / Support costs Or expense increases. Contracted maintenance or support fees for the new software or hardware. Increased consumables or utilities.

Return On Investment ModelAssumptions For a Capital EAS ROI

Assumptions:Capital equipment expense of $13,500

Assumed 20,000 Tags per year at cost of .04 per unit.

Assumed 166 hours. Per year @ 9.00 per hour and 3% payroll increase per year. 15 Seconds per unit.

Expense reduction of 30% shrink in year one. Incremental 20% year 2-5.

Sales increase based on .5% reduction in returns for EAS stores.

Maintenance expense of $1,000 in years 3-5.

Return On Investment – Header Capital Example

Return On Investment Model

Division: Specialty StoreCapital Project Name: EAS Install Store 100Asset Useful Life: 5Accounting Unit:Project Start Date: 1/15/2006Project Completion Date(s): 1/30/2006Depreciation Start Period 1Capital Project Cost: 13,500$ Expense Project Cost: 14,963$ Write Off:Internal Cost of Capital Funds 6.5%

Return On Investment ModelROI Calculation

Initial Year Year Year Year YearCapital 1 2 3 4 5

Cash Flow Summary Investment 2006 2007 2008 2009 2010

P&L Impact:Annual Sales Increase 5,000 5,000 5,000 5,000 5,000Margin Increase - Input Margin Rate 50.00% 2,500 2,500 2,500 2,500 2,500Disposal Expense 0 0 0 0 0Payroll Expense (1,500) (1,545) (1,591) (1,639) (1,688)Expense Reduction 6,000 9,400 9,400 9,400 9,400Depreciation Reduction from disposals 0 0 0 0 0Annual Maintenance / Support costs (800) (800) (1,800) (1,800) (1,800)Depreciation Expense (2,700) (2,700) (2,700) (2,700) (2,700)Pretax Profit Improvement 3,500 6,855 5,809 5,761 5,712Income Tax Impact (rate = 38%) (1,330) (2,605) (2,207) (2,189) (2,171)After Tax Profit Improvement 2,170 4,250 3,602 3,572 3,541Add back: (Depreciation, net of tax) 1,674 1,674 1,674 1,674 1,674

Project Costs:Initial Project Capital Cost (13,500)

Annual Project Cash Flow 3,844 5,924 5,276 5,246 5,215

Total Project Cash Flow (9,656) (3,732) 1,544 6,790 12,005

Convert retail sales

to cost

Return On Investment ModelROI Calculation

Initial Year Year Year Year YearCapital 1 2 3 4 5

Cash Flow Summary Investment 2006 2007 2008 2009 2010

P&L Impact:Annual Sales Increase 5,000 5,000 5,000 5,000 5,000Margin Increase - Input Margin Rate 50.00% 2,500 2,500 2,500 2,500 2,500Disposal Expense 0 0 0 0 0Payroll Expense (1,500) (1,545) (1,591) (1,639) (1,688)Expense Reduction 6,000 9,400 9,400 9,400 9,400Depreciation Reduction from disposals 0 0 0 0 0Annual Maintenance / Support costs (800) (800) (1,800) (1,800) (1,800)Depreciation Expense (2,700) (2,700) (2,700) (2,700) (2,700)Pretax Profit Improvement 3,500 6,855 5,809 5,761 5,712Income Tax Impact (rate = 38%) (1,330) (2,605) (2,207) (2,189) (2,171)After Tax Profit Improvement 2,170 4,250 3,602 3,572 3,541Add back: (Depreciation, net of tax) 1,674 1,674 1,674 1,674 1,674

Project Costs:Initial Project Capital Cost (13,500)

Annual Project Cash Flow 3,844 5,924 5,276 5,246 5,215

Total Project Cash Flow (9,656) (3,732) 1,544 6,790 12,005

Expense expressed

as ( )

Return On Investment ModelProjected Cash Flow

Project Costs:Initial Project Capital Cost (13,500)

Annual Project Cash Flow 3,844 5,924 5,276 5,246 5,215

Total Project Cash Flow (9,656) (3,732) 1,544 6,790 12,005

Number of Months Payback 32.5

Year that Initial Project Capital Cost is Returned paid back

Net Present Value of Project Cash Flow $7,584

Return On Investment ModelPutting It All Together

Initial Year Year Year Year YearCapital 1 2 3 4 5

Cash Flow Summary Investment 2006 2007 2008 2009 2010

P&L Impact:Annual Sales Increase 5,000 5,000 5,000 5,000 5,000Margin Increase - Input Margin Rate 50.00% 2,500 2,500 2,500 2,500 2,500Disposal Expense 0 0 0 0 0Payroll Expense (1,500) (1,545) (1,591) (1,639) (1,688)Expense Reduction 6,000 9,400 9,400 9,400 9,400Depreciation Reduction from disposals 0 0 0 0 0Annual Maintenance / Support costs (800) (800) (1,800) (1,800) (1,800)Depreciation Expense (2,700) (2,700) (2,700) (2,700) (2,700)Pretax Profit Improvement 3,500 6,855 5,809 5,761 5,712Income Tax Impact (rate = 38%) (1,330) (2,605) (2,207) (2,189) (2,171)After Tax Profit Improvement 2,170 4,250 3,602 3,572 3,541Add back: (Depreciation, net of tax) 1,674 1,674 1,674 1,674 1,674

Project Costs:Initial Project Capital Cost (13,500)

Annual Project Cash Flow 3,844 5,924 5,276 5,246 5,215

Total Project Cash Flow (9,656) (3,732) 1,544 6,790 12,005

Number of Months Payback 32.5

Year that Initial Project Capital Cost is Returned paid back

Net Present Value of Project Cash Flow $7,584

Return On Investment Process Control - Check ID

Division: Specialty StoreCapital Project Name: Refund ID CheckAsset Useful Life: 0Accounting Unit:Project Start Date:Project Completion Date(s): 1/30/2006Depreciation Start Period 0Capital Project Cost:Expense Project Cost:Write Off:Internal Cost of Capital Funds 6.5%

Return On Investment ModelAssumptions – Process Control

Assumptions:

1) $1,000,000 store with $35.00 sales per transaction - 28,571 transactions

2) Refund rate 7% - avg. return per transaction $35.00 - 2,000 transactions per year.

3)15 seconds per transaction to execute check. Estimated 8.8 hours per year.

4)Assumed reduction of 1 return transaction per week.

Return On Investment ModelROI Calculation – Process Control

Initial YearCapital 1

Cash Flow Summary Investment 2006

P&L Impact:Annual Sales Increase 1,820Margin Increase - Input Margin Rate 50.00% 910Disposal Expense 0Payroll ExpenseExpense Reduction (77)Depreciation Reduction from disposals 0Annual Maintenance / Support costs 0Depreciation Expense 0Pretax Profit Improvement 834Income Tax Impact (rate = 38%) (317)After Tax Profit Improvement 517Add back: (Depreciation, net of tax) 0

Project Costs:Initial Project Capital Cost -

Annual Project Cash Flow 517

Total Project Cash Flow 517Net Present Value of Project Cash Flow $485

Return On Investment ModelROI Calculation – Process Control

Initial YearCapital 1

Cash Flow Summary Investment 2006

P&L Impact:Annual Sales Increase 1,820Margin Increase - Input Margin Rate 50.00% 910Disposal Expense 0Payroll ExpenseExpense Reduction (77)Depreciation Reduction from disposals 0Annual Maintenance / Support costs 0Depreciation Expense 0Pretax Profit Improvement 834Income Tax Impact (rate = 38%) (317)After Tax Profit Improvement 517Add back: (Depreciation, net of tax) 0

Project Costs:Initial Project Capital Cost -

Annual Project Cash Flow 517

Total Project Cash Flow 517Net Present Value of Project Cash Flow $485

400 store chain = $206,800.00 per year

Selling Your Programs Developing an ROI-Summary

• Define your objective

• Implement your program

• Monitor your project

• Measure your success

• Present your ROI Model