Lessons Learned In Business

Understanding ROI and Margin For Amazon – Wholesale Course Module 2 Part 4

Wholesale System Module 2

This Post is part of the “FREE Wholesale Training Course”.  You can view the entire course listing and introduction to the course here.

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Module 2:  Wholesale Preparation

You can click on each of the links above to go directly to the area of the module the best interests you.  That being said, lets get right into the content!

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Understanding ROI and Margin For Amazon

The main goal of selling things on Amazon is to make money…correct?  But, how do you know how much profit you are making?

There are two specific terms that you need to be familiar with, and I’ve separated this specifically from the “terminology and lingo” area of the course because of their importance.  What are they?

Margin and Return on Investment (ROI).

Sometimes people will interchange both of those terms, even though the numbers are calculated totally differently.

First, let’s take a look at margin.  The basic definition of margin is “The difference between revenue and cost of goods sold (COGS) divided by revenue, shown as a percentage.”   The formula for this is ((Revenue – COGS) / Revenue).

margin definition

Let’s look at this in an example:

You purchased an item for $50.  It sold for $80.  What is the margin percentage?  Using the formula above,  that would be (($80 – $50) / $80), or $30 / $80, which is 37.5% Margin.  Don’t want to do the math?  Use a simple margin calculator.

Now, let’s take a look at ROI.  ROI stands for “Return on Investment”.  The basic definition of ROI is “The gain or loss generated on an investment relative to the amount of money invested.”  In the context of inventory, the COGS would be the “amount of money invested” and the “gain or loss generated” would be the profit made.  The formula for this is Profit / COGS.

roi definition

Using the same example as above:

You purchased an item for $50.  It sold for $80.  What is the ROI?  The profit is $30, so using the formula above, that would be ($30 / $50), which is 60%.

Seems simple right?

Let’s Throw a Wrench Into It – Amazon.

In most selling circles, and in most Amazon related software tools, the calculations used aren’t as simple as shown above.  When ROI and Margin are brought up, they typically will also include Amazon related fees. The fees that are most typically included are Amazon’s Commission and Amazon’s FBA Fees.  Here’s what the same example above would look like now:

You purchased an item for $50.  It sold for $80.  Amazon’s Commission was $12.  The FBA Fees for this item were $8.  What is the Margin and ROI now?

For margin, most people add Amazon’s fees to the COGS.  That would be $50 + $12 + $8.  A total of $70.

amazon margin definition

Using the margin formula above, that would equate to:

(($80 – $70) / $80) or $10 / $80, which is 12.5% Margin

That is a big difference from the 37.5% margin we saw earlier.

For ROI, most people deduct Amazon fees from the Profit number for calculations.  That would be $30 – $12 – $8.  A total of $10.

amazon roi definition

Using the ROI formula above, that would equate to:

($10 / $50), which is 20% ROI.

Again, another large difference from the 60% ROI earlier.

Why Add in Amazon Fees?

The reason why most sellers add in Amazon fees is because those fees are about as absolutely fixed as you can get.  They are variable dependent on the product you are selling, but once you know what the exact fees will be for a specific product, they are pretty fixed and don’t change.  Since these fees aren’t things you can change when you are selling on Amazon, it’s wise to use this information when making buying decisions.  With a traditional e-commerce or brick and mortar retailers, you wouldn’t normally include these types of charges because they are variable.  Marketing costs and outbound shipping charges and fulfillment fees can easily change, and are difficult to attach to a specific product like you can with Amazon fees.

Exception: Amazon changes their fee structure roughly once per year.  When this happens, they give you some notice so you can adjust to the new fees ahead of time.

What About Time?

There is another calculation that you can factor in with ROI.  It’s time.  Or put another way – “Annualized ROI”.

This can make a huge difference when debating between purchasing two items.  Let’s use the hypothetical item above again.  The ROI that we calculated was 20%.  But that’s just assuming we bought, and we sold it.  It doesn’t factor in the time.  When trying to determine weather one investment is better than another, you need to factor in Annualized ROI.

Let’s say we bought one item for $50, that sold for $80 with $20 in Amazon Fees.  It took 3 months for the item to sell.

Then, we bought another item for $20 that sold for $32 with $10 in Amazon Fees.  It took 1 month for the item to sell.

Which is a better investment?

confused

Looking from a straight ROI perspective, the item bought for $50 is 20% ROI.  The item bought for $20 is 10% ROI.  Easily the $50 item correct?  Well, let’s factor in Annualized ROI.

Annualized ROI is taking ROI for something and saying “if we did this the entire year, what would the total be?”  In the $50 item example, we would be able to turn the item 4 times.  This means as soon as we sell the first one, immediately we buy another one and do it over again.  Then again, and again.  Every 3 months we sell one, which is 4 times over a year.  Assuming we still are using the original $50 investment, we’ve now profited $40 after all Amazon fees.  In this case, the Annualized ROI would be 80% ($40 / $50).

Let’s do the same thing for the $20 item.  $2 profit per item sold, but we are able to sell it 12 times since one sells every single month.  This means we profited $24 over the year.  The Annualized ROI in this example would be 120%. ($24 / $20)

In reality the $20 item actually would do better over a yearly basis than the $50 item.

Something to keep in mind, this is a 100% hypothetical example to explain what Annualized ROI is.  When factoring Annualized ROI in real life, there are many other factors to think about such as:

  • Lead times
  • Rate of sales change
  • Availability of product
  • Demand of product

It’s not exactly cut and dry – but I’m sure you can understand why Annualized ROI is an important thing to consider.

Yay!  Now you are an ROI and Margin Master.  Before heading on to the next part of this module, how about clicking on the share button below and sharing this article?  Every share makes me want to work even harder on making this course better!

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Continue on to Module 2 Part 5: Analyzing competition and potential volume

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Chris Potter

Chris Potter is an internet entrepreneur that loves working on businesses and helping others with their businesses. He has operated businesses that have sold over $25 million in retail sales, bought and sold a blog design business, and started websites from scratch. Skyrocket your business by joining his Mentoring Program!

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