ROI in the Cultural and Creative Industries from an SME perspective
THE LANGUAGE OF THE CREATIVES. The acronym ROI which stands for Return On Investment isn’t something easily understood by most people who work as a salaried employee for a company or by creative talents or creative professionals in the Cultural and Creative Industries (CCI) who find themselves embarking on starting, managing and maintaining their own company unless they’ve taken accounting, finance, marketing or business development courses – and yes, unless they’re entrepreneurs. This is key – how entrepreneurs understand “investment” and the return of their investment – and I’ll come back to explaining why soon.
ROI despite its complexity and the use of the word as part of the business jargon among investors or hard-core business and finance oriented people, can become something familiar if there’s a sympathetic business-minded person who understands the creative psyche and makes an effort to not only explain what to consider in an ROI scenario but how to achieve it and why it is important to address that three-letter acronym in the first place.
As you may already notice, I am stepping into that “sympathetic business-minded person” role for now as I really do need to explain to a number of people I know in both the creative and marketing mould in the CCI why this subject is worth expounding on and understanding. It is also easier for me to do this by writing it all out instead of conducting a lecture on a one-on-one basis numerous times because I tend to travel frequently and these days, the virtual existence is far more reliable than the physical one.
I further need to stress that I don’t want to write this explanation in an intimidating, hifalutin way throwing all kinds of finance and investment jargons about – that’s defeating the purpose of making this article understood by a creative talent or professional who has to deal with either being self-employed or running a compact Small-to Medium-Sized Enterprise (SME) operation. That language will definitely go over the top of the heads of most creative talents I know and I’ve actually experienced this when I brought one creative professional to an intensive full day “Venture Capital Forum”. He hardly understood the speakers and ended up with a headache. He asked me in the cab, after he insisted to leave immediately to avoid the networking cocktail that followed, for a summary (to relieve his sense of distress), and I gave it to him in 30 minutes. This he immediately understood. So again, I am avoiding a particular language to make it easier for creative talents or creative professionals reading this.
The ability to comprehend this particular subject on ROI is not taken in the same way by a creative talent or creative professional. It has to be presented to them in a language they will understand, and interestingly enough, if you’ve travelled and presented to various nationalities whose mother language isn’t English, it will be a language the world should understand – even if the language is still English.
Rick Garofalo, founder of Repertoire, an 18-employee interior design firm with locations in Boston and New York City and annual sales of $9.5 million, has stopped overloading his five designers with the financial aspects of the business. “If I get too deep, sometimes they look at me like the RCA dog. They really don’t understand it” says Garofalo, 48, whose background is in sales and marketing. “It’s that left-brain, right-brain thing.”
LEFT-BRAIN vs RIGHT -BRAIN ORIENTATION. It is a well known fact that the left and right hemisphere of our brain process information in different ways. Most people will tend to process information through a “dominant” side of their brain and that can result in being a right-brained or a left-brained person. The following chart will explain the functions each hemisphere of the brain performs:
We have to realise, therefore, that when we present something understood by “left-brained” persons to “right-brained” creative talents or creative professionals, the presentation has to be in right-brain language.
ROI DEFINITION. So now, let’s tear ourselves away from left and right brain differences for a moment and go back to ROI. What exactly does ROI mean? And why is it important?
If we do not focus on ROI—which at its heart is strategic, not tactical, as some have suggested—then we will eventually lose the right to exercise our creativity. [...] Being held accountable is not a bad thing for any of us. In the end, it will set us free. After all, when it comes to justifying a creative idea to a non-creative person, a chart or graph is worth a thousand words—or dollars.
Jim Tausch, Creative Director, Fusion Productions
ROI deals with “accountability” or “responsibility”. If you’re going to be the head or the “bread-winner” of a company whether you’re the only one in the company, or there are others with you in the same company, ROI is your responsibility to yourself and to others. It will also be something you can use to prove to others that you are a reliable and stable or grounded person because ROI deals with “planning” and illustrating why your plans will work for you.
Let’s go to definitions, a few of them. A definition from Investopedia can be found to explain ROI as:
A performance measure used to evaluate the efficiency of an investment or to compare the efficiency of a number of different investments. To calculate ROI, the benefit (return) of an investment is divided by the cost of the investment; the result is expressed as a percentage or a ratio.
Return on Investment is a very popular metric because of its versatility and simplicity. That is, if an investment does not have a positive ROI, or if there are other opportunities with a higher ROI, then the investment should be not be undertaken.
Keep in mind that the calculation for return on investment can be modified to suit the situation -it all depends on what you include as returns and costs. The term in the broadest sense just attempts to measure the profitability of an investment and, as such, there is no one “right” calculation. For example, a marketer may compare two different products by dividing the revenue that each product has generated by its respective expenses. A financial analyst, however, may compare the same two products using an entirely different ROI calculation, perhaps by dividing the net income of an investment by the total value of all resources that have been employed to make and sell the product.
This flexibility has a downside, as ROI calculations can be easily manipulated to suit the user’s purposes, and the result can be expressed in many different ways. When using this metric, make sure you understand what inputs are being used.
Further definition brings to light that:
Most business people, however, use “ROI” simply to mean the “Return” (incremental gain) from an action, divided by the cost of that action. In this sense, an investment that costs $100 and pays back $150 after a short period of time has a 50% ROI. When “ROI” is requested, it is prudent to ask specifically how that is to be calculated. Understand clearly, that is, how both the “return” and the “investment” are derived and what time period is covered.
Or put simply in another way, ROI is:
The income that an investment provides in a year. (Investorwords)
FINANCING THE CREATIVE INDUSTRIES, THE REPORT. Now, the reason why I wanted to address the ROI issue from a CCI “Small-to Medium-Sized Enterprises” (SMEs) perspective (more of the three letter acronyms) is based on a report I reviewed and the actual experience I’ve had in both the EU and the Asia-Pacific region with regards to the various sectors in the CCI and the management and financing of these SMEs.
The report is a good one although in my opinion, it already proves something we all know about the difference between how a “creative” mind thinks and works or does business, and the viewpoint from a “logical” mind. The key thing is to always remember that we all have the capacity to be both creative and logical – two parts of our brain exist in one head harmoniously already, so it’s really possible – if we can exert control and focus on a “balance” or even at least try to exercise the weaker part or a skill to improve and manage a good “business” future.
On to the report. “The Financing of UK Creative Industries SMEs” study report commissioned by the UK government’s Department for Culture, Media and Sport (DCMS), furnished data from 635 UK Creative Industries SMEs obtained from six sectors: Design, Film and TV, Software and Computer Games, Interactive Leisure Software, Advertising, and, Music.1
SURVEY QUESTIONS. The findings from the questions asked were summarized as follow:
A. Do you use debt to finance your business?
59.7% = Yes
40.3% = No
B. Have you ever tried to raise finance for the business itself, as opposed to finance for an individual project?
37.2% = Yes
62.8% = No
C. Has anyone invested cash in your business in exchange for shares?
13.3% = Yes
86.7% = No
D. Does your business have an overdraft facility?
29.6% = Yes
70.4% = No
E. Does your business use invoice factoring?
1.5% = Yes
98.5% = No
F. Does your business have a long-term bank term loan?
9.8% = Yes
90.2% = No
G. Does your business use equipment or lease finance?
18.2% = Yes
81.8% = No
H. Do you have a business plan?
35.9% = Yes, a formal plan
34.9% = Yes, some ideas written but not formal
29.2% = No
The study report concluded with a number of suggestions,2 one was that:
[...] greater awareness of the need for business planning in SMEs could help to establish their credibility when seeking finance.
CREATIVES – COMPREHENSION? I would like to draw attention to three (out of six – with the first three questions covering company turnover, subsector classification, and company size) of the questions each CCI SME is asked and consider how a creative talent or creative professional would actually respond (note that these are left-brained questions asked by left-brained assessors of right-brained creatives):
- Has the company got a business plan?
- Has the company ever tried to raise equity finance?
- Does the company make use of debt finance?
THE REAL CONCERN. The high percentage of negative responses to the survey questions in the study report indicate two problem faced by CCI SMEs to me, and these highlight:
- the lack of awareness and familiarity of standard business and finance operation and processes; and,
- the difficulty faced in preparing a business plan, and particularly, financial projections showing ROI.
It is not surprising that we have the conclusion to the report as aforementioned, including the added proposal that public intervention and focus should be shifted – in the hopes of offering a better return on investment “… away from start-ups and early stage businesses towards a group of SMEs which appear … to be ‘stuck’ at a turnover range around £300-400k …”
“CREATIVE-FRIENDLY” SME TRAINING. I believe the real problem is really in understanding that anyone with a creative talent, or the creative professional isn’t conditioned like a normal entrepreneur from the business sectors outside of the CCI (for example, accountants, lawyers, doctors or merchants) and a normal entrepreneur can be further classified as a professional or accidental entrepreneur. For most creative professional, they fall under the accidental entrepreneur classification with the added difficulty of having little or no exposure or immersion in business related processes (you can note that 70.4% of the CCI SMEs interviewed in the earlier DCMS report mentioned ran their businesses without using invoice factoring). I believe we need to construct a “creative-friendly” SME training programme that will enable the self-employed creative talent or SME creative professional to manage a CCI business effectively and efficiently.
Creative workers constitute 30% of the American workforce, add trillions of dollars to the country’s GDP, and earn 50% of the salaries, notes Richard Florida, author of bestseller The Rise of the Creative Class. So understanding the nature of creativity is more important than ever.
“The workplace of today isn’t set up to manage creative people,” Florida says. “It’s a recipe for competitive disaster to manage creative people like they’re industrial workers.”
There are “myths” about the “creatives” such as “creatives are disorganized”, “creatives are crazy”, and “you can’t learn creativity from a book”. Oftentimes these myths deliver damaging, negative impressions that lead to inherent distrust of creatives by business people who believe that: “creatives only care about creative work”; and, “creatives don’t follow business logic”.
The Creative Professional: A Survival Guide for the Business World, Howard J. Blumenthal
CREATIVES AND THE BUSINESS PLAN STRUCTURE. That is true. In business, especially in the administration and management of it, we need to rely on our left-logical brain and employ business logic. Business logic enables us to understand what we must put together in a straight-forward way to potential investors in a format they all understand – the business plan – and the inclusion of necessary information required to tackle generally five basic concerns:
- VISION – What is the business all about? What is being “built” into a business venture?
- MISSION – Why should the business exist? Why the drive? What is the role we play, what’s the focus?
- OBJECTIVES – What are we trying to achieve? How can we measure success to determine if we’ve met the objectives?
- STRATEGIES – How can we achieve the “Objectives”? How will we build the business and protect it?
- PLANS – What should we do and what is the work?
You must simplify. You must make the complex simple, then you must make it work.
- I.M. Pei, Master Architect
It is in Objectives and Plans that we have to work in the ROI financial forecast and this is where I will have to adapt to IM Pei’s instruction to “make the complex simple” so ROI can be simply understood. Now, while I initially said and seemed to imply that “creatives don’t follow business logic” and the importance of business logic, I need to clarify that creatives, in fact, are mathematically inclined and you can note demonstration in this by their ability to understand, manage, manipulate and master complex graphic softwares that deal with photographic and video manipulations and animation, to CAD-CAM that require specific calculations to produce the required blue-prints for a world renown massive architectual project. Or in music and sound engineering, the manipulation of sound frequencies, white, pink or various coloured noise, and the mixing of various complex and sensitive equipment and instruments, vocals and audio emissions to enhance a particular track.
Creatives are used to and are exposed to mathematical calculations. They are immersed in calculations.
The only difference in the way they see the calculation from others outside of the CCI is illustrated by the fact that their mathematical calculations produces audio/visual results that everyone can actually see and understand immediately – you see the mock-ups, the WIPs (work-in-progress), the illustration and television programme pilots, you hear the music samplers; whereas, ROI projections with accounting, finance and marketing professionals don’t produce immediate results (or even “sampler format”) except “forecasted” numbers that tell you a “probable scenario” – if you do this, you may get this result, you may make this profit. Finance and Investment people tend to be immersed in probabilities.
ROI, as I explained to one marketing executive in the TV sector of the CCI can follow many “formulas” which we have to use in a logical way. To a self-employed Chinese artist who wanted to know how to sell his artwork and promote himself, the formula I explained required an understanding of what his monthly overheads or what the regular monthly expenses were, both personal and for producing his artwork. To a newly promoted Filipino television marketing manager, understanding what an ROI is will make him realise why he shouldn’t accept x- or barter-deals or drop his rates when he works on a promotional package, and why he shouldn’t employ price-war tactics against a competitor. To an extremely talented British graphic artist who wanted to run his own operation and incorporate a technology support group, the ROI explained what he has to make to survive, how many clients he should have, how much he should charge in order to either break-even or preferably, make that profit so he can continue to do great projects he enjoys and have fun in the process.
Making a profit can be fun – especially if the ROI allows that to happen.
continuation: Basic ROI Calculation for the Creative Professional
[1] The revised UK definition of the CCI sectors can be seen in the following chart:
[2] Conculsions
1. Creative Industries SMEs cannot be considered as a block in terms of their requirement for and their access to finance. Generalisations about such issues are likely to be misleading.
2. SME needs for and access to finance in the Creative Industries vary according both to size, sub-sector, and their position in the value chain that stretches from creator to consumer.
3. We propose that the difference identified between SME subsectors can be explained in large part by the profound differences in their underlying business models.
4. We suggest that greater awareness of the need for business planning in SMEs could help to establish their credibility when seeking finance.
5. We propose that shifting the focus of public intervention in the sector away from start-ups and early stage businesses towards a group of SMEs which appear from our data to be “stuck” at a turnover range around £300-400k might offer a better return on investment.
The Financing of UK Creative Industries SMEs
Laura Clayton, Consultant, Burns Owens Partnership Limited
Hugh Mason, Partner, Pembridge Partners LLP
4th July 2006
