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Wednesday, August 24, 2016

What Is the ROI?: The Question That Will Change Your Life

I used to be an impulse buyer with almost everything. I didn’t view these things as assets or investments, and I was wrong.

You own a lot of useless junk.

I still do. I accumulated it because whenever I went shopping, I almost never asked what real value any item actually had. I didn’t view these things as assets or investments, and I was wrong. Every dollar you spend should work for you in some way. Otherwise, you will end up getting burned in the end.

It will change your life if you start asking yourself, “What’s the return on investment (ROI)?”

Letting the Money Use You

I used to be an impulse buyer with almost everything. It was extreme. I would buy random accessories for things that I owned but had no need for, like accessories for a dorm room that I would only be in for a few months. Or I would buy little plastic organizers in an attempt to rid myself of clutter, but it only resulted in more. Or I would be extremely lazy and purchase fast food instead of going home to cook.

Every dollar you spend should work for you in some way.Maybe you do the same thing. Or maybe you know the people who buy a gym membership or Fitbit on the first day of the year thinking they will actually wear it every day, and that they will get more fit because this extra thing will somehow enable it.

For me, a large part of my spending was that I had never had my own income before. Growing up, I obviously relied on my parents for things I needed, but they often didn’t have enough expendable income to get me all that I wanted. So, when I could finally purchase things that I had always wanted, I did. In the end I always wanted more and was almost never satisfied. I thought the extra things would enable me to do more, saying, “Maybe if I buy a guitar I will learn to play it” (Hint: I never did).

Adding Value to Existence

Eventually, I began to realize the absurdity of it all. I scale back what I purchase now, and one large reason is because I’ve begun ask myself before I make a purchase, “What’s the ROI?”

I work now to ensure that the things I purchase always yield more for me than what I initially put forward.

To clarify, I am not treating this question as strictly as an investor would. It’s not like I expect a 3% annual return on a toaster oven, but I do expect it to be at least utilized, regularly, in a way that adds value to my existence.

For example, I love eating out, but eating out every night produces two large problems that lower the ROI:

  1. It’s expensive.
  2. It has decreasing utility over time.

Since it’s expensive, it is creating a large opportunity cost. With all the money I’ve spent on eating out, I could have bought a new car.  Then, because the amount of enjoyment I derive lowers over time, the dollar-to-utility ratio gets worse and worse. So how do I make eating out profitable?

The answer is to do it only when I can gain an added measurable ROI. The most common one is social capital. If I am going out to eat, I am going to do it with an individual or maybe a group of people. Rather than just gaining the raw value of food, I am now gaining the most valuable resource, which is connections with other people.

Other things have great opportunity for a ROI, but only if you actually know how to use and execute them. I had no business buying a guitar before I knew how to play. I had a multitude of other alternatives, from signing up for lessons, to borrowing a guitar from a friend. If you sign up for a gym membership and never go, it’s going to be a terrible ROI.

Magic Money

Many people live in a fairy world where they think if they throw enough money at something, they can magically have results. The money you spend on a gym membership isn’t the real investment, because people are already mentally preparing themselves for the loss.

Many people live in a fairy world where they think if they throw money at something, they can magically have results.The real investment is the commitment to a new habit, the time needed for it, and the strength to persevere in the beginning when it’s most hard. If you invest all of that, and commit to a month of working out at home only to blow your membership at a gym, then you’ve really lost and will feel it much more.

Instead, invest in smaller, more manageable things first before you spend all your money on something you don’t understand. If you can’t force yourself to do push-ups and sit-ups for a month straight before you sign up for a gym membership, then you have no business in signing up for a gym membership.

So the next time you want to purchase something, ask yourself, “How am I going to gain value from this, and what’s the ROI?”

  • Cody Chipman is an alumnus of the University of Michigan, a FEE Seminar Alumni and a current participant in Praxis.