Updated Feb 20, 2022

What is Return on investment (ROi)

What is R.O.I?

Introduction

In order to measure the profitability of an investment, return on investment is employed. When evaluating an investment's ROI, the method takes into account how much the investor spent and how much they gained. Let us look at how both individual investors and corporations utilise it.

What is ROI?

In the case of an acquisition or a commercial venture, ROI may assist you in determining how much gain or loss your venture has generated. The net income (or loss) from an asset is divided by the investment's cost to arrive at the primary ratio known as return on investment. In other terms, it may be defined as the difference between the additional profits or gain from a company activity and the cost of running the business operation (operating cost).

Importance of ROI

It assesses the efficiency of the firm, determining whether or not the resources are being used to their full potential. In the case of publicly-traded enterprises, it is a critical financial statistic for management in order to please the shareholders. It is used by small and medium-sized enterprises to evaluate the success of projects/investments as well as the overall performance of the company.

Example: If you make an investment of 100 INR in a share of stock and the company's value climbs to 110 INR by the close of the financial year, you will have made an excellent 10 percent return on your money as long as no dividends were paid on the stock.

How to Calculate Return on Investment?

Divide the return on investment (ROI) by the amount invested and multiply the result by 100. The result should be given as a % of the total. This formula has the following possible representations:

Return on Investment (ROI) = (Net Profit / Cost of Investment) x 100

Net Profit= Current Value - Investment Cost

Advantages of ROI

ROI has the following advantages:

• Saving time and money for investors and financial professionals.
• In addition, ROI may be used to evaluate various investment options.
• It also helps comprehend and measure the returns on investment in certain areas.
• It aids in evaluating market rivalry.
• Return on Investment (ROI) is one of the essential financial ratio computations.
• Finance, investing, and business are all understood by laypeople.

Uses of the return on investment

Every company and investment a person engages in or produces needs ROI. Here are a few essential uses of ROI:

• The easiest way to calculate the investor's return on investment is to use the return on investment percentage.
• ROI is a useful tool for evaluating investment prospects.
• It may also be used to calculate or compare the returns of previous investments. The first thing you'd do before investing in a business is to see how well it has performed over the last five to ten years, and the first thing you'd look at is its return on investment. The return on investment (ROI) may be used as a signal to monitor an investment's progress. However, even when an investment has a high return on investment (ROI), it may be time to consider selling it if its ROI is too low.
• Investment decision-making relies heavily on return on investment (ROI). It's a useful tool for comparing high- and low-performers. By doing so, investors and their financial advisers are able to maximise their investment dividends by investing in assets with the highest rates of return.

What is a decent return on investment?

In addition to the investor's risk tolerance, a "good" return on investment is determined by the investment's time horizon. A risk-averse investor will accept a lesser return in trade for less risk if all other factors are equal. Long-term investments sometimes need a higher return on investment to entice investors and vice versa.

Conclusion

Using ROI to assess an investment's efficiency is simple and straightforward. This commonly used formula lets you evaluate investment alternatives side by side. Risk and time horizon are not taken into consideration in the calculation of ROI, which also demands a precise costing of all expenses. So, although ROI may be used to quantify an investment's profit, it is best to examine investments over time to determine the true profit margins or percentages.