Return on Investment, commonly abbreviated as ROI, is a financial metric that is widely used to evaluate the probable return from an investment or to compare the efficiency of different investments. The ROI calculation is a simple ratio of the net profit over the cost of the investment. The result is expressed as a percentage or a ratio. The formula to calculate ROI is to subtract the initial value of the investment from the final value of the investment (which equals the net return), then divide this new number by the cost of the investment and, to convert it to a percentage, multiply by 100.
ROI is a versatile and straightforward metric that can be used to gauge the profitability of almost anything, from a stock investment, to the return on a real estate transaction, to the profitability of a marketing campaign. It is particularly useful because it is a standardized measure, meaning it can be used for comparing the efficiency of several different investments. However, ROI does not account for the time value of money, and it can be too simplistic for complex investments. It also doesn’t take into account the risk of the investment, which can affect an investor’s decision-making process. Despite these limitations, ROI remains a fundamental element of financial analysis for businesses and individual investors alike.