| return on investment (ROI) A measure of the net income a firm's management is able to earn with the its total assets. Return on investment is calculated by dividing net profits after taxes by total assets. Also called rate of return, return on assets. Compare profitability ratio. |
Return on investment. Your return on investment (ROI) is the profit you make on the sale of a security or other asset divided by the amount of your investment, expressed as an annual percentage rate.
For example, if you invested $5,000 and the investment was worth $7,500 after two years, your annual return on investment would be 25%. To get that result, you divide the $2,500 gain by your $5,000 investment, and then divide the 50% gain by 2.
Return on investment includes all the income you earn on the investment as well as any profit that results from selling the investment. It can be negative as well as positive if the sale price plus any income is lower than the purchase price.
A generic term to define a number of analytical tools for measuring the financial benefits of an investment, including cash-on-cash, internal rate of return, equity dividend,and financial management rate of return.
What Does Return on Investment Mean?
A performance measure used to evaluate the efficiency of an investment or compare the efficiency of a number of different investments. To calculate ROI, the return on an investment is divided by the cost of the investment, as shown here; the result is expressed as a percentage or a ratio. Return on investment is a popular metric because it is versatile and simple to use. If an investment does not have a positive ROI or if there are alternative investment opportunities with a higher ROI, the investment should not be undertaken.
Investopedia explains Return on Investment
One should keep in mind that the ROI calculation can be modified to suit the situation, depending on how an investment's returns and costs are calculated. In the broader sense, ROI is used to measure the profitability of an investment and there really is no “right” calculation. For example, a marketer may compare two different products by dividing the revenue that each product has generated by its costs. A financial analyst, however, may compare the same two products by 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. As can be seen, this can cause problems as ROI calculations can be manipulated to suit the user's purposes. In using ROI, one must be sure to know the inputs that are being applied.
Related Terms:
• Compounding
• Return on Equity—ROE
• Return on Investment Capital—ROIC
• Return on Net Assets—RONA
• Total Return
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