ROI, which is an abbreviation for return on investment, is a metric that measures how much money a business has earned or lost in relation to the initial investment. Using ROI, business owners can decide whether the investment is worth making and see the profitability of each business unit that can help to optimize their operations and increase earnings.
Many enterprises use ROI because it is simple and versatile. Once calculated, ROI is a useful metric for both business owners and investors because they can see whether the business is profitable and worth investing money. For example, if there is a clothing store that has a 20% ROI and another similar store with ROI of 5%, investors will tend to put their money in the store that brings more profit.
The formula to calculate ROI is quite simple. To calculate ROI you need to divide net profit by the cost of investment and multiply by 100%. Net profit is calculated by subtracting the cost of investment from the investment’s current value.
For example, let’s say that you have purchased an old car worth 500$. After certain renovations that cost you an additional 400$ and made this car worth 900$, you sell this car for 2.500$. A formula for this case will look as follows:
(($2.500 – $900) / $900) x100
ROI = 177.7%
The same way ROI can be calculated for anything, from stock investments to marketing campaigns. and because it is flexible and clear many enterprises use ROI to calculate their profits.
As well as with any other formula, there are advantages and disadvantages of ROI.
Advantages:
Disadvantages:
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