What is ROI?
ROI stands for Return On Investment, which means return on investment. This is a mathematical metric used by investors to gauge how well a particular investment is performing. Return On Investment can also be used in a variety of ways to gauge the business performance of an industry segment. Many businesses also use this index to assess the level of investment management.
If a business has immediate goals, including revenue market share, infrastructure building, or product positioning, return on investment can be measured based on meeting one or more criteria. rather than profit or cost reduction.
The formula for calculating Return On Investment?
The formula for calculating Return On Investment is relatively simple, calculated by subtracting the “present value of the investment” from the “investment cost”, then dividing it by the “investment cost” and multiplying by 100.
For example, an investor A has 5,000 USD in ETH with an initial purchase price of 1,000 USD/ETH in 2016. Then the ETH price started to increase and reached 1750 USD/ETH in 2018. Return On Investment now can be calculated as follows: ROI = [(5,000/1,000) x 1750 – 5,000]/5,000 x 100 = 75%. If the value is in USD, the equivalent profit is 75% x 5,000 = 3,750 USD.
With this index information, Investor A can compare performance against other projects. Suppose investor A also has an investment in BNB with the amount of 5,000 USD, the purchase price is 200 USD/BNB in 2017. After that, the BNB price increases and reaches 300 USD in 2018. The corresponding ROI is 50%. Therefore, if compared to an investment in ETH, an investment in BNB has a worse performance, due to the ROI being 75% smaller.
Advantages and disadvantages
- Measure good profitability
For investors, ROI helps determine the effectiveness of an investment based on how the assets have been used to generate profits, which helps them have an optimal adjustment direction. investmentization.
For business units, ROI helps with cost-benefit analysis, helping managers figure out the expected rate of return from different investment proposals. This allows them to choose an investment that will enhance the performance of the entire portfolio.
- Analyze – compare
ROI helps to compare the effectiveness of an investment or business between different companies/investors provided that the companies/investors are of similar size and in the same industry.
- Consistent with accounting measurements
ROI is based on financial accounting calculations accepted in traditional accounting. It does not require creating a new measurement when calculating this metric. All the numbers needed for the calculation can be easily found in a regular financial statement.
Investor A’s ROI calculation examples show the limitations of using this metric. While the index of the investment in ETH is higher than the investment in BNB (75% vs 50%) but the time to buy until sell ETH is 2 years, while it is only 1 year for BNB investment . Therefore, to be more precise, Investor A can calculate the ROI on an annual average instead of the traditional index. Accordingly, the average annual ROI of the respective ETH investment is 37.5%, while that of BNB is still 50%. With this adjustment, it seems that the investment in BNB is more profitable than ETH.
ROI is an effective metric used to evaluate investments. The formula for calculating this index is also very simple. Therefore, new players need to take advantage of the advantages of index to evaluate and properly orient their investments.