Return on Investment (ROI)

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What is Return On Investment (ROI)


Definition of Return On Investment

Return on Investment, or ROI, shows how profitable an activity was by looking at its upfront cost versus the net profit it produced. 

ROI could take into account how much time and effort was invested in the activity and provide a measure of how efficiently you used your resources.

Clearly, ROI is one of the most important metrics to consider when making business decisions. If you want to be sure that you’re investing in the right things, ROI is your way to find out.

Examples of ROI in action

Return on Investment is often used in marketing to measure how effective a piece of marketing has been at bringing in new business.

Imagine your business decides to launch a digital marketing campaign to coincide with the launch of a new product. You choose Google pay-per-click as your main marketing channel and commit to a budget of $5,000 per month.

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After running this for 3 months, you review sales and find that you have secured 7,000, thanks to the PPC campaign. If your product costs $10 with a margin of 50%, then you’ve made $5 on each sale, or total profit from sales of $30,000.

To work out your Return on Investment, simply subtract your marketing costs from the profit you made. In this example, that’s easy.

$30,000 - $15,000 = $15,000 

Congratulations, you doubled your investment! 

That’s $2 back for every $1 spent or an overall Return on Investment of 100%.

ROI is also used to work out how wisely you might have invested in stocks and shares.

If you decided to buy 1,000 shares of a stock at $10 each, then sold those a year later for $12 a piece, you’ve made $12 for every $10 you spent, or $1.20 for every $1. In this case, your return on investment is 20%, because you made back your initial investment plus an extra 20%.

You can calculate your own ROI by using the following formula:

((net return on investment) – (cost of investment)) / (cost of investment) x 100

So, $12,000 Return on Investment, minus the $10,000 cost of investment = $2,000.

Then divide this by the cost of the investment ($10,000) and you get 0.2.

Finally, multiply this by 100 and you get 20% as your overall ROI.

Common challenges when calculating Return on Investment

Unfortunately, things are not always as straightforward as the examples above. Calculating ROI can be tricky if the costs and returns are not clear.

With stocks and shares, broker fees and dividends need to be considered. In the world of marketing, costs can change quickly and dramatically (i.e. maybe you have to hire an expert to build your campaign) which adds to the investment cost.

Finally, it is difficult to calculate Return on Investment for some types of marketing. For example, you can’t track results from TV, printed media, and SEO as easily as you can with digital channels.

General FAQ

How to calculate return on investment?
To calculate your Return on Investment, simply follow this formula: ((net Return on Investment) – (cost of investment)) / (cost of investment) x 100 To stick with the example above, a $12,000 ROI minus the $10,000 cost of investment leaves $2,000. Divide this by the initial $10,000 cost of investment to get 0.2. Next, multiply this figure by 100 to reach your 20% Return on Investment.
What is a good return on investment?
Opinion on what constitutes a good Return on Investment differs based on industry and the length of the investment. For example, a solid ROI for business owners is believed to be three times the initial investment. For active investors, though, a 15% annual ROI is considered a strong result.
What is the rate of return on investment?
Rate of Return (RoR) is used to measure the performance and value of an investment. It refers to the net gain (or loss) generated by an investment across a set period of time, presented as a percentage of the cost of investment.

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