Return on investment (ROI)

Definition

Return on Investment (ROI) is a performance measure used to evaluate the efficiency or profitability of an investment. It is calculated by dividing the net profit from the investment by the initial cost of the investment, usually expressed as a percentage.

5 Must Know Facts For Your Next Test

1. ROI helps in comparing the profitability of different investments or projects.
2. The formula for ROI is (Net Profit / Cost of Investment) x 100.
3. A higher ROI indicates a more profitable investment.
4. ROI does not account for the time value of money, which can be a limitation.
5. ROI can be used to assess both operating segments and individual projects within managerial accounting.

Review Questions

• What is the formula for calculating ROI?
• How does ROI help in evaluating investments?
• What is one limitation of using ROI as a performance measure?

Related terms

Residual Income:

Residual Income measures the excess income generated beyond the minimum required return on operating assets.

Economic Value Added (EVA):

EVA calculates a company’s financial performance based on residual wealth, considering both operating profit and cost of capital.

Balanced Scorecard:

Balanced Scorecard is a strategic planning and management system that organizations use to align business activities with their vision and strategy, improving internal and external communications.