Return on Investment (ROI) is a widely used metric to evaluate the profitability of an investment. It helps investors determine the potential return relative to the cost of the investment, making it a valuable tool for comparing different opportunities.

Basic Example

An investment of $50,000 was made in a sheep farming operation. Over time, it generated $70,000 in returns. Using the ROI formula:

ROI = ($70,000.00 - $50,000.00) / $50,000.00 = or

Bob’s ROI is 40%. This same formula can be reversed to determine the required return needed to achieve a desired ROI.

Difficulty in Usage

While ROI is easy to compute, its simplicity can also be a weakness. The biggest challenge lies in defining what counts as 'cost' and 'gain'. For example, one investor might include taxes and maintenance costs while another might not. The lack of a standard approach can lead to inconsistent comparisons.

Another issue is that ROI lacks a time dimension. An investment with 1,000% ROI over 50 years might be less attractive than one with 50% ROI over a few months. ROI should be complemented with other time-based metrics.

Annualized ROI

To address the time issue, annualized ROI is used. It accounts for the duration of the investment, making it more appropriate for comparing returns over different timeframes. If one investment spans 2 years and another 10, annualized ROI gives a fairer comparison.

When using this calculator, the Investment Time input allows you to compute the annualized ROI, making your analysis more accurate and meaningful.