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ROI (Return on Investment) Calculator
Why ROI is More Important Than "Passion"
Whenever you make any investment or think of investing money in a business, it is very important that you calculate the return on investment which we call ROI. See, calculating ROI is not a difficult task, you can easily calculate it. In this post, we will see further how ROI is calculated and now calculating ROI is not a big task, but the main problem is that many times we do not calculate ROI whether a business or investment will give us positive returns or not, rather we become emotional or become more passionate and stop thinking rationally.
When we are more passionate, I have often seen people making these mistakes or it may be that you have also made this mistake, in fact I myself have also made these mistakes. So in this post, we will also see where we make mistakes and how to correct them and how to invest in the right place. So whenever we talk about return on investment (ROI), here I am not talking about any accounting convention, we will think clearly that how much money we have invested in a business or In the investment, how much money did we get back, then according to that we will think of calculating the return on investment.
What is ROI? (The Simple Definition)
Suppose you want to invest in a project, the project can be anything like your business, FD, investment etc. So first of all we see that whenever we invest money in a project, we see how much cash we are investing which is our cash in and secondly how much cash we are getting in return from that project, that is our cash out which is our return, so we want to see how good the returns we got and we want to compare the investments or projects on the basis of ROI which we call return on investment, so the returns we get are per year, that is, here we talk about per year return.
How to Calculate ROI (The Basic Formula)
Return on investment (ROI) = (Cash you get/year)/Cash you put in or (Profit/year)/Investment
This ROI formula means that you have to divide the amount you have withdrawn in a year by the amount you have invested, then that becomes your ROI or we can also say that profit per year means whatever profit you have earned after deducting all the expenses, we divide it by our investment, so this formula applies to every type of investment whether we are talking about FD or mutual fund etc. So suppose you are putting money in an FD, then when you talk about returns like you are getting a profit of 7%, then here you are talking about 7% return of FD, then your ROI becomes 7%, similarly suppose you put money in mutual fund and you get a return of 12% or 15% in a year, then this becomes your ROI.
So now see, these calculations are quite simplified, you know clearly in them How much annual return are you getting or how much annual interest is being promised to you, but when we invest in a business or put money in a place where we have to do some calculations and where we have to use some understanding, then many times we make mistakes there, so how to calculate it correctly and how to compare it with other businesses, we will see examples of all these later.
Example 1: ROI vs. Cost of Capital (Comparing Projects)
Suppose you want to compare a project like you invest in a gym, then let's assume that our investment in it is $10 million and how much return can it give you, i.e. your profit per year is $1.5 million, so here we calculate what our return on investment will be
ROI = $1.5 million/$10 million
ROI = 0.15 or 0.15 × 100% = 15%
So here our ROI is 15% which is good, so now you want to compare this GYM project which we call Project 1 with some other project, i.e. you want to see whether I should invest $10 million in this GYM project or in some other project and let's assume that there is another project in which you want to open a vocational institute and we call it Project 2, the investment in this project is also the same $10 million and the profit of this project is $1 million per year, so we Let us calculate ROI for Project 2
ROI = $1 million/$10 million
ROI = 0.10 or 0.10 × 100% = 10%
So here our ROI for vocational training institute comes to 10% which means Project 2 is giving us a return of 10% so normally we will understand that Project 1 is giving more return than Project 2 so we should invest in Project 1 so this thing also becomes correct when you invest all your money from your pocket and not by taking a loan etc. because when you are investing money by taking a loan then your conditions change.
Let us understand this, suppose if you took a loan then it means that a cost of capital has come because you are not going to get a loan for free so if you have taken a loan then you will have to pay interest on it that is our cost of capital so now we assume that the investment we have made in Project 1 (GYM) is done by taking a loan of $10 million and now here But you have to pay 18% interest every year, so the equation changes here because you have to pay 18% of $10 million i.e. $1.8 million as interest and you are earning a profit of 15% i.e. $1.5 million, so here you are incurring a loss of $0.3 million which is definitely bound to happen because your ROI which is 15% is less than your cost of capital which is 18%, so here you are incurring a loss in this project.
Now if we look at project 2 i.e. investment in professional training institute, there the government gives you a subsidy loan of $10 million that too at 7% interest rate because the government provides loans at low interest rate for some businesses, so here your interest is 7% which becomes your cost of capital i.e. you have to pay $0.7 million and your return is 10% i.e. $1 million which becomes your ROI i.e. we earn $0.3 million every year Profit is being made and here if we look at ROI and Cost of Capital, ROI is more than Cost of Capital due to which our business is giving profit, so we should always keep in mind before investing in any business that the ROI of that business is more than the Cost of Capital of that business, only then that business will be able to give us profit.
Example 2: Calculating ROI for a Real Estate Investment
Suppose we are investing in real estate, suppose we want to build a house and later want to earn profit by giving it on rent, so let's assume this house is worth $10 million and let's assume that we make a down payment of $2 million, that is, we put money from our pocket and we take a loan of the remaining $8 million, so we get this loan at 10% interest rate and now let's assume that we get rent on it, that is our profit and apart from this there will also be capital appreciation in it because rates also increase in real estate, so your total profit is rent + capital appreciation, that is, this is your ROI, so now for real profit, our ROI should be more than the cost of capital, that is, it should be more than 10%. Now the portion of rent, if we talk about residential, is approximately 3%, so it means your capital appreciation should be minimum 7% or more than that, so if capital appreciation If the return is much less than 7%, then it is a very bad thing.
So, let us assume that there is no appreciation for 4 years in real estate, in such a case, the investment becomes dead and you are investing money in it yourself, every year, this causes you a loss. So, many times people are not able to handle it properly. So, whenever you invest money somewhere, first of all, you have to calculate its Return on Investment (ROI) and if you are taking a loan on it, then you should minus it. After that, take out your profit, then calculate your return on investment. Or we can also say that your return on capital should be more than the cost of capital.
About the Author: Abhishek Lohar
B.Com Graduate and the Founder of Free Online Financial Calculator. I specialize in simplifying complex financial calculations and investment strategies. My mission is to ensure you can make confident financial decisions using our research-backed content and accurate calculators.
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Disclaimer: The information provided in this article is for educational purposes only and should not be considered financial advice. Please consult with a qualified professional before making any investment decisions.