Return on Investment (ROI):

The Return on Investment (ROI) is a financial metric that calculates the return or profit generated by an investment compared to its cost. It represents the percentage of revenue or gain earned in relation to the initial investment.

Formula: ROI = (Gain from Investment – Cost of Investment) ÷ Cost of Investment

Interpretation:

• A positive ROI indicates a profitable investment, with the gain exceeding the cost.

• A negative ROI suggests an unprofitable investment, where the cost exceeds the gain.

• A zero ROI means the investment has broken even.

Example: If you invest $10,000 in a stock that gains 20% over time, your total return would be $2,000 (20% of $10,000). The ROI would be:

ROI = ($2,000 – $10,000) ÷ $10,000 = -80% (loss)

Types of ROI:

1. Net Present Value (NPV) ROI: Measures the present value of future cash flows.

2. Internal Rate of Return (IRR) ROI: Calculates the rate at which an investment generates a net present value of zero.

3. Payback Period ROI: Determines how long it takes for an investment to recoup its initial cost.

Importance of ROI: ROI helps investors evaluate the potential returns on their investments, making informed decisions about which opportunities are most attractive. It’s essential for real estate investing, as it allows investors to compare different properties and investments based on their expected cash flows and profitability.