How to calculate return on investment? Investment return index formulas

What does return on equity show?

Return on equity, like other profitability indicators, indicates the efficiency of a business.
More precisely, about the return with which the owners’ money invested in the company’s capital works. To put it simply, profitability helps to understand how many kopecks of profit each ruble of its equity capital brings to a company. Return on equity can give an idea to the investor or its specialists how successfully the company manages to maintain the return on capital at the proper level and thereby determine the degree of its attractiveness to investors.

The system of indicators has a similar indicator - return on assets ( see “Determining return on assets (formula from the balance sheet)” ). However, in contrast to it, return on equity allows us to judge precisely the work of the net equity capital of the enterprise. At the same time, the funds raised and spent on the acquisition of property may also interfere with the return on assets.

So how is profitability calculated?

Another indicator of profitability, return on sales, may be of interest not only to owners and investors, but also to tax authorities. Why they analyze profitability and why its low level can be dangerous, you can find out from ConsultantPlus. Get trial access to the system for free and proceed to the Tax Audit Guide.

Business valuation based on return on investment

When analyzing return on investment, you should not rely solely on ROI, since this is often not enough to obtain reliable results. In assessing the attractiveness of a company from an investment point of view, an equally important factor is the time period. It would seem that an ROI of 30% looks better than an ROI of 20%. However, this 30% could be obtained in 3 years, and 20% in a year, which means, in terms of one year, the return on investment ROI in the second case will be higher. But you need to understand that investing for a year sometimes entails great risks, and an investor may be attracted to a longer-term and less dangerous project.

The payback period is one of the key indicators for an entrepreneur if he plans to invest his own funds and chooses the most profitable one among possible projects. But the investor himself decides how exactly he will make the calculations.

How to find return on equity ratio

Profitability is always the ratio of profit to the object whose return needs to be assessed. In this case, we are looking at equity. This means that we will divide the profit into it.

In financial analysis, return on equity is usually denoted using the ROE coefficient (short for return on equity). We use this notation, and then the formula for calculating the indicator may look like this:

ROE = Pr / SK × 100,

where: ROE is the required profitability;

Pr - net profit (the return on equity indicator is calculated only based on net profit).

SK - equity capital. To make the calculation more informative, the average SC indicator is taken. The easiest way to calculate it is to add the data at the beginning and end of the period and divide the result by 2.

Return on equity is a ratio that is relative in nature; it is usually expressed as a percentage.

What is profitability? Formulas for calculating return on investment

The basic return on investment formula looks like this:

The investment amount is the initial investment amount plus additional investments (“top-ups”). Investment profit can consist of the difference between the purchase and sale price of an asset or the net profit of an investment project. This may also include regular payments from sources of passive income (for example, stock dividends).

If the profit is unknown, but you know the initial investment amount and the current balance (the amount of purchase and sale of an asset is also suitable) - use this formula:

Return on investment is measured as a percentage and can serve as a reliable guide for comparing two investment projects. The following example looks very illustrative:

Project A - $1000 profit per year with an initial investment of $5000. Profitability - $1000/$5000 = 20%

Project B - $1000 profit per year with an initial investment of $2000. Profitability - $1000/$2000 = 50%

Obviously, project B is more profitable, since it gives a higher return on investment, despite the fact that the investor’s net profit is the same - $1000. If you increase the amount of investment in project B to $5,000, with a return of 50% per year, the investor will already earn $2,500.

That is, the profitability clearly shows in which project, other things being equal, the investor will earn more. Therefore, an investor with a limited amount of investment in his portfolio tries to select assets with higher returns.

Calculation of profitability for several investment periods

In practice, there are often situations when investments work for many periods in a row - simple interest (profit is withdrawn after each period) or compound interest (profit is reinvested) begins to work.

Compound interest formulas are designed to ensure that the rate of return always remains constant. But this happens, perhaps, only in banks - much more often the profitability for each new time period will differ. How to calculate the return on investment in this case?

If at the end of each investment period the profit is withdrawn, then everything is simple - add up the returns :

For example, if a project brought 5% in the first year and 10% in the second, then yes, the profitability for 2 years will be 15%. But only on condition of withdrawing profits or covering losses. More often than not, investors don’t bother with this and reinvest the income received. For such situations, the formula for calculating profitability changes - we no longer add, but multiply :

I’ll show you with an example to make it clearer:

The investment project brought 15% in one year, 10% in the second and 20% in the third. Profits are reinvested (compound interest works). What is the final profitability of the project?

Profitability = ((15% + 1)*(10%+1)*(20%+1) - 1) * 100% = (1.15*1.10*1.20 - 1)*100% = (1.518-1)*100 % = 0.518*100% = 51.8%

Using the previous formula, we would get 15%+10%+20% = 45% return. The difference of 6.8% was achieved by reinvesting profits - and if this is not taken into account, you can get very inaccurate profitability indicators.

Calculation of return on investment taking into account inputs and outputs

A task that is more relevant for active web investors - they can shuffle their investment portfolio even more than once a week.

For starters, what are inputs and outputs ? This is any change in initial investment capital that does not result in a gain or loss. The simplest example is monthly replenishment of an investment account from your salary.

Each time you deposit or withdraw funds, the denominator of our profitability formula changes - the amount of investment. To calculate the exact return on an investment, you need to find out the weighted average size of the investment, calculate the return on investment taking into account inputs/outputs, and thus calculate the return. Let's start with profit, the formula will be like this:

All transactions on investment accounts are usually recorded in a special section such as “Payment History” or “Transfer History”.

How to find out the weighted average investment size ? You need to break the entire investment period into parts, separated by input and output operations. And use the formula:

Word doesn’t really want to obey and the formula turned out to be clumsy in appearance. I’ll explain it in simple terms - we count the “working” amount of investments in each of the periods between input and output operations and multiply it by the length of the period (in days/weeks/months) that this amount worked. Then we add everything up and divide by the full length of the period that interests you.

Let's now see how it works with an example:

An investor invested $1,000 in an investment vehicle. After 4 months, the investor decided to add another $300. After another 6 months, the investor needed money, he withdrew $200. At the end of the year, the investment account reached $1,500. What is the profitability of the investment instrument?

Step 1 - calculate the investment profit received:

Profit = ($1500 + $200) - ($1000 + $300) = $400

Step 2 - calculate the weighted average size of investments:

Investment amount = (4*1000$ + 6*(1000$+300$) + 2*(1000$+300$-200$))/12 = (4000$+7800$+2200$)/12 = 1166.67$

Step 3 - calculate the profitability:

Profitability = ($400/$1166.67) * 100% = 0.3429 * 100% = 34.29%

And not 50% if we ignored inputs and outputs - ($1500-$1000)/$1000 * 100% = 50%.

Calculation of average return on investment

Since the profitability of many investment instruments is constantly changing, it is convenient to use some average indicator. Average yield allows you to reduce fluctuations in profitability to one small number, which is convenient to use for further analysis and comparison with other investment options.

There are two ways to calculate average returns. The first is using the compound interest formula, where we have the amount of the initial investment, the profit received during this time, and we also know the number of investment periods:

The initial investment amount is $5000. The profitability for 12 months was 30% (immediately in our mind we translate $5000 * 30% = $1500). What is the average monthly profitability of the project?

Substitute into the formula:

Average return = (((6500/5000)^1/12) - 1) * 100% = ((1.3^1/12) - 1) * 100% = (1.0221 - 1) * 100% = 0.0221 * 100% = 2.21%

The second method is closer to reality - there are returns for several identical periods, you need to calculate the average. Formula:

The project brought 10% profitability in the first quarter, 20% in the second, 5% in the third, and 15% in the fourth. Find out the average profitability for the quarter.

Let's substitute:

Average return = (((10%+1)*(20%+1)*(-5%+1)*(15%+1))^(1/4) - 1) * 100% = ((1.1 *1.2*0.95*1.15)^(1/4) - 1) * 100% = (1.0958 - 1) * 100% = 0.0958 * 100% = 9.58%

One of the special cases of calculating average profitability is determining the annual interest rates , which we encounter at every step in the form of advertising of bank deposits. Knowing the return on investment for a certain period, we can calculate the annual return using the following formula:

The investor invested $20,000 and in 5 months (rounded to 150 days) earned $2,700 in profit. How much is this in percent per annum? Let's substitute:

Profitability = ($2700/$20000 * 365/150) * 100% = (0.135 * 2.4333) * 100% = 0.3285 * 100% = 32.85% per annum

Return on equity - balance sheet formula

This indicator can be found not only by calculation, but from reporting documents. So, there is a simple answer to the question of how to find equity from the balance sheet.

To determine return on equity, information contained in the balance sheet lines (Form 1) and in the income statement (Form 2) is used.

The balance formula will look like this:

ROE = Form 2 Line 2400 / Form 1 Line 1300 × 100.

For more information about the balance sheet, see the article “Filling out form 1 of the balance sheet (sample)” , and for form 2 - “Filling out form 2 of the balance sheet (sample)” .

Payback period of capital investments

Participation in the activities of an enterprise can occur through the acquisition of production facilities, construction of buildings, and modernization of office equipment. Capital investments as investments directly affect profitability and other economic indicators.

To calculate the payback yield, use the formula:

Return on investment period = Investment volume / Amount of profit (net revenue) for the estimated payback period

Another example of a simple formula that works subject to known parameters of revenue and current expenses of the enterprise. In an attempt to shorten the payback period, investors may reduce the level of capitalization. This increases the likelihood of additional investments to restore fixed assets.

Profitability or return on equity capital - standard value

The main criterion used in assessing return on equity is to compare this indicator with the return on investment in other areas of business, for example, in securities of other companies.

The standard value of ROE is widely used to assess the effectiveness of investments. Typically, investors focus on values ​​from 10 to 12%, which are typical for businesses in developed countries. If inflation in the state is high, then the return on capital increases accordingly. For the Russian economy, 20 percent is considered the norm.

If the indicator goes negative, this is already an alarming signal and an incentive to increase the return on equity capital. But a significant excess over the standard value is also an unfavorable situation, since investment risks increase.

About the return on investment indicator in more detail

The ROI (Return On Investment) indicator is the return on investment ratio, indicating the return on investment. It is usually presented as a percentage: if it is more than 100%, it demonstrates profitability, and if it is below 100%, it shows the unprofitability of investing money in a particular project. To calculate this indicator, you need to know the following data:

• Cost of supply, that is, all costs for the purchase of parts for products, delivery to the warehouse, production, payment of personnel, etc.
• Revenue is the final profit from the sale of a product or service.
• The amount of investment or the total amount of money invested, for example, the budget for contextual advertising.

Based on ROI, it is possible to make or cancel a number of economic decisions:

• acquisition of an asset (business);
• the feasibility of investing in business development (modernization, entering new markets);
• effectiveness of the advertising campaign (increase in the volume of goods sold);
• purchasing securities on the stock market;
• obtaining a bank loan for investment purposes.

Therefore, the ROI indicator is necessary for both the owner of the enterprise and the investor. If an investor is considering investment options, this figure will guide him in terms of possible income from investments. Let’s say a comparison of the ROI of a clothing boutique and a shoe store will show which is more profitable to invest in.

The owner of an enterprise needs this indicator when searching for investors - it clearly shows that a potential investor can increase his capital, for example, by 20% over a certain period. As a result, the company's attractiveness from the point of view of investment opportunities increases.

However, you need to understand that the opposite is also true. Too low, zero or negative ROI indicates that the company is not attractive to investors, so the owners will be forced to reconsider the organization of their business. ROI is not as clear-cut as profit, but still shows how a business can perform over the long term.

Discounted DPP approach to payback period

Increasing the complexity of the calculations gives accurate results from a relatively simple technique.

The calculations are based on the net profit that the investor can dispose of during the payback period.

Discounting adjusts the formula using a correction factor.

You can calculate it as follows:

Kd = 1 / (CD+1)N where:

• Kd – adjustment factor;
• SD – discount rate;
• N – segment of the billing period (first, second and other years).

The basic parameter that takes into account the dynamics of an enterprise’s profitability is the discount rate. The variable coefficient takes into account external factors, direction of investment, and trend changes. The DPP method is easy to use, and the asset owner benefits from recalculation of the results taking into account the emergence of new data.

An example of a discounted calculation of an investment of 1,000,000 rubles

A property is purchased with subsequent transfer to commercial lease.

In the first year, the investor recorded a profit of 100,000 rubles.

Taking into account the available statistics, the investor fixed the CD rate at 25% or 0.4.

SD for the first year = 1 / (1+0.25) = 0.8

SD for the second year = 1 / (1+0.25)2 = 0.64

Taking into account the increase in the average market rental price, the investor received a profit of 150,000 rubles in the second year.

Fair profit values ​​are calculated as follows:

• 100000*0.8=80000 rubles;
• 150000*0.64=96000 rubles.

Based on the data obtained, the profitability of the first and second years is calculated:

• D1=80000/1000000=8%;
• D2= 96000/1000000=9.6%.

Taking into account the increasing profitability, the payback period of the project will decrease from 10 to 8 years.

Dynamic or discounted method

As the name suggests, this method determines the time from investment to return of funds, taking into account discounting. We are talking about a point in time when the net present value becomes non-negative and remains so.

Due to the fact that the dynamic coefficient implies taking into account changes in the cost of finance, it will certainly be greater than the coefficient when calculated in a simple way. This is important to understand.

The convenience of this method partly depends on whether the financial income is constant. If the amounts are different in size and the cash flow is not constant, then it is better to use calculations with the active use of tables and graphs.

Next, we will analyze possible calculation formulas

How to calculate the payback period of a project, formulas and examples

The methodology for calculating key investment indicators remains predictive.

The deviation of the calculation results depends on how simple the method was used to determine the payback period. The efficiency of obtaining data and information content remain important for the owner of capital. Long-term investing as a type of investment with high risks confirms the inaccuracy of the information received. Within the framework of the business plan, a technique is used to obtain high-precision results. To approximate real project profitability indicators, you can calculate the payback in a simple way.

According to the formulas given for the methods, the main difference in the calculations is the number of parameters involved. If the simple method is based on current performance, then the discounted method remains effective for obtaining an accurate forecast. In practice, the payback period of investments can be calculated using various formulas. Everything will depend on the selected asset, the scope of participation and the liquidity of the enterprise.

Calculation using Excel and online calculators

The office application for working with calculation tables remains a powerful tool of our time.

When using a calculator and paper is not enough, the Excel editor comes to the rescue. In tabular form, even using a simple method, you can take into account known data on profitability, overhead costs, and planned costs for repair work. To conduct your own calculations in tabular form, it is enough to know the calculation methodology.

In practice, you can use ready-made templates, insert specified parameters, and get the desired results. Maintaining a table remains useful for recalculating forecasts to obtain up-to-date data based on reporting results.

In the Excel editor it is possible to carry out calculations using the DPP method.

In this case, the investor has the opportunity to adjust the payback period depending on the following factors:

• Inflation dynamics;
• Obsolescence of equipment;
• Accrued depreciation;
• Changes in the liquidity of fixed assets;
• Lifespan of the industry.

The use of a complicated discounted calculation formula (examples above) does not cause difficulties when transferring calculations to the office platform. At the first stage of work, it is necessary to determine the profitability of the business during the expected payback period. Future cash receipts are calculated taking into account the adjustment rate (discounting).

Example

The investor set the discount rate at 10% for capital of 9 million rubles.

Forecast values ​​are set once in the editor, after which the formulas for the following years of work are copied:

The amounts obtained as a result of calculations make it possible to determine the payback period in the range of 3 to 4 years. The expected period can be determined using a simple proportion, which will be another 3 quarters. The estimated period for achieving profit will be 3.75 years.

The calculations can be based on simple, mathematical or financial formulas. To understand the discounted calculation method. The correction factor requires an exponentiation formula. To obtain the total, the average value function is used. It is advisable to distribute the total calculation array into two tables.

The first section includes the following parameters:

• Cost of participation in the project;
• Operating income;
• Operating expenses;
• Net profit.

The average value of the first array will allow you to calculate the current and average returns.

The second section of calculations is represented by the following parameters:

• Discount rate in annual terms;
• Correction factor value;
• Cash flow taking into account discounting.

By filling out the calculation table, the investor receives updated data in a few seconds.