ROI, short for ‘return on investment’ is a financial metric that’s widely used in order to measure the probability of gaining a return from one’s investment. If you intend on making investments, whether for business or for pleasure, it’s always important that you consider and calculate the investment’s ROI. By doing so, you will be able to ensure that you make the right amount of money and ensure that the investment is worth your time. Some would argue that ROI is the most important financial metric.
This article will tell you exactly how you can calculate your investment’s ROI and explain what the advantages of doing so are:
Predictive Analytics
As this article’s title suggests, one area that ROI is used is predictive analytics. Calculating the ROI of predictive analytics can be challenging, but in principle isn’t any different from calculating the ROI for anything else. Predictive analytics involves the use of statistical techniques to find data, including predictive modelling, machine learning, and future predictions. Calculating ROI for predictive analytics can be difficult because of undefined or not yet identified problems. Despite all of this, calculating ROI for predictive analytics is still possible. It just requires a little more work.
Calculating ROI
As mentioned once already, calculating the ROI in predictive analytics is no different to calculating ROI for anything else, it’s just more challenging to do. There are two main formulas for calculating ROI.
Method One
Net Return on Investment
ROI = _______________________ x 100%
Cost of Investment
Method Two
FVI – IVI
ROI = _______________________ x 100%
Cost of Investment
FVI = Final Value of Investment
IVI = Initial Value of Investment
Interpretation of ROI
One of the most challenging parts of dealing with ROI is the interpretation of it. This is where many people go wrong. It’s first important to know that your ROI will be expressed as a percentage because it is easier to understand that way. Secondly, your ROI calculation will include your investment’s net return in the numerator, because an investment’s returns can be either positive or negative. If your investment’s ROI presents a positive figure, it means that its returns exceed the total cost, meaning that you have made a profit. If your ROI returns a negative figure, however, it means that you have lost money. If you want your ROI to be as accurate as possible, it’s essential that you include total returns and total costs. You shouldn’t omit anything, otherwise, you run the risk of ending up with an inaccurately calculated and wrong ROI.
If you calculate your ROI incorrectly, then you will not be able to determine how much profit – or losses – you have really made. This ultimately means that your business assessments could be wildly inaccurate. You could run your business thinking that it is profitable for you when in reality it actually isn’t. This happens to many business owners who rush things, don’t pay attention, and don’t give proper credence to calculating their business’s ROI.
Benefits of ROI
Profitability Measure
One of the primary advantages of calculating your investment’s ROI is that you get a better measure of profitability. An ROI is especially useful if you have investors that you are trying to attract. By showing them your business or idea’s profitability measure, they will feel more confident in investing in you. It also ensures that you are able to make sensible investments, confident that you will get returns back. This allows you to make purchases for your business that won’t exceed your business’s profits – and won’t be a purchase that’s far too large for a business that isn’t profitable.
Achieving Goals
Running a business is all about ascending to higher levels of profitability and achieving goals. If your business isn’t hitting targets and making money, then you have a problem. By calculating an ROI, you can determine whether your investment is still viable, or whether it’s time to cash out. Lots of business owners hold on far too long, letting their businesses bleed out before they shut them down. This will cost you a lot of money. ROI allows you to see whether or not your business has been meeting the goals that you have outlined for it. There are very few metrics as effective as ROI is for this.
Comparative Analysis
ROI also allows you to make comparisons between your investment and other investments you might have, or other areas in your business. It can also be used for calculating the returns on another person’s investment. This allows you to determine whether or not your investment is failing – or whether other investments of yours are doing better. By identifying failures in your investment’s strategy through ROI, you can begin recalculating and establishing how you are going to make it profitable again.
Better Clarity and Vision
One of the hardest things for businesses in the world today is achieving clarity. This is because there are so many complex processes involved in running a business, especially a large one, that it is almost impossible not to be blind to certain elements of your business. ROI allows you to get better clarity over your business’s current condition or state, even if you are all the way at the top and don’t have daily involvement in its operations. ROI also provides clarity to investors that don’t necessarily have much input in the handling and management of their investment.
It also makes it easier to have a clear vision for your business. You can work out exactly how much you’re due to make in the future by calculating last year’s ROI, then use these figures to map out your next year, and your growth. Businesses are all about growth, as we mentioned earlier. With every year’s ROI completed, you get a clear picture of its progress and the pattern that it is following. Clear vision is essential if you want to transform your business into a success. ROI can help you to get that clear vision.
ROI is an essential metric, as this article shows. If you are an investor or business owner, then there are myriad advantages to calculating your ROI. If you struggle to do it yourself, your accountant or financial planner can do it for you, though as outlined, it is very simple.