Profitability of investments is an indicator characterizing the amount of profit that an enterprise receives from each monetary unit invested in it, aimed at the formation of assets. It is the profitability of assets and is inclined to express the level of profitability of the company in a clearly established period of time. The profitability is calculated on the basis of the following formula:
Return on assets = Net income / Average annual value of assets * 100%
Return on investment: a concept from within
The use of a material resource, in which not only expenses are blocked, but also profits are formed, can be called profitability. In this case, the profitability of each company is calculated using a relative and absolute index. Relative values characterize the very profitability of investments, can be measured in the format of a coefficient or calculated as a percentage. Absolute figures are expressed exclusively in terms of money.
The listed indicators have a significant impact on inflation, but not the volume of income. When calculating values, it is worthwhile to compare the final indicator of calculations with the planned figures, with the indicators of the previous time intervals or data on other companies. This will allow an objective look at the efficiency of using its capital. The calculation of return on investment should be as complete as possible.
Today, the calculation of the indicator in most cases is based on several interpretations of the concept. Only three common formulas are used:
- The ratio of profits to the time of payment of taxes and interest to sales volumes, which is multiplied by the ratio of sales volumes to the firm's assets.
- The ratio of interest and profit before the payment of taxes to the assets of the enterprise.
- The ratio of interest and profit before tax repayment to the firm's assets.
How to determine the return on investment?
In order to clearly understand the profitability of the project's investments, it is necessary to specify the profitability from the infusion of funds. Initially, the most complete study of all investor resources is carried out. The process is carried out in several stages. Initially, the financial analysis of the enterprise is organized and conducted. The second step is the calculation of the projected investment size. The third stage involves the derivation of indicators of the effectiveness of the solution, including the index of ROI. At the same time, one must not lose sight of factors that can influence the forecast: inflation, transformation of sales markets, changes in politics and economy, and so on.
The main indicator is calculated based on the formula given above. At the same time, the moment is taken into account that within each specific firm, its criteria for calculating investments and prospective profits are used. Return on investment will not be objective unless you take into account the dynamics. Its level should be an order of magnitude higher than the percentage of overdraft. The profit from fixed payments without taxes, should also be higher. The increase in revenues is possible due to the increase in the volume of assets turnover and due to the increase in the profitability of goods or services.
The index of profitability of investments should exceed profit from investments of means without risk. The profit should be calculated not at the standard rate, until the payment of all taxes, and taking into account the payments. If this is not taken into account, then the income will be recorded only through investments and receipt of interest from the invested capital. When the overdraft interest is higher than the level of income, the profit is not able to cover all expenditures on borrowed investments. Practice clearly shows that the value of profitability should be much higher than the generally accepted standard. It is important to take into account compensation for both the management resources used and the risk that is being taken. Operating assets should not be less than 20%.
Return on investment requires clear management. Control is a kind of appeal to the ability to manage not only profit, but also invested in business funds. If the object for investment is attractive, but the indicators do not reach optimal values, the following development scheme can be applied:
- Increase in profitability of sales.
- The increase in asset turnover.
To simplify the scheme of managing their capital, each of the directions is divided into separate components, which are more easily amenable to modernization and improvement.
Profitability in the broad sense of the word
ROI is important to calculate not only when investing in companies and enterprises. The index is very useful for investing in Bank deposits, in PAMM-accounts, portfolios, and other tools. The counting rate and to further compare the priorities, you can use the following formula:
Profitability index = Profit + (Sale price of assets - Acquisition price of assets) / Purchase price * 100%
The sale price can be considered as a potential value. For example, the profitability of investments, the formula of which was mentioned above, will allow us to rationally evaluate the benefits of investing in a profitable PAMM-account and from investing in a bank. The difference will be noticeable at the level of 2-7%. In a similar scheme, you can compare the proposals for investing in commercial structures.