Return on Investment
The term return on investment ( short return on investment, also: return on assets, return on investment, return on capital, investment profitability, return on investment, return on assets ) refers to a model for measuring the yield of a business activity, as measured by the profit in relation to capital employed. The ROI describes a generic term for both return ratios, return on equity ( return on equity, ROE short ) as well as the return on assets ( return on assets, ROA short ). The ROI is defined in Du- Pont- schema as a key performance indicator by multiplying profit margin and asset turnover. The key figure in 1919, defined by Donaldson Brown, an engineer of the company Du Pont de Nemours.
- 4.2.1 interpretation
Calculation
The return on investment is defined as
Whereby ROS and asset turnover calculated as follows:
If the net revenues from the formula cut, we obtain the ROI:
The profit must also have the borrowing costs are added back because the ROI based on the total capital and not just equity. It must be noted that the company already had a tax savings by borrowing costs. This must be deducted from the add-back. Thus, for the ROI:
In contrast to the overall profitability of the capital required for the business ROI focused on capital and operating profit, why the different sizes are often adjusted for non-operating components.
Interpretation
From the calculation result, the ROI is the quotient of net profit and capital employed is. Thus, a periodic reference is created to assess the financial success of the whole, bound within a company capital. However, the ROI allowed in this context not to judge the success of a single investment, such as a fixed asset.
A reasonable interpretation is only possible if the result can be split accordingly. In this way, a manipulation of the figure is seen. For a declining return on sales by a corresponding smaller capital investment, for example, to compensate, the result of the shortened formula does not change. In addition, fluctuations in the results can therefore be attributed to changes in the return on sales or the turnover rate of capital and therefore explore in more detail.
This relationship is also used in various measurement systems. Performance measurement systems use various indicators in the form of classification systems or computing systems in relation ( systematic or mathematically) in order to achieve a higher explanatory power compared with solitary figures, can. At this point, it should again refer to the DuPont scheme.
Return on Investment for the assessment of individual investments
This modern, expanded view of the ROI differs from the original version by DuPont mainly in that not the total capital of a company is considered, but individual investments in the framework of entrepreneurial activity. However, the calculation should (determination of the pure numerical value ) and analysis are distinguished ( systematic study of the returns ). For an analysis of the ROI based on a single investment is generally assumed that the returns of the investment from a previous analysis are already known.
Basically a calculation of the ROI is only of interest if the investment can also contribute to corporate success, ie that a payback is achieved within the period of use. Now, for example, the fact must be taken into account in the information and communications industry that the useful life of hardware and software products is comparatively low, is recognized usually for three years. Thus, the general rule is that only investments with a payback of less than three years are advantageous. When an income threshold is reached even within 12 months, so the investment is budget neutral. According to these short-term planning horizons, it is useful to be able to calculate the ROI well in advance of an investment, which makes a calculation for the entire service life make sense.
Differences in the calculation
Thus, there are two different views for the methodology of calculation. These allow a different interpretation of the result or are suitable for the assessment of certain investments differently. In determining the ROI for the entire service life of the forecast return is the all-important size.
Long-term calculation involving the total success
This method is especially useful when a periodic reference appears unsuitable due to the low to be applied in life. The ROI is therefore calculated for a longer estimated planning horizon, for example, for the entire period of use. This usually happens before an investment and is regarded as a decision criterion for a possible selection.
Total income from
To determine the success or the total principal value of an investment at a given time, it is first of all necessary to the returns of the investment to forecast. These arise, for example, by higher revenues and / or savings, but will be by the amount of the operating costs of the investment, especially in property and equipment, diminished accordingly. Now, if the returns of the investment to the present value / present value discounted accordingly and charged on balance with the investment costs, this corresponds to the capital value. Simplifies and correspondingly less useful life, it is also possible to dispense with discounting or the consideration of an internal rate of return. If a very fast payback expected, for example 12 months, so also the closest periodic size, in this case two years are estimated. Is the investment a success, it would have to be achieved as a result of a positive net present value. If the net present value of zero, so the investment has paid for itself exactly within the forecast period.
Investment costs
The investment costs are the total committed capital of an investment. Here, therefore, all costs are considered incurred unique and timely for the purchase. Consequently, must also costs, such as the acquisition of a machine, will be included for professional installation in the calculation. Other examples would be training costs as part of the introduction of a new software or even transportation costs.
Interpretation
The ROI thus expresses the ratio of the expected added value and the cost of an investment. If the investment costs are given, a statement about the economically interesting total success at any given time is taken. This is therefore no longer a periodically be determined code. As a result, a positive percentage value should always be, unless the investment has not yet been amortized up to the estimated time.
Periodic determination
This type of calculation is similar to the principle according to Du -Pont most, and is suitable especially for a long-term investment, so if no short-term payback can be expected. This type of calculation is also useful when planning the return flows in advance of the investment is difficult. Consequently already achieved returns serve, for example, from the first period, to calculate ROI. Rule here is the long-term, this period seems to be, the less sense to plan with the recoveries of the first period, without discounting them according to their present value. Equally important is the consideration of a learning curve effect, which reduces the productivity and thus the returns achieved the first period accordingly, which makes a further planning difficult. However, most investments are not subject to the effects of such an effect.
Interpretation
With the result of conclusions can be drawn regarding the length of the amortization. It is expressed, which is part of the investment returns periodically. One could thus speak of an annuity.
Primary ROI for capital goods
In the capital goods sector, the "primary ROI" is often used as a simplified assessment and decision-making basis for an investment - it is calculated the duration from the time of Investitionstätigung to reach the break-even point.
This calculation, in which only material and hourly costs are used (ie excluding capital costs, ... ) is used as a first approximation for the investment decision and therefore is used in particular by technical decision makers before more complex business calculations take place. The limit values for the primary ROI are company- and industry- specific; a typical value for an investment recommendation is for example in the automotive supply industry at < = 2 years. The calculation of a primary ROI is considered to be simple, efficient computation for a ROI in the capital goods sector and is often used in addition to a first decision as a plausibility check. If you already have the primary ROI at an initial test of an investment does not fall below a company-specific maximum value, this usually leads to termination of the investment decision.
Criticism
- Orientation towards the past by mapping accounting data
- Failure to take account of future developments
- Investment (disinvestment ) in off-balance sheet capable assets (eg R & D expenditure ) distort ROI ( short to medium term ) and can lead to a depletion of the company
- Balance, external financing (eg leasing ) are not considered
- No objective targets for the height of the ROI from the theory derived
- Risks of the investments are not considered