Return on investment puts wildly different investments on one comparable scale. Here's the formula and how to use it well.
Return on investment measures your gain or loss relative to what you put in. It's a percentage, which lets you compare a marketing campaign, a stock, and a piece of equipment on the same scale.
ROI = (Final Value − Initial Investment) ÷ Initial Investment × 100. The numerator is your net profit; dividing by the initial investment expresses it as a percentage return.
Invest $10,000 and end with $15,000. Net profit is $5,000, so ROI = $5,000 ÷ $10,000 = 50%. You earned 50 cents for every dollar invested.
A 50% return over one year is very different from 50% over ten. Annualized ROI accounts for time: ((Final ÷ Initial)^(1 ÷ years) − 1) × 100. That 50% over 3 years annualizes to about 14.5% per year.
Always annualize when comparing investments held for different lengths of time — otherwise longer holds look artificially impressive.
ROI ignores risk and the timing of cash flows. Two investments can share the same ROI while one is far riskier or ties up your money longer. Pair ROI with payback period and, for bigger decisions, net present value.