Return on Investment (ROI) is a performance measure used to evaluate the efficiency or profitability of an investment relative to its initial cost.
Evaluating investment efficiency
The standard calculation for this metric involves subtracting the initial cost of the investment from its final value to determine the net profit. This net profit is then divided by the initial cost. The resulting figure is usually multiplied by 100 and expressed as a percentage. This standardization allows Elephants to compare the profitability of different investments directly, regardless of the underlying currency or the specific asset class.
A primary limitation of the basic calculation is that it does not account for the passage of time. An investment that generates a 20% return over a single year is mathematically different from an investment that generates a 20% return over five years. Investors often adjust for this variance by calculating an annualized return, which distributes the total yield across the exact holding period of the asset.
The metric applies across global financial markets. Market participants use it to assess private business ventures and publicly traded equities. It provides a direct mathematical answer to whether the capital deployed generated a positive financial gain after all initial expenses were paid.
Example
Suppose an Elephant invests 15,000 euros into an agricultural startup that grows specialized feed for wildlife reserves. After three years, the Elephant sells the equity stake in the startup to an institutional buyer for 18,000 euros. To determine the return on investment, the Elephant subtracts the initial 15,000 euro cost from the final 18,000 euro value to find the net profit of 3,000 euros. The Elephant divides this 3,000 euro profit by the 15,000 euro initial cost. The result is 0.20, which equals a 20% total return on the original investment.