Return on Investment For Dummies

I am not an expert in business (yet) however I have always been baffled by the term ROI without knowing exactly how to calculate it or what it means. By any means if you notice a mistake in any formula or calculation, feel free to point it out in the comments section.

Return on Investment is the ratio of money gained or lost on an investment relative to the amount of money invested. It is usually presented as a percentage.

Example:

Johnny likes drinking water, but his faucet only delivers grayish-looking water, so he buys bottled water. Each 1.5 litre bottle costs him 1.00 GBP. He buys 4 bottles per week. Every month he approximately buys 16 bottles which means he spends 16 GBP per month or 192 GBP per year on bottled water.

The ROI yield is often expressed as Yield = (Return – Initial Investment) / Initial Investment.

In this case we have Yield = (0 – 192) / 192 which gives us a loss of 100% for a 1 year period.

Let’s suppose that the PUR FM-9400 water filtering system costs 21.50 GBP. As each water bottle costs 1 GBP, we can derive that for the cost of 21.5 bottles of water we could buy a filtration system. (21.5 litres / 16 litres per month) = 1.3438 months to obtain our return on investment.

Conclusion:

(1 GBP * 16 Bottles per Month) * 1.3438 Months = 21.5 GBP

Yield = (Final – Initial) / Initial
Yield = (21.5 – 21.5) / 21.5
Yield = 0%

So we have reached a conclusion. To obtain a return of investment equal to the initial amount invested we must invest 21.5 GBP, and after approximately 42 days we will have saved the exact amount we invested in the equipment, furthermore leading to profit obtained by not spending on any more purified water bottles.

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