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ROI Guide - Return on Investment

Step 11 of 15 in the pathway Running a business by the numbers

📊 What is Return on Investment (ROI)?

Return on Investment (ROI) is a performance measure used to evaluate the profitability of an investment or compare the efficiency of multiple investments. It shows how much profit or loss you made relative to the amount invested.

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Key Point: ROI is one of the most widely used financial metrics because it's simple, universal, and directly answers the question: "How much did I make on this investment?" Whether you're investing in stocks, property, business equipment, or marketing campaigns, ROI provides a clear percentage return.

The ROI Formula

ROI = (Current Value - Original Investment) / Original Investment × 100
Or:
ROI = (Gain from Investment - Cost of Investment) / Cost of Investment × 100

Simple Example

You invest $10,000 in shares
After 2 years, your investment is worth $12,500
ROI = ($12,500 - $10,000) / $10,000 × 100
ROI = $2,500 / $10,000 × 100
ROI = 25%

Interpretation: You earned a 25% return on your investment. For every dollar invested, you gained $0.25 profit.

Why ROI Matters

Universal Comparison:

ROI lets you compare completely different investments on the same scale. A 15% ROI on property can be directly compared to 15% ROI on shares or business investment.

Simple Communication:

Stakeholders, investors, and managers all understand ROI. It's the common language of business performance.

Decision Making:

ROI helps prioritize opportunities. Limited capital? Invest in projects with highest ROI first.

Performance Measurement:

Track ROI over time to see if investments are meeting expectations or underperforming.

ROI vs Other Metrics

Metric What It Shows When to Use
ROI Total percentage return Quick comparison, simple projects
NPV Dollar value created, time-adjusted Large projects with time value of money
IRR Annualized return rate Multi-year projects, comparing rates
Payback Period Time to recover investment Risk assessment, liquidity concerns

Annualized ROI

Basic ROI doesn't account for time. A 25% ROI over 1 year is very different from 25% over 5 years.

Formula:

Annualized ROI = [(Current Value / Original Investment)^(1/Years)] - 1 × 100

Example:

Investment: $10,000 → $12,500 over 2 years
Total ROI: 25% (as calculated above)
Annualized ROI = [(12,500/10,000)^(1/2)] - 1 × 100
= [1.25^0.5] - 1 × 100
= 1.118 - 1 × 100
= 11.8% per year

This lets you compare to investments with different time horizons fairly.

Common Applications

Stock Investments:

Buy shares: $5,000
Sell shares: $6,200
ROI = 24%

Property Investment:

Purchase price + costs: $500,000
Sell after 5 years: $650,000
ROI = 30%

Business Equipment:

Machine cost: $100,000
Profit generated over 3 years: $140,000
ROI = 40%

Marketing Campaign:

Campaign cost: $20,000
Additional revenue generated: $75,000
Profit: $55,000
ROI = 275%
💡 ROI Benchmarks by Investment Type

Stock market (long-term average): 7-10% annually
Rental property: 8-12% annually
Small business: 15-30% annually
Venture capital/startups: 25%+ (high risk)
Marketing campaigns: 100-500% (short-term)
Term deposits/bonds: 3-6% annually

ROI Limitations

Ignores Time:

30% ROI over 1 year vs 30% over 10 years are treated the same. Always calculate annualized ROI for fair comparison.

Ignores Risk:

High ROI might come with high risk. Government bonds offer 4% (low risk) while speculative stocks offer 40% (high risk).

Calculation Variations:

People calculate ROI differently. Some include all costs, others exclude certain expenses. Always clarify assumptions.

No Cash Flow Timing:

ROI doesn't show when money comes in. Two investments with same ROI might have very different cash flow patterns.

⚠️ Common ROI Mistakes

Forgetting all costs: Include transaction fees, taxes, maintenance, not just purchase price
Cherry-picking time periods: Showing ROI from the bottom of a market crash makes everything look great
Ignoring opportunity cost: 8% ROI is bad if you could have easily made 12% elsewhere
Comparing different time periods: Always annualize for fair comparison

🔢 Calculating ROI Step-by-Step

Example 1: Share Investment

Scenario: Investing in NZ shares

Details:

Initial purchase: 1,000 shares at $15 = $15,000
Brokerage fee: $30
Total investment: $15,030
After 18 months:
Share price: $19.50
Dividends received: $750
Sale value: 1,000 × $19.50 = $19,500
Sale brokerage: $30
Net proceeds: $19,500 - $30 + $750 = $20,220

ROI Calculation:

Total gain = $20,220 - $15,030 = $5,190
ROI = $5,190 / $15,030 × 100
ROI = 34.5%

Annualized ROI:

Time period: 18 months = 1.5 years
Annualized = [(20,220/15,030)^(1/1.5)] - 1 × 100
= [1.345^0.667] - 1 × 100
= 21.0% per year

Example 2: Rental Property Investment

Scenario: Buy rental property in Auckland

Purchase Costs:

Property price: $650,000
Legal fees: $3,000
Building inspection: $500
Initial repairs: $15,000
Total investment: $668,500

After 5 Years:

Rental income: $520/week × 52 × 5 = $135,200
Expenses (rates, insurance, maintenance): $45,000
Net rental income: $90,200
Property value: $780,000
Selling costs (agent, legal): $25,000
Net sale proceeds: $755,000

ROI Calculation:

Total return = $755,000 + $90,200 - $668,500
= $176,700
ROI = $176,700 / $668,500 × 100
ROI = 26.4% (over 5 years)
Annualized: 4.8% per year

Example 3: Business Equipment

Scenario: Cafe buys espresso machine

Investment:

Machine cost: $12,000
Installation: $800
Training: $500
Total: $13,300

3-Year Performance:

Additional coffee sales: $45,000/year
Coffee costs: $18,000/year
Maintenance: $1,200/year
Net profit per year: $25,800
3-year profit: $77,400

ROI Calculation:

ROI = $77,400 / $13,300 × 100
ROI = 582%
Annualized: 88.5% per year

Payback period: $13,300 / $25,800 = 6.2 months. Machine paid for itself in half a year!

Example 4: Marketing Campaign

Scenario: E-commerce store runs Facebook ad campaign

Campaign Costs:

Ad spend: $5,000
Creative design: $800
Total cost: $5,800

Results:

Revenue from campaign: $28,500
Cost of goods sold: $11,400 (40% margin)
Gross profit: $17,100
Campaign cost: $5,800
Net profit: $11,300

ROI Calculation:

ROI = $11,300 / $5,800 × 100
ROI = 195%

Interpretation: For every dollar spent on ads, the company made $1.95 profit. Campaign was highly successful.

Comparing Multiple Investments

You have $50,000 to invest. Which option is best?

Investment Cost Return (3 yrs) Total ROI Annual ROI
Term deposit $50,000 $57,500 15% 4.8%
Dividend shares $50,000 $68,000 36% 10.8%
Rental property (deposit) $50,000 $78,000 56% 16.0%
Start business $50,000 $95,000 90% 23.9%
Best ROI: Starting a business (23.9% annually). But this ignores risk and effort. Term deposit has lowest ROI (4.8%) but zero risk and zero effort. Your choice depends on risk tolerance, time availability, and skills.

Negative ROI (Losses)

Example: Investment goes wrong

Investment: $20,000
Current value: $14,000
Loss: $6,000
ROI = -$6,000 / $20,000 × 100
ROI = -30%

Negative ROI means you lost money. You got back only 70 cents for every dollar invested.

🌍 Real-World ROI Examples

1
Tech Startup Investment

Angel investor evaluates early-stage startup

Investment Details:

Investment: $100,000 for 10% equity
Company valuation: $1,000,000
Time: 5 years

Scenario A: Success (Exit via Acquisition)

Company sold for: $8,000,000
Your 10% share: $800,000
ROI = ($800,000 - $100,000) / $100,000 × 100
ROI = 700%
Annualized: 51.6% per year

Scenario B: Modest Success (IPO)

Company IPO valuation: $3,500,000
Your 10% stake worth: $350,000
ROI = 250%
Annualized: 28.5% per year

Scenario C: Failure (Company Folds)

Company bankrupt, assets sold
Recovery: $5,000 (creditors paid first)
ROI = -95%
Startup Reality: High potential ROI (700%+) comes with high risk. 75% of startups fail (ROI = -100%). Diversification is crucial. Invest in 10 startups, expect 7 failures, 2 modest wins, 1 big win.
2
Solar Panel Installation (Personal)

Homeowner considers solar investment

System Costs:

Solar panels + installation: $15,000
Government rebate: -$2,000
Net investment: $13,000

Annual Savings:

Electricity bill reduction: $1,850/year
Feed-in tariff (sell excess): $280/year
Total annual benefit: $2,130
Maintenance cost: $100/year
Net annual savings: $2,030

10-Year ROI:

Total savings: $2,030 × 10 = $20,300
ROI = ($20,300 - $13,000) / $13,000 × 100
ROI = 56.2%
Annualized: 4.6% per year
Payback period: $13,000 / $2,030 = 6.4 years

Additional benefits not in ROI: Increased home value ($5-10k), energy independence, environmental impact. True value exceeds financial ROI.

3
Employee Training Program

Company invests in staff development

Training Investment:

Training course costs: $50,000
Lost productivity (time away): $25,000
Total investment: $75,000

Year 1 Results:

Productivity increase: $45,000
Error reduction savings: $18,000
Faster project completion: $22,000
Total benefit: $85,000

ROI After 1 Year:

ROI = ($85,000 - $75,000) / $75,000 × 100
ROI = 13.3%

3-Year Projection:

Year 1 benefit: $85,000
Year 2 benefit: $75,000 (slight decline)
Year 3 benefit: $65,000
Total 3-year benefit: $225,000
ROI = ($225,000 - $75,000) / $75,000 × 100
ROI = 200%
Annualized: 44.2% per year

Intangible benefits: Employee satisfaction, retention (reduced hiring costs), company reputation. These multiply the financial ROI.

4
KiwiSaver vs Property Deposit

30-year-old choosing between KiwiSaver and saving for house deposit

Option A: KiwiSaver (35 years to retirement)

Contribute $300/month + employer match $150
Total contribution: $450/month × 12 × 35 = $189,000
Average return: 7% per year (growth fund)
Final value at 65: $738,500
Gain: $549,500
ROI = $549,500 / $189,000 × 100
ROI = 291%

Option B: Property Deposit (7 years saving)

Save $450/month × 84 months = $37,800
Use as 10% deposit on $380,000 property
Property value after 28 years: $950,000
Mortgage paid off, own outright
ROI = ($950,000 - $37,800) / $37,800 × 100
ROI = 2,413%
💡 Misleading ROI?

Property shows 2,413% ROI because you only invested the deposit ($37,800) but gained from the entire property value increase. The mortgage used leverage (borrowing) to magnify returns. However, this ignores mortgage interest paid, maintenance, rates, and risk. KiwiSaver provides diversification and employer contributions. Both are valuable, not either/or.

🎯 Test Your Knowledge

Complete this 10-question quiz on ROI

1. You invest $5,000 and it grows to $6,500. What is the ROI?
15%
23%
30%
130%
2. What does ROI measure?
Time to recover investment
Risk level of investment
Total profit in dollars
Percentage return on money invested
3. A major limitation of basic ROI is that it:
Doesn't account for time period
Is too complicated to calculate
Only works for stocks
Cannot show negative returns
4. Marketing campaign cost $10,000, generated $45,000 revenue with $18,000 product costs. What is ROI?
350%
170%
180%
80%
5. Which investment has the best annualised ROI?
50% ROI over 5 years
100% ROI over 10 years
30% ROI over 2 years
20% ROI over 1 year
6. What does a negative ROI figure mean for your investment?
The investment is growing slowly
The calculation was done incorrectly
You lost money on the investment
The investment is too risky
7. When calculating ROI for property, you should include:
Only the purchase price
Purchase price, fees, repairs, and all costs
Just the profit from sale
Only the mortgage amount
8. Typical stock market long-term average ROI is approximately:
7-10% annually
2-4% annually
15-20% annually
25-30% annually
9. Equipment costs $50,000, generates $20,000 profit annually for 4 years. What is total ROI?
40%
80%
160%
60%
10. What is ROI most useful for when evaluating investments?
Predicting future stock prices
Calculating taxes owed
Determining company valuation
Comparing different investment opportunities

🧮 Try ROI Calculator

Situations like yours. The 4 situations worked through above sit alongside 44 more about running a business, each with the sums shown.