What the formula calculates
Return on Investment (ROI) measures the net profit generated relative to the cost of an investment, expressed as a percentage. ROI = (Net Profit / Cost of Investment) × 100. Net profit equals the total return minus the initial cost. A positive ROI means the investment generated more than it cost; a negative ROI means a loss.
Annualised ROI
Simple ROI does not account for the time period. An investment that returns 30% in one year is far more valuable than one returning 30% over ten years. Annualised ROI = ((1 + ROI)^(1/years) - 1) × 100. This compounding formula converts any multi-year total return into a per-year equivalent for fair comparison.
Worked example
A marketing campaign costs $5,000 and generates $18,000 in revenue. Net profit = $18,000 - $5,000 = $13,000. ROI = (13000 / 5000) × 100 = 260%. For a 3-year investment returning 260% total: Annualised ROI = ((1 + 2.60)^(1/3) - 1) × 100 ≈ 52.6% per year.
ROI vs IRR vs NPV
ROI is the simplest profitability metric. Internal Rate of Return (IRR) accounts for the timing of cash flows throughout the investment period. Net Present Value (NPV) discounts all future cash flows to today's value. For simple one-time investments, ROI is sufficient. For complex multi-period cash flow analysis, IRR or NPV provides greater precision.