Return on Investment

Definition

The ratio of gains realized from an investment divided by the investment required.

What It Means

Often abbreviated as ROI, the return on investment indicates how effective your investment has been over a period of time. For example, assume that you have bought a business for $200,000 in cash. At the end of your first year in business, after meeting all business expenses and paying yourself a reasonable salary, you realize the net profit of $50,000. Your return on investment then is

$50,000 * 100 / $200,000 = 25%

Most small business purchases require a combination of downpayment (equity) and financing (debt). In such cases, the return on investment is computed on the total capital used to buy the business.