What is the return on investment?
The return on investment is one of the tools that measures the extent of investment efficiency or the extent of profitability from investing in a specific field, and this is calculated by reference to the cost of investment, and the return on investment is usually compared for more than one field, in order to make the appropriate decision to determine which investments are more feasible It is worth noting that the return on investment is a percentage, resulting from dividing the net profit (or loss) by the investment cost. For more information about the return on investment, we will complete during this article the most important information about it.
What are the downsides of using ROI?
Although the return on investment calculation shows the extent of profitability (or loss) from investing in a specific field, there are some disadvantages to using its formula in the calculation, and the following is an explanation of the most prominent of these negatives:
time factor
When the formula for net profit (or loss) divided by the cost of investment is used, it does not take into account the time factor, and thus results in errors in estimating the feasibility of investment in a particular field, for example, a return on investment of 50% can be produced for two projects, but One of them needs three years to finish and the other needs five years to complete. Therefore, the first project that ends in three years is more feasible than the other, but this matter does not appear in the form of calculating the return on investment.
Manipulability
The result of calculating the return on investment can differ from one person to another, based on what was calculated in the value of the investment. Accountants usually calculate the basic costs of investment, and overlook additional costs such as maintenance costs, taxes, etc., which gives a misleading result to the investor, as he must The investor is informed of all the potential costs of the project, in order to calculate the return on the actual investment of the project.
cash flow
When the return on investment is calculated for a specific project, it does not directly show the cash flow of the company or the investor, and this means that the project may be exposed to a shortage of cash flow during certain periods, as the return on investment can be 5%, but at a certain stage it suffers The project is short of cash flow; Therefore, because it is considered an expensive project, while the return on investment for another project may be less, but the project results in an abundance of cash flow because it is inexpensive.
Precision
When launching a new investment in the company, it is necessary to limit all possible costs, including the future costs of investment, in order to obtain a real outcome of the return on investment. Therefore, in the event that the company is unable to determine the future costs of investment, the process of calculating the return on investment is invalid. Accurate.
feasibility
When the company calculates the return on investment for a specific project or investment, it calculates its financial feasibility, i.e. success on the financial level only, but there are some investments, especially within companies, the feasibility of which is usually to improve the work environment and raise the efficiency of employees, such as buying new computers for employees or develop them, and therefore the return on investment cannot measure the non-financial benefits of the investment.
