Recently, a friend asked me how to calculate ROI, and I realized that many people don’t actually have a very clear understanding of the concept of return on investment. Put simply, ROI is an indicator that measures how much profit you can make from your investment, expressed as a percentage.

In fact, calculating ROI is very simple: (Money earned − Money invested) / Money invested × 100%. For example, if you buy a stock for 1 million yuan and later sell it for 1.3 million yuan, then the ROI is (1.3 million − 1 million) / 1 million = 30%. But in real life, it gets more complicated because you need to factor in transaction fees, dividends, and so on.

Let me explain it to you in detail using stock investments. Suppose you buy 1,000 shares at a price of 10 yuan per share. After one year, you sell them at 12.5 yuan per share. During that time, you also receive 500 yuan in dividends, and you pay 125 yuan in trading commissions. At this point, your total income is 12.5 × 1000 + 500 = 13,000 yuan, and your total cost is 10 × 1000 + 125 = 10,125 yuan. Your net profit is 2,875 yuan. Then divide by the initial investment of 10,000 yuan—the ROI is 28.75%.

Another concept that’s easy to confuse is ROAS. In the e-commerce and advertising world, what many people call ROI is actually ROAS, meaning return on ad spend. ROAS = revenue / advertising cost. It only considers ad spend and does not take other costs into account. For example, if the product cost is 100 yuan, it sells for 300 yuan, and you sell 10 units through advertising with an ad cost of 500 yuan, then ROAS is (300 × 10) / 500 = 600%. But the true ROI should be (300 × 10 − 100 × 10 − 500) / (100 × 10 + 500) = 100%. Those two numbers are vastly different, right?

If you want to compare investments across different time horizons, you need to use annualized ROI. For instance, Solution A earns 100% in 2 years, and Solution B earns 200% in 4 years. It looks like B is better, but when annualized, A is 41.4% and B is 31.6%, so A is more worthwhile. The formula for annualized ROI is: take (total return rate + 1) to the power of (1 / number of years), subtract 1, and then multiply by 100%.

When it comes to the applications of how to calculate ROI, you also need to know the difference between ROI, ROA, and ROE. ROI is the profit margin of the total investment; ROA is the profit margin of total assets; and ROE is the profit margin of shareholders’ equity. For example, if a company has assets of 1 million yuan, and 500,000 yuan is borrowed (debt) and 500,000 yuan is from shareholders, then it invests 100,000 yuan in a project that later returns 200,000 yuan—the project’s ROI is 100%. But if the company’s total profit in one year is 1.5 million yuan, then ROA is 150% and ROE is 300%. These three figures reflect different perspectives.

To improve your investment return rate, you either increase profit or reduce costs. For example, choose stocks with higher dividend payouts, or choose a broker with lower fees. But the most straightforward approach is still to look for investment targets with high ROI. Generally speaking, ROI for cryptocurrencies and foreign exchange tends to be higher than stocks, and stocks tend to be higher than funds and bonds. However, high ROI is often accompanied by high risk—so you also need to look at volatility and valuation.

There’s also an important point: although ROI is useful, it has many limitations. First, it doesn’t consider the time factor. For example, Project X has a 25% ROI that takes 5 years to earn, while Project Y has a 15% ROI that only takes 1 year—you can’t say that X is better. Second, high ROI does come with higher risk. If you only watch the numbers and ignore risk, you may end up losing money. Third, when calculating ROI, you must include all costs; otherwise, you’ll overestimate your returns. For example, for real estate investment, you need to consider mortgage interest, taxes, insurance, maintenance costs, and more. If you miss these costs, the ROI will be inflated.

Overall, understanding how to calculate ROI is very helpful for making investment decisions, but remember that it’s only one reference metric—you still need to take a comprehensive view of risk, time horizons, and other factors to make smarter choices.