Investments. Method for calculating return on invested capital (most important)

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Investments. Method for calculating return on invested capital (most important)

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METHOD OF CALCULATION OF RETURN ON INVESTED CAPITAL

The method is based on the use of information about cash flows, about the possibility of making a profit from the implementation of an investment project.

Return on invested capital (ROI) is calculated using the formula:

HVAC = (Pos / Ios) x 100,

where Pos is the expected average profit from the implementation of the investment project,

Ios is the expected average investment for the project.

The expected average profit is defined as the sum of the differences in incremental revenues and expenses over the period of the project, divided by the estimated useful life of the project.

The average investment is found by dividing the initial amount of capital investments by two, if after the expiration of the analyzed project, all capital costs are written off; if residual or salvage value is allowed, its estimate should be taken into account. At the same time, the average value of the expected investment depends on the depreciation method. With straight-line depreciation, the expected investment is half the initial investment plus salvage value at the end of the project life.

A similar indicator for evaluating the effectiveness of an investment project is the average accounting rate of return, which is determined by the formula:

NPs = (By / I) x 100,

where To - the total profit for the entire period of the project life cycle,

And - the initial amount of investment in the project.

In practice, to calculate the return on invested capital, the following formula is used: return on invested capital = expected average profit / expected average investment x 100%.

Some formulas also use the total profit, which is in the numerator, or the initial investment, which is in the denominator. Many combinations are possible, but one method already chosen should be followed.

This method is based on the use as initial data of the time (number of years) required to cover the initial investment in the project; the size of the annual contribution, calculated as the difference between annual income and costs.

It does not take into account the time of receipt of income from the implementation of the project. Accounting for the degree of income and their depreciation needs to take into account the time of receipt of profit.

The advantages of m and this method are the simplicity and understanding of calculations, the certainty of the amount of initial investment, etc.

Disadvantages: neglects the return on invested capital (does not evaluate profitability), gives an equal assessment of investment levels regardless of the payback period.

Author: Kuznetsova S.A.

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