How to calculate your profitability index

The calculation of return on investment is associated with an objective assessment of future income and production costs. The profitability index shows how many times an investor can increase his capital by adding it to the main capital of the company.

Instruction manual

1

The ROI is important not only for potential investors, but also for the enterprise itself. On how efficiently it conducts its economic activities in the field of cost optimization, pricing, marketing research and, as a result, profit, it depends on whether the company will receive additional capital. And therefore, whether it can develop and expand its production.

2

Profitability analysis shows the degree of attractiveness of a particular enterprise for investing its own funds. In particular, the profitability index allows you to determine what expected income after the sale of goods will bring investments for each invested monetary unit (ruble, dollar, etc.)

3

The profitability index is equal to the ratio of the present value of the invested project to the investment cost of its implementation: PI = ∑ CF_k / (1 + i) ^ k / INV, where: CF_k is the cash flow of the enterprise over the period of time k; i is the discount rate; INV is the volume investment funds.

4

The present value of the project is the net present value, which is equal to the difference between the present value of the projected project and the volume of initial investments. This indicator in itself is significant for shareholders, because it reflects a direct increase in the company's capital. It makes sense to talk about return on investment only if it has a positive value.

5

The discount rate, as a rule, is taken equal to the refinancing rate. Also, its value may be equal to the average rate of return on the market, adjusted for possible risk (problems with implementation, inflation, etc.). Discounting is the calculation of the projected present value of a project using the compound interest formula.

6

It should be noted that a negative value of the present value of the project does not necessarily mean that the project is not attractive for investment, but only the wrong choice of discount rate. It is enough to change this value and the calculation may give another result. This suggests that it is necessary to carefully analyze future investments so as not to miss the maximum possible profit.

7

The profitability index is the percentage rate of return expressed in percent: PI = P / 100% + 1, where P is the return on investment, a positive value.

profitability indices