From finance defition:
ROI =Net Return on Investment/Cost on Investment
or
ROI = (Final Value of Investment − Initial Value of Investment)/ Cost of Investment
Would like to seek clarification on ROI/return is used in different cases and if my understanding is correct -
Case 1:
Kellogg 2018 Tarrant Fixtures
The solution gives a formula of:
ROI = Return/Investment = Profits/Capital Employed = (Revenue - Costs)/(PPE or CAPEX +Working Capital)
I think the formula is wrong, as Profits is NOT Return. Unless, in the calculation, initial CAPEX is amortised to yearly costs to come up with the Net Profit.
(For this case, they assume no new investment, so using Profit alone as Return is ok, however, the formula given is VERY misleading.)
Case 2:
Darden 2018-29 Fire Proof
“The company wants to achieve at least a 15% ROI on any new expansion project within 3 years. The company will need to invest $100M in capital expenditures."
Calculation given in the case solution:
Total net profit over 3 years = $16.5M + $36.3M + $60M = $112.8M
ROI = ($113M –100M) / $100M = 13%
So they are treating (Total Net Profits - Total Investment) = Net Gain, and use ROI = Net Gain/Total Investment
If the interviewee misuses Net Profit as Net Gain, it's wrong.
Case 3:
Stern 2019 Bike Helmet
“ The PE firm holds companies for an average of 7 years and has a return target of 10%/year.”
Does it mean: the total return over 7 years holding period need to be 70%. The total return = (Dividends + Capital Gain) /Investment = (Dividends + Price sold at exit - Acquisition Costs)/Acquisition Costs ?
***Though actually,
Annualized ROI=[(1+ROI)1/n−1]×100% where:n= Number of years for which the investment is held; I explained the above in a simplified way ***
