Question

Can the use of -on-investment (ROI) lead to bad business decisions? Explain your response.

Answer 1

The ROI shows the return to a company in percentage terms. This percentage can be calculated for a product, a division or the whole organization. RI, on the other hand, shows return that a company is earning in monetary terms. It basically highlights the favorableness of an investment by comparing it with the least favorable option which is the minimum amount of interest a company could have earned on its investment. This is the reason why RI can help in decision-making while considering new investments.

A project is deemed favorable if the ROI of that project is equal to or more than the target ROI of the company or project. If, ROI is calculated for a new project, business may alter its target ROI based on the industry or product or market related to the new project. As RI method is used to assess the financial efficiency of invested capital, it is not usually used for specific decision-making rather it can aid management to understand the level of opportunity cost upon their investment decisions.

So, Use of ROI sometimes lead to bad business decisions.