Economic profitability: a practical guide to evaluate investments and companies

▶ Definition and Fundamental Concept

When we decide to invest our money, the same question always arises: what return can I expect? That answer materializes in an indicator known as economic profitability, also referred to by its acronym in English ROI (Return on Investments). Essentially, this ratio allows us to measure how efficiently a company or our own investment generates profits from the capital employed.

Contrary to what many believe, economic profitability is not an exclusive concept for large corporate investors. Anyone who invests money in stocks, real estate, or businesses can benefit from understanding this principle. It is a valuation mechanism that considers historical performance to project future results: if I invest X amount, how much can I expect to earn?

▶ Difference Between Economic Profitability and Financial Profitability

Although both terms sound similar, they represent different concepts. Financial profitability focuses on the company’s or investor’s own funds, while economic profitability examines the return on total available assets. This distinction is crucial because depending on the type of company or investment we analyze, the results can vary significantly.

▶ Calculation Formula

Calculating economic profitability is surprisingly simple:

ROI = (Profit obtained / Investment made) × 100

This basic equation allows us to instantly determine how much we have gained or lost relative to what we invested. As an individual investor, I can calculate my own ROI if I buy shares at 10 euros and sell them at 15 euros. Similarly, a listed company calculates its ROI by measuring the profits generated relative to its investments in fixed assets, research, or expansion.

▶ Practical Applications: Cases of Individual Investment

Suppose we have €10,000 to invest in two different stocks. We distribute the capital equally: €5,000 per asset.

Scenario A: After a period, our €5,000 in the first asset becomes €5,960.

• ROI = (960 / 5,000) × 100 = 19.20%

Scenario B: The same €5,000 invested in the second asset generates €4,876.

• ROI = (-124 / 5,000) × 100 = -2.48%

Evidently, Option A shows higher profitability. However, this numerical comparison is only the starting point in investment analysis.

▶ Real Cases: High-Growth Companies vs. Immediate Results

Amazon: The case of negative profitability that turned into fortune

For several years on the stock market, the e-commerce giant showed negative ROI. Any rational investor would have considered abandoning their position. However, those who maintained their capital in this company from those deficit periods until today experienced extraordinary returns. This example illustrates a crucial reality: negative historical ROI does not always predict business failure.

Tesla: From -201% to +15,316%

The situation is even more dramatic with Tesla. Between December 2010 and December 2013, the company recorded sustained losses. In the final quarter of 2010, its ROI reached -201.37%. A conservative analyst would have immediately discarded this investment. However, an investor who held their capital from that date until today would have exponentially multiplied their wealth, achieving an accumulated return of over 15,316%.

▶ ROI in Established Companies: The Apple Example

While expanding companies may show low returns, mature companies with proven business models demonstrate superior operational efficiency. Apple exemplifies this trend with an ROI exceeding 70%, positioning it among the corporations that best capitalize on their investments. The wide margins derived from its brand power and technological advantages are directly reflected in this metric.

▶ ROI in Tangible Asset Investments

Economic profitability is not limited to stocks and securities. Consider a company that invests €60,000 in remodeling its retail stores. A subsequent appraisal values those spaces at €120,000.

ROI = (60,000 / 60,000) × 100 = 100%

The investment has doubled, demonstrating that the capital employed generated value equivalent to the amount invested.

▶ Practical Utility in Decision-Making

On a personal level, ROI helps us choose between alternatives: if Option A offers a 7% return and Option B offers 9%, the decision seems obvious. However, in analyzing listed companies, ROI gains greater strategic relevance. It helps identify companies that know how to maximize their resources and avoid those that waste capital on inefficient allocations.

For companies focused on value and traditional investments, ROI is an enlightening indicator. For high-growth companies investing heavily in research, development, and innovation, a low ROI is common but does not mean future failure. Sectors like biotechnology and artificial intelligence operate under different dynamics than service or energy distribution companies.

▶ Advantages and Limitations

Strengths:

• Simple and straightforward calculation
• Considers the total investment made
• Easy-to-find data
• Applicable to assets of different natures
• Valid for both individual investors and corporate valuation

Weaknesses:

• Based on historical data, making reliable future projections difficult
• Less effective for evaluating aggressive growth companies
• Companies with low investments can easily manipulate results

▶ Conclusion

Economic profitability is a vital indicator in any investment analysis, but it should never be the only factor considered. ROI must be complemented with a comprehensive examination of the company: its sector, business model, track record, competition, and future prospects. A high ROI can indicate operational excellence or be a warning sign if it comes from a declining company. A low ROI can represent both a value opportunity or a symptom of poor management.

The key lies in correctly contextualizing each metric within the complete business landscape. Only then can we channel our investments toward genuine opportunities that combine solid fundamentals with sustainable growth prospects.