Economic Profitability: Keys to Evaluating Your Investments

Why Economic Profitability Is Fundamental

When making investment decisions, an unavoidable question arises: how do I know if my capital will generate profits? The answer lies in understanding ROI (Return on Investment), a term that encompasses what we know as economic profitability. It is the most direct indicator to measure the performance of our assets.

For equity investors, ignoring ROI is as serious as not reviewing the PER or earnings per share (BPA). This metric acts as a compass in the fundamental analysis of listed companies, revealing how much return each euro invested generates.

Defining Economic Profitability

Essentially, economic profitability answers a simple but powerful question: what profit do I obtain by investing my resources in this company and not in another?

Although it sounds straightforward, the concept has layers of complexity. The calculation is always based on historical data, on past performance. Through this retrospective analysis, we identify patterns that we can project forward: “if I invest X, I get Y”.

Economic profitability greatly facilitates decision-making. A rational investor will seek companies that offer higher ROI, although this metric does not constitute an absolute guarantee of future success.

The Limited Value of Negative ROI: Case Studies

Market history teaches us uncomfortable lessons. Many start-ups that now dominate their sectors spent years generating negative ROI, that is, recording losses for their shareholders. Amazon experienced several consecutive years with red economic profitability. Investors constantly lost capital. However, those who maintained their position during that financial storm multiplied their wealth exponentially in subsequent decades.

Tesla provides an even more dramatic example. Between late 2010 and mid-2013, the company’s ROI was catastrophic: reaching -201.37% in December 2010. Any traditional investor would have liquidated their positions in panic. Nevertheless, those who persisted from that time until now achieved an accumulated return of over 15,316%, a real fortune.

This dilemma explains why economic profitability requires context. Its applicability changes radically depending on the type of company analyzed.

Value Strategy vs. Growth Strategy

ROI is most relevant when applying a “Value” strategy. We look for traditional companies with a long stock market history, predictable results, and a clear trajectory. In these cases, historical ROI predicts future behavior more reliably.

But when our bet is on “Growth” companies, ROI loses explanatory power. A company focused on R&D, innovation, and aggressive expansion will generate low or negative ROI for years without indicating business failure. Apple currently reflects an ROI above 70%, making it one of the most efficient corporations in capital profitability thanks to its brand and technological positioning.

Crucial Difference: Economic Profitability vs. Financial Profitability

Many confuse these terms incorrectly. The confusion arises because “economy” and “finance” seem synonymous, but their applications diverge considerably.

Financial profitability operates solely on equity. Economic profitability, on the other hand, is calculated on total assets. Depending on the company’s structure, this difference produces significantly different results.

The ROI Formula: Deceptively Simple

Calculating ROI is not complicated in appearance:

ROI = (Earnings / Actual Investment) × 100

This basic equation reveals how much money was gained or lost relative to the amount invested. The value of ROI is its versatility: it works for individual investors as well as for evaluating the efficiency of corporate investments.

A retail investor buying Inditex shares at €10 and selling at €15 is calculating their own ROI. Simultaneously, Inditex as a company measures its ROI by analyzing how its investment expenses generate profits. Both use the same principle.

Practical Applications: Two Scenarios

Case 1 - Individual Investor:
We have €10,000 to invest in two stocks (A and B), allocating €5,000 to each. After a period, asset A increased to €5,960 (ROI: +19.20%) while asset B decreased to €4,876 (ROI: -2.48%). Asset A proved to be the more convenient option, offering positive returns compared to losses in the second.

Case 2 - Company:
A corporation invests €60,000 in remodeling its retail spaces. A subsequent appraisal values these spaces at €120,000. The resulting ROI is 100%, indicating that the investment doubled its initial value. The company doubled its profitability through this modernization strategy.

Purpose and Application of ROI

ROI provides critical information both in personal decisions and in corporate investment analysis.

At an individual level, the logic is straightforward: if option A yields 7% and option B yields 9% under equal conditions, everyone will choose B. It is a direct comparison between alternatives.

In equity investment, we seek to identify companies that maximize return on their investments. There are many examples of corporations that, due to poor resource allocation, eroded their operational results. Therefore, monitoring the historical trajectory of ROI is essential, as profitability does not emerge immediately.

For companies whose model depends on continuous innovation and development, ROI becomes fundamental. Understanding whether the company adequately profits from its R&D resources reveals its capacity to turn expenditure into value.

Strengths of the ROI Indicator

• It is a simple ratio to calculate, providing direct results
• Incorporates the total invested amount
• Data is widely available and accessible
• Applies uniformly to assets of diverse nature without complex adjustments
• Maintains validity for both individual investors and corporate evaluation

Limitations of the ROI Indicator

• Based on historical data, making reliable future projections difficult
• Loses usefulness when evaluating growth assets that prioritize investment over current profitability
• Companies with low-investment models can artificially inflate ROI without indicating true efficiency

Conclusion: Integrating ROI into Your Analysis

Economic profitability is a key factor when executing investments and selecting capital-receiving companies. However, it requires integration within a more holistic market assessment.

Relying solely on ROI offers no guarantees, just as a low P/VC ratio can indicate both opportunity and imminent business deterioration.

The smart approach is to examine the company from multiple angles: correctly classify whether it is value or growth, use ROI as an important but not exclusive indicator, and consider the specific sector.

ROI can distort conclusions in sectors oriented toward current investment for future profitability, such as biotechnology or artificial intelligence, compared to electric utilities or food distributors where the impact materializes more quickly.

Mastering economic profitability allows you to make informed decisions, evaluate opportunities critically, and minimize inherent market risks.