A contractor's business plan projects first-year revenues of $500,000 with a 15% net profit margin. If startup costs are $75,000, what is the projected return on investment for the first year?
Correct Answer
A) 100%
First-year profit = $500,000 × 15% = $75,000. Return on investment = $75,000 profit ÷ $75,000 startup costs = 100%. This represents a complete return of the initial investment in the first year.
Why This Is the Correct Answer
Return on Investment (ROI) is calculated by dividing the net profit by the initial investment and expressing it as a percentage. With first-year revenues of $500,000 and a 15% net profit margin, the profit equals $75,000. Since the startup costs (initial investment) were also $75,000, the ROI is $75,000 ÷ $75,000 = 1.0 or 100%. This means the contractor will earn back their entire initial investment in the first year.
Why the Other Options Are Wrong
Option C: 125%
150% would result from using an incorrect profit figure or confusing ROI with other financial ratios
Option D: 75%
125% would result from adding the initial investment to the profit incorrectly, or miscalculating the profit margin
Memory Technique
Remember 'PIG' - Profit divided by Initial investment = Gain percentage. Always calculate profit first, then divide by what you put in originally.
Reference Hint
Business and Finance for Contractors chapter on Financial Analysis and Business Planning sections covering ROI calculations
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