IGNOU : M.COM : MCO 7 : UNIT 4 : Q - 1. Define the concept of Return.

Ans. CONCEPT OF RETURN

Return is something received back. In the field of financial decision making the manager invests the company’s money on diverse fixed and current assets and hopes to receive something back on his investment. This can be said to be the meaning of return. Nevertheless, the term ‘return’ has several dimensions, as of the following:

(i) Book Vs. Market Return

(ii) Single period Vs. Multi period Return

(iii) Ex-ante (expected) Vs. Ex post (Realized) Return

(iv) Security Vs. Portfolio Return

Book Vs. Market Return :  Book return is the return calculated from the books of the company using profits and assets. Normally, the return on assets (ROA) is taken as the indicator of book return. Several other return calculations can also be made using other variables like capital employed, net worth, capital invested, earnings per share and dividends per share. In all these cases, these returns reflect historical performance. Whereas , market return is based on the market values of the assets. Suppose, X buys the stock of ABC company for Rs.100, whose face value is Rs.10/- and the company earning Rs.1 per share, his book return is 10% ; while his market return is 1 per cent.

Single period Vs. Multi period Return : Return is always computed with reference to a particular period. If an investment of Rs.100 earns an income of Rs.3 over a three month period, the rate of return is 3 per cent. If another investment earns an income of Rs.3 over a 12-month period, then also the return is 3 per cent. But the measures appear to be illogical, unless they are related to a specific time period. Normally, rates of return are computed on an annual basis. As such, the rates of return of the above two investments would be 12 per cent and 3 per cent respectively.

Ex-ante Vs. Export Return  : Ex-ante means before the fact, whereas ex-post means after the fact. There is significant difference in these two, as far as security returns are concerned. An ex-ante return is the one that an investor hopes to get from his investment. There is no guarantee that what the investor has hoped for would come true. Whereas, the ex post return is the actual or realized return. In the event of bullish or bearish conditions prevailing in the markets, the gap between the expected return and actual return may be very wide. The following are the simple formulae for computing both the returns.

Security Vs. Portfolio : return This is with reference to the investment in a single asset/security against a group of assets/securities. Whatever be the security, whether it is debentures, preference shares or equities, the procedure for valuation can be common. Nevertheless, in case of the valuation of equities, authors in finance have proposed certain valuation models based on dividends or earnings.