Calculate residual income for performance measurement.
Calculate residual income for performance measurement and investment analysis
Net income from operations
Total capital invested in the division/project
Minimum required return on invested capital
Weighted average cost of capital (WACC)
Residual Income (Required Return)
Residual Income (Cost of Capital)
Required Return Amount
Capital Charge
Return on Investment
Performance
Operating Income: $1,200,000
Invested Capital: $8,000,000
Required Return: 12%
Residual Income: $1,200,000 - ($8,000,000 × 0.12) = $240,000
✓ Positive RI indicates value creation
Operating Income: $500,000
Invested Capital: $6,000,000
Required Return: 10%
Residual Income: $500,000 - ($6,000,000 × 0.10) = -$100,000
✗ Negative RI indicates value destruction
• Use market-based asset valuations when possible
• Consider both book value and economic value measures
• Adjust for inflation in multi-period analysis
• Compare RI trends over time for better insights
• Use alongside other performance metrics like ROI
• Consider risk factors in required return rates
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