This video shows how to calculate Residual Income.
Residual Income is the profit earned (e.g., by a department) above and beyond the required rate of return. Residual Income is calculated as follows:
Residual Income = Income – (Required Rate of Return * Capital Invested)
Residual Income is frequently used to evaluate the performance of a division within a company. In such a case, the required rate of return would be set by the company’s top management. Assuming that a division posted income of $45,000 and used $200,000 of capital with a 10% required rate of return, the Residual Income of the division would be $5,000.