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ROI and residual income, worked through a division
Two ways to judge a division, ROI and residual income, can point a manager in opposite directions on the very same project. Here both are worked through a division, and the conflict shown.
Updated September 2026 · 7 min read
How do you judge whether a division is performing well, and whether its manager should take on a new project? Two measures compete for the job: return on investment (ROI) and residual income (RI). They look similar, but they can push a manager towards opposite decisions, which is exactly why the exam loves them. Let us work both through a division.
The scenario
Northwind Logistics has a division that made an operating profit of £180,000 on capital employed (net assets) of £1,000,000. The company requires a return of 12% on capital. How is the division doing, and what happens when a new project comes along?
Return on investment (ROI)
ROI expresses profit as a percentage of the capital tied up in the division:
ROI = profit ÷ capital employed = £180,000 ÷ £1,000,000 = 18%.
At 18% against a required 12%, the division looks strong.
Residual income (RI)
RI takes the profit and charges the division for the capital it uses, at the required return:
RI = profit − (capital employed × required return) = £180,000 − (£1,000,000 × 12%) = £180,000 − £120,000 = £60,000.
A positive RI of £60,000 says the division earns £60,000 more than the minimum the company demands. Also a healthy verdict.
Where they disagree
Now a new project appears: it needs £200,000 of investment and would add £30,000 of profit, a return of 15%. Since 15% beats the company's 12% required return, the company wants it. But watch what each measure tells the divisional manager.
The project earns 15%, comfortably above the 12% the company requires, so it should be accepted. Residual income says accept; ROI says reject, because the project's 15% is below the division's current 18% average and would pull the headline percentage down. This is the classic weakness of ROI: it can make a manager turn down good projects to protect their ratio. RI, by charging for capital in pounds, stays aligned with what is best for the company.
Where this comes up in ACCA
Divisional performance, ROI and RI, is a core part of Performance Management (PM), and it deepens in Advanced Performance Management (APM), where the behavioural angle, and transfer pricing alongside it, carries real marks. The conflict above is one of the most examinable points in the topic.
The best way to master it is to work the numbers and the judgement together. The free ACCA PM course on Clevernest teaches divisional performance inside a real business, with hands-on exercises as you go.
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Frequently asked questions
What is the difference between ROI and residual income?
ROI expresses divisional profit as a percentage of capital employed, while residual income is profit minus a charge for the capital used at the required return, expressed in pounds. In our example ROI is 18% and RI is £60,000.
How do you calculate ROI?
Divide the division's profit by its capital employed. In our example £180,000 of profit on £1,000,000 of capital gives an ROI of 18%.
How do you calculate residual income?
Take the division's profit and deduct an imputed interest charge equal to capital employed times the required return. In our example £180,000 minus (£1,000,000 times 12%) equals £60,000 of residual income.
Why can ROI lead to a bad decision?
Because a manager judged on ROI may reject a project that earns more than the company's required return if it is below the division's current ROI, since it would lower the average. In our example a 15% project is worth taking, but it drags ROI from 18% to 17.5%, so ROI says reject while residual income correctly says accept.
Where are ROI and residual income tested in ACCA?
In Performance Management (PM) as part of divisional performance measurement, and in more depth, including the behavioural effects, in Advanced Performance Management (APM).