Residual income is an operating income that can be generated through investment centers or fund development above the income from the minimum assets. Yes, residual income or what is meant by residual income is indeed often used in business financial activities.
However, not many people know how it is calculated and the formula in the calculation. Therefore, we will discuss in full below:
How to calculate Residual Income and its Formula!
Residual profit = net operating profit – (minimum level of income from investments x total operating assets)
This level of income is often based on a weighted average of the cost of capital of a company. For example, you can assume that the operating assets of a company are $100,000,000 and the net profit of the business is $18,000,000 and the minimum return on assets is 13%. Then, the calculation of residual income:
- Net income = Rp18, 000, 000
- Minus: minimum return x total operating assets: 13% x Rp100, 000, 000 = 13,000,000
- Residual profit: Rp5, 000 , 000
How To calculate Residual Income
As already known, residual income is the absolute amount of profit and not from a rate of return that is used to evaluate the performance of each division. The evaluation is also based on residual income which can encourage financial managers to be more courageous in accepting investment opportunities that have a return of return higher than the cost of invested capital.
Financial managers who are evaluated using this return on investment (ROI) may be reluctant to accept other investments that may suppress their current ROI, even though those other investments may make the company more profitable.
Therefore, the use of residual income in the performance evaluation of this division can include things like the following:
- Residual income can perform economic profit calculations on the minimum income that must be obtained by assets.
- The rate of return or rate of return is also the minimum can vary, this all depends on the risk of each division.
- Different assets may be required to obtain different returns, hence this will correspond to the accepted risk.
- The required assets will probably be the same in order to get the same return regardless of what division the asset is in.
- The impact of maximizing dollars rather than maximizing percentages will lead to goal alignment.
The most noticeable drawback of residual income is that you can’t use it to compare divisions of different sizes. Residual income tends to benefit larger divisions because large divisions will involve larger funds.
Investment and financial analysts certainly have a positive view of higher residual income because it means that the company not only earns a net income, but also successfully covers the opportunity costs that arise. The ratio of residual income to income can also be a measurement metric of the quality of income. Residual income is viewed by many analysts as a better measure of real earnings than net income.
How To Generate Residual Income
After discussing the use, calculation and Formula. Of course you want to know how to generate residual income. About, you do not need to be afraid because anyone can produce it easily.
One way is through Peer-to-Peer (P2P) Lending. Yes, considering that P2P Lending is developing quite well, many are interested in using one of these funding and capital loan development platforms.
By becoming a lender of this fund, you will get a profit in accordance with the existing risks. So that the funds you have can grow and can be re-rotated to be optimized. The benefits of using P2P Lending are also relatively higher compared to some other investment instruments. However, you still have to understand the workings and systems of P2P Lending so that the benefits generated are more optimal.
