Residual Income

Residual Income refers to the amount of income that an individual or business retains after all Operating Expenses and costs have been deducted from total Revenue. It represents the Net Income generated beyond the minimum required return on investment and is often used to assess profitability and investment performance.

Formula: Residual Income = Net Income – (Equity Capital × Equity/">Cost of Equity)

Examples:

• If a business generates a Net Income of $100,000 and has Equity Capital of $500,000 with a Equity/">Cost of Equity of 10%, the residual income would be calculated as follows:
  Residual Income = $100,000 – ($500,000 × 0.10) = $100,000 – $50,000 = $50,000.
• For an individual, if they earn $80,000 annually and their expenses amount to $50,000, their residual income would be:
  Residual Income = $80,000 – $50,000 = $30,000.

Cases:

• Investment Evaluation: Companies often use residual income to evaluate the performance of divisions or projects, helping to determine if they are adding value beyond their costs.
• Personal Finance: Individuals may assess their residual income to gauge their financial health, ensuring they have funds available after all expenses.