ROI and RI continued

In this lesson

1. 0:00 Common weaknesses in ROI and residual income
2. 1:38 How capital invested valuation affects ratio reliability
3. 2:52 ROI calculation worked example with investment decision
4. 5:10 Why managers reject profitable investments
5. 8:46 Residual income calculation and manager behaviour
6. 11:51 Depreciation and profit adjustments for new projects
7. 13:26 Combined ROI and residual income assessment

About this lesson

You'll explore the key weaknesses both measures share—including how capital valuation methods affect results, why taxation is often ignored, and how uncontrollable items distort fair evaluation—then work through three worked examples that demonstrate real investment decisions and the conflicts that arise when manager incentives don't align with business strategy. The first example shows how ROI can create dysfunctional decisions: a division manager rejects a profitable investment because it dilutes their ROI percentage, even though the investment exceeds the company's cost of capital and would benefit the overall business. The second example applies residual income to the same scenario, revealing how this metric can also incentivise managers to reject value-creating projects if they reduce divisional residual income in year one. The final example pulls both measures together, requiring you to extract missing data from operating profit margin and asset turnover, then calculate both ROI and residual income from the same set of information. By the end of this lesson, you'll understand not just how to calculate these investment centre metrics, but why they matter for exam success and real business decisions—and critically, where their limitations lie when used as sole performance measures.

Duration: 17m