A company may prefer to use residual income over return on investment for performance evaluation because ________.
A) residual income is a ratio but return on investment is an absolute figure
B) residual income is more likely to lead to goal congruence than return on investment
C) residual income is easier to calculate than return on investment
D) residual income considers three elements but return on investment considers only two elements

Question

Quizplus · Accepted Answer

Residual income takes into account the cost of capital, which encourages managers to invest in profitable projects that generate returns greater than the cost of capital. This goal congruence is not as strong with return on investment, which only measures the absolute return on the investment without considering the cost of capital. Therefore, B is the most appropriate answer.

A Company May Prefer to Use Residual Income Over Return