Disadvantages of Residual Income.

a. Residual income, like ROI, can encourage a short-run orientationb. Unlike ROI, it is an absolute measure of profitabilityc. Direct comparison of the performance of two different investment centers becomes difficult, as the level of investment may differ. d. To correct this, compute both ROI and residual income and use both measures for performance evaluation. ROI could then be used for interdivisional comparisons

a. Residual income, like ROI, can encourage a short run orientation

Explanation:

Residual incomes presents the same problem as ROI measurement, The problem of myopic behaviour or short run orientation

The manager may cut expenses like advertising expenses, maintenance expenses , training expenses when being evaluated under residual income or ROI to reflect a favourable residual income or return on investments, The problem Managers being short run orientated is not eliminated or minimized by change methods between ROI and Residual income.

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