EVA
evaluating performance by comparing earnings to capital investment economic value added: a way of judging financial performance by measuring the amount by which the earnings of a project, an operation, or a corporation exceed or fall short of the total amount of capital that was originally invested by its owners.
EVA is conceptually simple: from net operating profit, subtract an appropriate charge for the opportunity cost of all capital invested in an enterprise-the amount that could have been invested elsewhere. It is calculated using this formula:
Net operating profit less applicable taxes − Cost of capital = EVA
If a company is considering building a new plant, and its total weighted cost over ten years is $80 million, while the expected annual incremental return on the new operation is $10 million, or $100 million over ten years, then the plant's EVA would be positive, in this case $20 million:
$100 million − $80 million = $20 million
An alternative but more complex formula for EVA is:
(% Return on invested capital − % Cost of capital) × Original capital invested = EVA
EVA is frequently linked with shareholder value analysis, and an objective of EVA is to determine which business units best utilize their assets to generate returns and maximize shareholder value; it can be used to assess a company, a business unit, a single plant, office, or even an assembly line.
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