Some of the major advantages of using this economic value added methodology are:
- In my earlier article, we have compared EVA with earnings per share and return on investment/assets and found that both the traditional ratios do not reflect the true cost of capital- there is no hinge whether shareholders value have been created or destroyed,
- EVA is extremely easy to compute- just extract the data from both the income statement and the balance sheet and put in some adjustments to derive the EVA,
- EVA is easy to understand like the net present value (NPV) concept wherein EVA( particularly future EVA) if positive, increases shareholders’ wealth and a negative EVA is vice versa,
- EVA is easy for layman besides accountants to understand its concept as it is logical and comply with the economic terms of “economic profit” ,
- EVA is part of Return on Investment re deploys assets turnovers and utilization which ordinary managers can easily relate to,
- EVA is also really the discounted free cash flows of a business,
- EVA is an all round performance metric which measures the operating profit, business investment and the cost of capital as a financing cost .
- As EVA is a performance metric principally for gauging the creation or not of the shareholder value, it therefore should complements very greatly the Value-based management (VBM) methodology.
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