Methods of valuing EVA/economic rent of the company essay

Economic value added is one of the fundamental concepts used for measuring the company’s performance and for performing the analysis of internal environment of the company. EVA is basically a measure of financial performance, and it represents the after-tax cash flow generated by the company on its invested capital, taking into account the cost of this capital. More precisely, EVA is calculated using such financial measures as NOPAT (net operating profit after taxes), WACC (weighted average cost of capital) and the value of invested capital employed by the company to generate NOPAT. Thus, the value of EVA can be calculated as NOPAL less the value of invested capital multiplied by WACC (which represents the cost of invested capital).

EVA, or economic rent, measures residual income, and is thus highly efficient for measuring the dynamics of changes in shareholders’ value. This ratio also has several advantages over other methods of measuring performance: it focuses on real results rather than on accounting ones, includes all business cycle aspects, and allows to estimate the effect of tradeoffs affecting both income statement and balance sheet. EVA value is also effective for capital allocations, and allows to determine long-term performance instead of focusing on short-term results.

There are two approaches for determining EVA: financing and operating approach. Using financing approach, equity and its equivalents are added up to get the invested capital, and then WACC is calculated basing on debt and equity measurements, and on the costs of debt and equity. According to operating approach, the value of sales less depreciation and operating expenses is adjusted to get NOPAT, and then the cost of capital is deducted from that value.

Coca-Cola company was one of the first to adopt EVA as a key performance measure; and claimed maximization of shareholders’ wealth as their main goal, which allowed to increase the price of the company’s stocks in future.