Economic Value Added

D

Economic Value Added, a value-based measure of economic profit, is a registered trademark of Stern, Stewart & Company. The equation used to calculate EVA is as follows:

EVA = {Net Operating Profits Less Adjusted Taxes - [Total Capital Employed * (Cost of Capital)]}.

In this case, the NOPLAT figure must be calculated manually by subtracting the Cash Operating Taxes from the Adjusted Operating Profit before Tax (AOPBT) figure. Doing so will produce an answer of $17,700,000 for the Net Operating Profit Less Adjusted Taxes figure. Now that the necessary information has been determined, the calculation of EVA is as follows:

EVA = {$17,7000,000 - ($127,000,000 * 0.145)} = ($715,000)

A negative EVA calculation indicates that management has failed to provide economic profits to shareholders, as evidenced by the fact that the opportunity cost of capital employed is less than the AOPAT figure. In this example, the management of Intelligent Semiconductor should be considered as having failed to provide shareholder value. The calculation of Adjusted Operating Profit Before Taxes (AOPBT), and Cash Operating Taxes are important. The calculation of AOPBT is as follows:

Operating profit (after depreciation and amortization) + Implied interest on operating leases + any increase in the LIFO reserve + goodwill amortization = Adjusted

Operating Profit Before Taxes.

Cash Operating Taxes, another important component of EVA, is calculated as follows:

Cash Operating Taxes = Income Tax Expense + tax benefit from interest expenses + tax benefit from interest on leases + taxes on non-operating income

Adjusted Operating Profit Before Taxes minus Cash Operating Taxes = Net Operating Profit Less

Adjusted Taxes (NOPLAT). Subtracting the dollar cost of capital from the NOPLAT figure will yield the EVA.