Economic Value Added (EVA)
Print| Total Capital Charge | $0.00 |
Traditional GAAP accounting net income measures bottom-line profit after deducting interest expenses, but it completely ignores the cost of equity capital. A company can report positive accounting profit while actually destroying shareholder value if its earnings fall below the opportunity cost of total invested capital. To measure true economic profit, corporate managers use Economic Value Added (EVA).
Our free Economic Value Added Calculator computes NOPAT (Net Operating Profit After Tax), calculates the dollar capital charge, and evaluates net Economic Value Added created or destroyed by a business.
How to Calculate Economic Value Added (EVA)
EVA measures financial performance by subtracting the total cost of capital (both debt and equity) from net operating profit after tax.
The Core EVA Formula:
EVA = NOPAT - ( Capital Employed × WACC )
NOPAT & Capital Charge Equations:
NOPAT = EBIT × (1 - Corporate Tax Rate)
Capital Charge = Capital Employed × WACC
- NOPAT: Net Operating Profit After Tax.
- Capital Employed: Total invested capital (Total Assets minus non-interest-bearing Current Liabilities).
- WACC: Weighted Average Cost of Capital (as a decimal percentage).
Step-by-Step Corporate EVA Example
Imagine an enterprise reports Operating Income (EBIT) of $20,000,000 subject to a 25.0% tax rate. The company operates with $100,000,000 in total Capital Employed and maintains a Weighted Average Cost of Capital (WACC) of 10.0%.
Let’s calculate NOPAT, Capital Charge, and resulting Economic Value Added:
NOPAT = $20,000,000 × (1 - 0.25) = $15,000,000
Capital Charge = $100,000,000 × 0.10 = $10,000,000
EVA = $15,000,000 - $10,000,000 = +$5,000,000
| EVA Metric Component | Calculation Basis | Dollar Amount | Economic Significance |
|---|---|---|---|
| Operating Profit (EBIT) | Pre-tax operational earnings | $20,000,000 | Core business earnings |
| Net Profit After Tax (NOPAT) | $20M × (1 – 0.25) | $15,000,000 | Operating profit available to capital suppliers |
| Capital Charge | $100M Capital × 10% WACC | -$10,000,000 | Opportunity cost of invested debt & equity |
| Economic Value Added (EVA) | NOPAT – Capital Charge | +$5,000,000 EVA | True economic value creation |
Frequently Asked Questions (FAQ)
What is Economic Value Added (EVA)?
Economic Value Added (EVA) is a financial metric developed by Stern Value Management that measures the true economic profit generated by a firm after deducting the cost of all capital (both debt and equity) used to fund operations.
How does EVA differ from Accounting Net Income?
Accounting Net Income only subtracts debt interest expenses, leaving the cost of equity unaccounted for. EVA deducts a capital charge for both debt and equity capital, revealing whether earnings truly exceed the hurdle cost of invested funds.
What does a negative EVA indicate?
A negative EVA means that even if a business reports positive accounting net income, its earnings fail to cover the required cost of capital, resulting in net shareholder wealth destruction over the period.