What is EVA in finance?

ECONOMIC VALUE ADDED (EVA)

Economic Value Added (EVA) or Economic Profit is after-tax net operating profit (NOPAT) minus a capital charge. This measure is based on the Residual Income technique that serves as an indicator of the real profitability of business. The real profitability occurs when additional wealth is created for share shareholders and the business creates returns above their cost of capital. Thus, the Economic Value Added (EVA) is a value based performance measure that gives importance on value creation by the management for the owners. EVA is considered an alternative to traditional performance measurement systems. It is best used for asset-rich companies, as companies with intangible assets may not be good candidates.

EVA can be expressed as follows:

EVA = NOPAT – (WACC × capital invested)

Where, NOPAT = Net Operating Profits after Tax

WACC = Weighted Average Cost of Capital (The weighted average cost of capital (WACC) is the rate that a company is expected to pay on average to all its security holders to finance its assets).

Capital invested =   Equity + long-term debt at the beginning of the period

[WACC × capital invested is also known as finance charge]

Illustration:

The positive numbers during 2022 and 2023 projects Economic Value Added for a Company. A negative number during 2024 indicates that the company did not make enough profit to cover the cost of doing business.