Economic Value Added Momentum
The term economic value added momentum refers to a calculation that allows the investor-analyst to understand the change in EVA over time. EVA momentum is used to determine if additional investments in plant and other production equipment are generating additional revenues.
Economic Value Added Momentum = (Ending EVA – Beginning EVA) / Revenues
- Revenues are the annualized values in the current accounting period. While the beginning and ending EVA values can be taken at any point in time, revenues should be an annualized value.
Return on investment measures allow the investor-analyst to understand the company’s ability to provide shareholders with an acceptable return on their investment. This is usually assessed by examining metrics such as net worth, returns on equity or assets, earnings, economic value added, and dividends. Return on investment metrics provide analysts with a way to determine a fair price to pay for a share of common stock. One of the ways to understand if a company’s incremental investments over time are increasing the worth of the business is by calculating the company’s economic value added (EVA) momentum.
Businesses are constantly investing in new equipment, funding research and development efforts and investing in their employees. One of the ways to assess these incremental investments is by calculating the company’s economic value added momentum. This metric compares the ending EVA to that in the beginning of the period and divides this value by annualized revenues. While EVA itself accounts for incremental investments between two periods, it is a static value.
While it’s possible to track EVA over time, doing so does not provide any insights into the associated changes in revenues. Typically, an increase in fixed assets should be accompanied by an increase in revenues and / or profits. If EVA momentum is a positive value, it reveals the company is both able to grow in terms of assets and improve EVA at the same time, which is very difficult to achieve in practice. If not a positive value, EVA momentum should be as close to zero as possible.
A mutual fund manager would like to understand the contribution of Company ABC’s recent investments to the value of the business over time. The fund manager suspects the company’s growth rate is slowing and new investments are not additive to revenues. He asked his analytical team to calculate the company’s economic value added momentum.
The team found the beginning EVA to be $165,000 and the ending EVA to be $208,000. Annualized revenues were $3,050,000. EVA momentum was then calculated as:
= ($165,000 – $208,000) / $3,050,000= -$43,000 / $3,050,000, or -1.4%
While the fund manager was hoping EVA momentum would be a positive value, it was very close to zero and therefore indicative of a well-run company.