Business Operating Performance Management And EVA

As the further economic development and capital movement in China, investors desire more capital return of their projects. So Businesses are required to have good operating performance measures. Now businesses in China are facing the principal-agent and incentive problems. Therefore, the object of this study is to introduce a new operating performance measure—EVA.In this study, there are 5 sections. In section 1 I will briefly discuss the principal-agent problem and how to choose operating performance measures. In order to link principals' interest with agents' efficiently, we need scientific and exact performance measures. Financial performance measures are divided into three kinds: financial performance measures based on book value, market value and economic value. I will present these in my paper.In section 2 I will discuss meaning and formula of EVA. EVA is based on Residual Income, which is called by economists. EVA is defined as net operating profit after taxes and after the cost of capital. Accounting profits differ from economic profits. Under generally accepted accounting principles, most companies appear to be profitable. However, many actually destroy shareholder wealth because they earn less than the full cost of capital. EVA overcomes this problem by explicitly recognizing that when capital is employed it must be paid for. In this section methods used to improve EVA is presented.In section 3 I will discuss functions and problems of EVA. EVA is good at allocating capital employed, which is no matter in business or in whole economic world. At the same time EVA will measure whether capital is used efficiently. EVA leads businesses and investors to right decisions. But there are pitfalls of EVA. Although EVA is a value based measure, and it gives in valuation exactly same answer as discounted cash flow, the periodic EVA values still have some accounting distortions. This is because EVA is after all an accounting based concept. The formula of EVA have three variables: NOPAT, K and WACC. Because the difference of the accounting principals in countries, these variables are different. In recently many academic researchers' empirical analysis shows that EVA has a low correlation to shareholder value. Therefore EVA incentive system will have problems.In section 4 I discuss how to use EVA in China. Because stock exchange in our country is weak-form efficiency, the result of EVA will not be precise. In facing these situations, there are some suggestions. Businesses in different lifecycle will have different capital weight, so it must be adjusted. There are circulated and no circulated stock in our stock market, we will adjust the formula of WACC when calculating EVA.I finished the paper with aspect of how to improve the usefulness of EVA in China. We should manage our stock market more efficiently, and link EVA with businesses' decision-making tightly.