The economic value added (EVA) is a more precise version of the residual income (RI).

The residual income computes for the excess of the income earned over the desired income.

When calculating for the EVA, the after-tax operating income is used instead of simply operating income, and current liabilities are deducted from total assets in the computation of desired income.

## Economic Value Added (EVA) Formula

The formula in computing for the economic value added is:

 EVA = After-tax operating income - Desired income

where:
After-tax operating income = Operating income x (1 - Tax rate)

Desired income = Minimum required rate of return x (Assets - Current liabilities)

Note: In most cases, the minimum required rate of return is equal to the cost of capital. The average of the assets and average of current liabilities are used if possible.

## Example: Computation of EVA

Compute for the economic value added of an investment center which had operating income of \$380,000, average operating assets of \$1,200,000, and average current liabilities of \$300,000. The cost of capital is 12%. The company is subject to 40% taxes.

 After-tax operating income = Operating income x (1 - Tax rate) = \$380,000 x (1 - 40%) After-tax operating income = \$228,000
 Desired income = Minimum ROR x (Operating assets - Current liabilities) = 12% x (\$1,200,000 - 300,000) Desired income = \$108,000
 EVA = After-tax operating income - Desired income = \$228,000 - \$108,000 EVA = \$120,000

The subunit made \$120,000 after-tax income above its desired or minimum income. The higher the economic value added, the better.

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