By contrast eva recognises that companies need to

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capital. By contrast, EVA recognises that companies need to cover opportunity costs before they add value. EVA is smaller than net income because it also deducts investors required returnAccounting rates of return-For smaller divisions EVA is likely to be very small, therefore, when comparing managers, it can be helpful to measure the firms profits per dollar of assets1.Return on capital2.Return on equity3.Return on assetsThese are all book rates of returnROC:Net income + after tax interest as a % of long-term capital ROC = after tax operatingincome(average)total capitalistaion
-It measures the amount of after-tax operating income earned per dollar of invested capital (equity and debt)-The spread between ROC and cost of capital is just EVA but expressed as a % rather than dollars-Measures return vs long term debt and equityROA:ROA = aftertax operatingincometotal assets-Measures the amount of after-tax operating income earned per dollar of total assets-Total assets > total capitalisation because total capitalisation doesn’t include current liabilities-Measures return vs total assetsROEROE = net income(average)equity-Measures the amount of net income earned per dollar of equity invested by shareholders-How well we are doing using our debt. How well we have used the money to make wealth for shareholdersProblems with EVA and accounting rates of returnBoth based on book (balance sheets) values for assetsDebt and equity are also book valuesAccountants do not show every asset on the balance sheetThe balance sheet does not show the current market value of the firm’s assetsThe assets in a company’s books are valued at their original cost less and depreciationEFFICIENCY MEASURESAsset turnover ratio-How much sales are generated by each dollar of total asset (measures how hard the firm’s assets are working)?-= sales(average)total assetsat the start of the year-It measures how efficiently the business is using its entire asset baseInventory turnover-Efficient firms don’t tie up more capital than they need in raw materials and finished goods. They have small inventories that they rapidly turnover
Inventory turnover = Cost of goodssold(¿income statement)(average)inventory at start of yearbalancesheet-It is how many times we will turn inventory over Average days in inventory = number of×inventory wasturned¿(365)¿Receivables turnover –higher ratio indicates quicker paymentsReceivables turnover = sales(average)recievables at the start of the year-How long it takes them to pay you-The quicker you get your money back the less you have to borrow and the cheaper it is to run your companyAverage collection period = number of×receivablesturned¿365¿Gross profit margin - gross profitsales-Profit from sales after we take away the cost of goods soldNet Profit margin = net incomesales-Net income is profit after tax-How much of sales ends up as profit in your pocket-This is misleading though, as when companies are financed by debt, some of the

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