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CLAIRE: Yes, I $do.$ Let$s$ see $ifwe$ can make these terms make sense $by$ talking through their meaning and their significance $to$ investors.

The term book value has several uses. $It$ can refer $to$ a single asset $or$ the company $as$ a whole. When referring $toan$ individual asset, such $as$ a piece $of$ equipment, book value refers $to$ the asset$s,$ adjusted for any accumulated depreciation $or$ amortization expense. The value, $or$ difference between the machine$s$ historical cost and its accumulated depreciation expense, $is$ called its book value.

$In$ contrast, when the term refers $to$ the entire company, $it$ means the total value $of$ the company$sas$ reported $in$ the firm$s.$

ALEXIS: That makes sense. $So,$ what makes this value important $to$ investors $is$ that $itis$ value that can change$-$but only due $to$ a couple $of$ events, including the $of$ Treasury stock, the sale $of$ new common $or$ preferred shares, and the payment $of.$ Equally important, $it$ change $in$ response $to$ changes $in$ the market prices $of$ the firm$s$ shares.

CLAIRE: Right! $So,$ how useful would a firm$s$ book value $be$ for assessing the performance $of$ Galaxy$s$ management?

ALEXIS: Well, because Galaxy$s$ book value with changes $in$ the market price $of$ the firm$s$ shares, the firm$s$ book value reflect management$s$ efforts $to$ maximize the shareholder wealth and therefore $be$ used $to$ evaluate management$s$ performance.

Now, what about $Economic$ Value Added$?$

CLAIRE: During the $1990s,$ the consulting firm Stern, Stewart & Company developed the concept $of$ Economic Value Added, $or$ EVA, $to$ better assess management$s$ performance $in$ maximizing their shareholders$$ wealth.

Galaxy$s$ EVA equals the additional profit created $in$ excess $of$ the after$-$tax operating income necessary $to$ finance its total after$-$tax cost $of$ capital, which $is$ expressed $in$ annual dollars. $Itis$ computed $by$ subtracting Galaxy$s$ from its $.$

$In$ turn, Galaxy$s$ annual cost $of$ capital $is$ calculated $by$ multiplying its total operating capital, which includes its net fixed assets and net operating working capital, $by$ the after$-$tax percentage cost $of$ capital.

$OK,$ given that description, here$s$ a question for you: Compared $to$ the book value, what $is$ the advantage $of$ using the EVA $to$ evaluate the performance $of$ Galaxy$s$ management?

ALEXIS: Give $me$ a second $to$ think. $..OK,its$ better $to$ evaluate the performance $of$ Galaxy$s$ management $by$ using the company$s$ EVA rather than the book value $of$ its shareholders$$ equity because the better the managerial decisions being made, the the after$-$tax net operating income earned, the the difference between this net operating income and the cost $of$ capital needed $to$ generate that income, and the the EVA, $or$ true economic profit, earned $by$ the company.

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