Sperry Space and Aeronautics is a research and development firm that contracts with the government to design specialized equipment for use in the NASA space shuttle program. Its income statements and year-end balance sheets for 2011 and 2012 are shown below. The board of directors for Sperry recently installed a new key performance measure for the company called Economic Value Added. Sperry's CEO worked with his management team to make the change in 2012. Based on the EVA® results, the CEO was concerned when he presented the financial report for 2012 at the first board meeting following the end of the year. As he began the presentation, he was just glad that Sperry was showing much better profit in 2012 than it had in 2011. His relief, however, was short lived when the head of the finance committee on the board pointed out that EVA® loss in 2012 was actually more than the EVA® loss in 2011. Why was it that operating income was improving, but EVA® was getting worse?

Required:
1. Compute the Economic Value Added for 2011 and 2012. Sperry's average tax rate is 45% and remained the same in both years. On the other hand, due to an increase in equity funding, the weighted average cost of capital increased from 10% in 2011 to 11% in 2012.
2. Explain why EVA® is getting worse in 2012 despite the fact that operating income ishigher.

Sperry Space and Aeronautics Financial Statements for 2012 and 2011 Income Statement (in thousands) 2012 2011 $ 8,600 (3,900) $ 4,700 (3,700) $ 1,000 S 8,800 (4,100) $ 4,700 (3,300) $ 1,400 Revenue Cost of sales Gross margin Operating expenses. Operating income before interest and tax Balance Sheet (in thousands) 2012 2011 2012 2011 $ 210 S 100 Accounts payable 70 Salaries payable Cash 20 S 90 190 Supplies Accounts receivable Total current assets. Equipment Buildings Land Total assets 120 40 S 110 $ 230 5,000 250 360 Total current liabilites $ 580 S 530 Bonds payable 2,530 14,500 7,000 $24,610 $18,930 Total liabilities and equity 5,000 $ 5,110 S 5,230 15,000 1,400 Total liabilities 10,000 Common stock 7,000 Retained earnings 10,000 3,700 4,500 $24,610 $18,930