esterday, Water and Power Co. released its 2015 annual report on the company's website. While reading the report for his boss, Alexis came across several terms about which he was unsure. He leaned around the wall of his cubicle and asked his colleague, Claire, for help Alexis Claire, do you have a second to help me with my reading of Water & Power's annual report? I've come across several unfamiliar terms, and I want to make sure that I'm interpreting the data and management's comments correctly For example, one of the footnotes to the financial statements uses "the book value of Water & Power's shares," and then in another place, it uses "Economic Value Added." I've never encountered those terms before. Do you know what they're talking about? Claire Yes, I do. Let's see if we 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 to an individual asset, such as a piece of equipment, book value refers to the asset's or amortization expense. The and its accumulated depreciation expense, is called its book value , adjusted for any accumulated depreciation value, or difference between the machine's historical cost In contrast, when the term refers to the entire company, it means the total value of the companys as reported in the firm's Alexis That makes sense. So, what makes this value important to investors is that it is 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 change in response to changes in the market of prices of the firm's shares Equally important, it Claire Right! So, how useful would a firm's book value be for assessing the performance of Water & Power's management? Alexis Well, because Water & Power's book value with changes in the market price of the firm's shares, the firm's book value the price of the firm's common stock and therefore management's performance reflect management's efforts to maximize be used to evaluate 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. 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. Water & Power'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. It is computed by subtracting Water & Power's from its In turn, Water & Power's annual cost of capital is calculated by multiplying its total 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 operating capital, which includes its net fixed assets and net operating advantage of using the EVA to evaluate the performance of Water & Power's management? lexis Give me a second to think. . . OK, it's better to evaluate the performance of Water & Power'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 operating income earned, the the cost of capital needed to generate that income, and the economic profit, earned by the company. the after-tax net the difference between this net operating income and the EVA, or true Claire Nicely done! Does this make your reading of Water & Power's annual report easier