The Break-Even-Point Analysis in Terms of EVA Account
Economic value added (EVA) forms a measure of the company's performance and represents an innovative way of looking at company's real profitability. The principal difference between the economic value added and more conventional profit measures (such as earnings before interests and taxes) is that EVA is an "economic" as opposed to an "accounting" profit. The key distinction between EVA as the economic and accounting profit lies in the notion that a company is not truly profitable unless its revenues have covered both operating expenses of running the business and all capital costs, including the costs of equity finance. From an accounting perspective, the economic value added is defined as the difference between the company's net operating profits after taxes (NOPAT) less than the capital charge. NOPAT measures the profits the company has generated from its ongoing operations. The capital charges equal the company's invested capital times weighted average cost of capital. From that point of view, EVA can be defined as follows: EVA = NOPAT - IC x WACC, where: EVA - economic value added, NOPAT - net operating profit after taxes, IC - invested capital, WACC - weighted average cost of capital. The above presented definition of EVA reveals the sources of risk that should be taken into account in the break-even-point analysis. Traditionally, the break-even-point analysis focuses on the operating performance. The break even point is where the total contribution margin (the difference between revenue and variable costs) exactly equals the total fixed costs of producing a product or service. In other words, the break-even-point represents the level of sales at which incremental net income turns from negative to positive. Therefore, the analysis of operating risk focuses on the sources of risk causing the decrease in operating revenues or increase in operating costs of running the business. (fragment of text)
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