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Stern Stewart & Company (SSC) developed the measure, Economic Value Added (EVA®), to reward employees for maximizing shareholder wealth. Financial analysts also use EVA to measure firm performance. This study assesses the performance of companies that have implemented the EVA-based compensation system, and questions whether analysts should use EVA performance to forecast stock performance. Investors in EVA adopters or in firms for which EVA has been used to forecast stock performance would have suffered significant losses.
The firm, Stern Stewart, has promoted its Economic Value Added (EVA®) as a measure of economic profit since 1982. Researchers since then have examined the model and its computation, questioning the model's validity as an indicator of stock performance or comparing it to other performance measures. I explore whether companies that have implemented the EVA-driven compensation system have outperformed the market. Are EVA and Market Value Added (MVA) performance valid predictors of stock performance? . De Villiers ( 1997) and Prober (2000) examine problems associated with EVA's computation. Bacidore, Boquist, Milbourn and Thakor (1997), Ferguson and Leistikow ( 1998), McLaren (2000), Zwell and Ressler (2000), Kramer and Peters (2001 ), Ray (2001 ) and Weaver (2001) look at the shortcomings and virtues of the EVA model. Freedman (1998), Farsio, Degel and Degner (2000) and Garvey and Milbourn (2000) examine the case for forecasting stock performance based on EVA. Biddle, Bowen and Wallace (1997), Dodd and Chen (1997), Chen and Dodd (2001), Sheikholeslami (2001 ) and Shrieves and Wachowicz (2001 ) all compare EVA to other measures of performance. These authors do not examine firms that have adopted the SSC EVA system.
Machuga, Pfeiffer, and Verma (2002) find that analysts do not use the information in EVA appropriately. They conclude analysts appear to overweight it.
The only studies to examine the performance of actual EVA adopters are Kleiman (1999), Ehrbar (1999), and Cordeiro and Kent (2001). Cordeiro and Kent use security analyst's earnings forecasts as a proxy for firm performance to examine whether EVA adopters outperform their industry peers. Using a sample of SSC clients, Cordeiro and Kent find no relation between EVA adoption and security analyst forecast of future earnings per share. Explanations include, first, that EVA adopters' peers may have implemented a residual income management program...