Agenda – ISS Unveils New Financial-Health Measure
December 12, 2018
Institutional Shareholder Services is considering a new way of measuring a company’s financial health. The proxy advisory firm announced that it could implement economic value added, or EVA, as a metric in the next two years.
EVA, also known as economic profit, measures the value a company generates from funds invested in it.
It was one of the metrics that ISS considered implementing as part of its Financial Performance Assessment methodology, but after receiving feedback from investors on its quantitative review process, the proxy advisor will merely “feature” EVA data as a supplement to GAAP-based measures.
Patrick McGurn, special counsel at ISS, tells Agenda, “For now, the assessment process under the quantitative analyses [is] identical to what it was the previous year,” adding, “We will consider making that change [to add EVA] in 2020.”
What Is EVA?
Economic value added, the trademarked business concept introduced in the 1990s by now-defunct Stern Stewart & Co., is a somewhat complicated formula with a simple logic: EVA calculates the difference between a company’s returns and its cost of capital. The exact science starts with net operating profit after taxes, and then extracts invested capital multiplied by the weighted average cost of capital. While the metric was more popular in the ‘90s, ISS appears to be rebuilding the business case for its use when measuring pay for performance.
ISS’s Use of EVA
As it stands, ISS’s say-on-pay analysis looks at total shareholder return and relative pay in the first leg of its Financial Performance Assessment and then looks at GAAP-based measures such as return on assets, return on invested capital, return on equity and Ebitda growth in the second leg. ISS originally proposed replacing the second piece with EVA.
According to a Nov. 29 presentation by ISS, GAAP-based metrics can be problematic as they relate to pay-for-performance measures.