|
 The Economic
Margin framework of Daniel J. Obrycki
and Rafael Resendes
can be used to calculate competition-adjusted corporate performance.
The Economic Margin (EM) Framework
was developed to evaluate corporate performance from an economic cash
flow perspective. The metric goes beyond traditional accounting-based
analysis, correcting for distortions created by differences in Capital
Structure, Asset Age, Asset Life, Asset Mix, Off Balance Sheet Assets
and Liabilities, Investment Needed to Generate Earnings and Cost of
Capital.
The Economic Margin Framework
is more than just a performance metric, as it encompasses a valuation
system that explicitly addresses four main value drivers of corporate
performance and enterprise value:
- profitability,
- competition,
- growth, and
- cost of capital.
Companies with high excess returns
are likely to attract competition in the marketplace, leading to
a shorter
competitive advantage period in the company's valuation. Traditional
Discounted Cash Flow approaches rely on
terminal values and perpetuities. Unlike such traditional valuation
approaches that utilize highly sensitive perpetuity assumptions, the
Economic Margin approach incorporates the widely accepted economic
principle that competition will compete away excess returns over time.
The EM Framework explicitly models the effects of competition to
gradually eliminate the excess spread a firm generates above or below
its cost of capital (Economic Margin).
The Economic Margin framework is
grounded in the widely accepted economic theories of Noble winners
Merton Miller and Franco Modigliani and can help identifying companies
trading above or below their intrinsic valuations across sectors, market
capitalization groups, and growth/value universes.
When doing a calculation of Economic Margin
(formula) one has to bear in mind the numerator of the Economic
Margin (like EVA), is based on economic
profit, which helps focus managers on value creation. Unlike EVA,
however, Economic Margin adds depreciation and amortization to cash flow
and instead incorporates the return of capital explicitly in the capital
charge. Also (like CFROI), Economic Margin is based on gross assets,
which helps to avoid the growth “disincentive” typically associated with
net asset based measures. Unlike CFROI,
however, the Economic Margin’s cash flows are unlevered (i.e. all
equity financed) and do not mix operating and financing decisions.
You can find more on Economic Margin on the 12manage website.
Compare with Economic Margin:
Economic Value Added
| Market Value Added |
CFROI |
CVA |
EBIT |
EBITDA |
P/E Ratio |
Cash Ratio |
Current Ratio |
Return on Equity |
Fair Value |
TSR
| PRVit |
DCF
More management models
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