ROE, Market Value Added and Shareholder Value Creation [ROE, Market Value Added e Creazione di Valore]
Carlo Alberto Magni
University of Modena and Reggio Emilia - Department of Economics
September 18, 2010
Presented at the EAA Annual Congress, Rome, April 20-22, 2011
In both finance and accounting, the Return On Equity (ROE) is considered a biased indicator of economic profitability. Opposing this view, this paper shows that an appropriate mean of ROEs signals shareholder value creation. This implies that the notion of Market Value Added may be replaced by an average ROE net of the cost of capital. Such a measure does not suffer from problems of existence or uniqueness and may be employed for comparing profitability. The Internal Rate of Return (IRR) itself may be interpreted as the average ROE corresponding to an idealized depreciation system: such an interpretation enables one to solve the multiple-IRR problem and to use the IRR for comparing firms’ profitability.
(Includes abridged version in Italian; Una versione ridotta in lingua italiana è inclusa in calce all'articolo)
Note: Downloadable document is in both English and Italian.
Number of Pages in PDF File: 34
Keywords: Return On Equity, Market Value Added, Value Creation, Average, Internal Rat of Return, cash flow to equity
JEL Classification: M41, G10, G12, G31, M21Accepted Paper Series
Date posted: September 18, 2010 ; Last revised: November 8, 2012
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