The Link Between Residual Income and Value Created for Levered Firms: A Note

Posted: 21 Feb 2008

See all articles by Andreas Schueler

Andreas Schueler

University of the German Federal Armed Forces

Simon Krotter

Siemens AG - Munich

Abstract

In addition to other contributions to the literature, this note shows how value created can be measured if firms are financed not only by equity, but also by debt. We deal with this capital structure using the weighted average cost of capital (WACC) approach. We show that measuring value creation with residual incomes requires the use of a modified WACC for levered firms. Thus, we caution against applying the standard definition of WACC carelessly. This insight is important for all applications in which information about the performance of past periods is needed as for post-acquisition audits, capital budgeting or bonus banks.

Keywords: residual income, WACC, value-based management, performance measurement

JEL Classification: M40, M41, M46, G12, G31, G32

Suggested Citation

Schueler, Andreas and Krotter, Simon, The Link Between Residual Income and Value Created for Levered Firms: A Note. Management Accounting Research, Forthcoming. Available at SSRN: https://ssrn.com/abstract=1096144

Andreas Schueler (Contact Author)

University of the German Federal Armed Forces ( email )

Werner-Heisenberg-Weg 39
Neubiberg
Munich, 85579
Germany

HOME PAGE: http://www.researchgate.net/profile/andreas_schueler3

Simon Krotter

Siemens AG - Munich ( email )

Wittelsbacher Platz 2
München, 80333
Germany

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