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ulation of revenue recognition timing, restructuring charges, and
others discussed in the next chapter. These techniques proliferate in
proportion to investor emphasis on (or obsession with) whether a
company meets analysts’ earnings expectations. EVA exacerbates
rather than solves the problem, because it applauds managers only
when they excee dexpectations.
Moreover, if EVA is intended to measure a company’s ability to
generate profits for shareholders on the amount of their invested
capital, it potentially suffers from the same weaknesses of traditional
financial ratios: They all rely on the integrity of the underlying ac-
counting data used to calculate profit. EVA tends to increase rather
than reduce pressure on managers to manipulate (or make up) num-
bers.
None of this denies the underlying insight of EVA: assessing
performance base don how much extra return is generate dfrom a
dollar of investment. Indeed, in evaluating managerial performance,
we shoul d de duct from reporte dresults a charge for the capital em-
ployed in producing them (something rarely done, especially in con-
nection with reports an drewar ds of stock options tie dto returns, a
subject discussed in Part III). For some companies—Coke under
Roberto Goizueta, for example—returns on capital are so impressive
that even with difficulties in pinning down the cost of capital, there
is no question that returns excee dcosts by impressive distances.^16
Obsession with EVA puts a false premium on precision, just as
the tools of modern finance discussed earlier do. Though he believes
in the basic idea underlying EVA, Warren Buffett often says he pre-
fers to be approximately right than precisely wrong. Speaking pub-
licly at the Berkshire Hathaway 2000 annual shareholders meeting,
Charlie Munger put it more epigrammatically with a characteristi-
cally unglove d denunciation of EVA: “bullshit.”
Graham’s comments on market price an dbusiness value are
worth memorizing:
The accepte di dea that a common stock shoul dsell at a certain
ratio to its current earnings must be considered more the result
of practical necessity than of logic. The market takes the trend
or future prospects into account by varying this ratio for differ-
ent types of companies. Common stocks of enterprises with only
slight possibilities of increasing profits ordinarily sell at a rather
low price-earnings ratio (less than 15 times their current earn-
ings); an dthe common stocks of companies with goo dprospects