The Relationship between the Market Value of a Company and Internal Performance Measurements
26 Pages Posted: 7 Jan 1999
It is widely accepted that the primary objective or goal of a firm is to maximise the shareholders' equity. While there may be legitimate differences of opinion as to whether this is the sole motivation of a firm's management, it should without a doubt be a dominant variable in management's decisions.
In management's attempts and decision-making to increase shareholder value as measured by the market value of a company, they continuously influence, directly of indirectly, those variables that affect shareholder wealth.
It is thus of the utmost importance that those variables that influence shareholder value are stimulated in the most positive way in order to increase shareholder value to the utmost.
In the literature part of this study, the emphasis fell not only on drawing a distinction between accounting-based models of determining shareholder value, but also on the fact that Economic value added (EVA) in particular, have distinct advantages in determining value created (or destroyed) by the management of a company. EVA can also be adjusted for inflation purposes or standardized in order to be an even more complete internal performance measure. However, other ratios or yardsticks which might have an influence on the market value of a company are also identified and placed alongside EVA as variables that can correlate with the market value of a company.
Whilst EVA and other variables or ratios are internal measures of shareholder value creation, Market value added (MVA) is the external method of determining shareholder's wealth.
The goal of this study is to determine which internal performance measures of a company correlate the best with its external performance measure as represented by the MVA of the corporation.
In order to achieve the aforementioned goal, an empirical analysis was conducted. The research methodology, including the statistical techniques as well as the boundaries of the sample used, were set out. The results of the empirical analyses were reported and compared with the theoretical principles.
The highest consistent positive correlation coefficient obtained was between MVA and EVA with inflation adjustments to the data. The very same pattern was obtained with discounted EVA. Slightly lower positive correlations were found between MVA and ROA, ROE, EPS and DPS. These correlation coefficients were higher when data with inflation adjustments were utilized.
JEL Classification: M40, M46, J33
Suggested Citation: Suggested Citation