Financial performance is not defined by the simple achievement of an accounting profit, but by the company’s ability to “beat the market”, i.e. to generate a profitability greater than the cost of the resources mobilized to finance it.

Here are the key elements to define and measure this performance:

1. Fundamental definition: The profitability/cost differential

Financial performance is based on the comparison between two rates:

• Return on Capital Employed (ROCE): This is the return on investment of the industrial tool (Operating income / Capital invested).
• The Weighted Average Cost of Capital (WACC): This is the minimum return required by investors (shareholders and creditors) for the level of risk taken.

A company performs well if it generates a higher return than investors could obtain elsewhere in the market for an equivalent risk (ROCE after tax > WACC).

2. The central measure: the Economic Profit (EP or EVA)

The indicator that measures this wealth creation is the Economic Profit (often popularized by the term EVA for Economic Value Added). It is calculated in two equivalent ways:

• Operational Approach (The most common): It measures the surplus generated by the operation after having remunerated all the capital.

In percentage:

$\mathbf{EP}\mathbf{(}\mathbf{\%}\mathbf{)}\mathbf{=}\mathbf{ROCE}\mathbf{ }\mathbf{après}\mathbf{ }\mathbf{impôts}\mathbf{–}\mathbf{CMPC}$

Or in absolute value:

$EP(\$)=EP(\%)\times CE$

$EP(\$)=NOPAT–CE\times CMPC$

$(NOPAT=Résultat d‘exploitation net d‘impôt=EBIT\times (1 – T\left)\right).$

• Shareholder Approach: It measures whether the net result is sufficient to cover the specific profitability requirement of shareholders.

$EP=Résultat Net–Capitaux Propres\times Coût des Capitaux Propres$

This formula shows that making a profit is not enough. This profit must exceed the remuneration expected by the shareholder.

3. Market measurement: MVA and Market-to-Book

Financial performance is reflected in the MVA (Market Value Added) on the stock market.

• Definition: MVA is the difference between the market value of the company (Enterprise Value) and the amount of capital invested in it (Committed Capital).
• Link to performance: The value of the company is nothing more than the discounted sum of all future economic profits (EVA). If the company is efficient (positive EVA), it creates a positive MVA.
• Market-to-Book (MTB) ratio: If this ratio is greater than 1, it proves that the market recognizes the company’s performance (ROCE > WACC) and anticipates future value creation.

4. The distinction between Performance and Growth

It is crucial not to confuse growth with performance:

• Performance  is the only source of value creation.
•  Growth acts as an amplifier. If the performance is positive (ROCE > WACC), the growth creates a lot of value. If performance is negative, growth accelerates value destruction.

5. Vigilance on the use of measures

Excessive use of EVA as a short-term control tool can be dangerous.

• Risk of underinvestment: To increase EVA in the short term, managers may be tempted to reduce capital employed (denominator) by cutting back on necessary investments (R&D, marketing), thus sacrificing long-term performance.

Input/Output confusion: EVA (economic profit) is an output, a consequence of good investment decisions (input). Focusing solely on the financial indicator can make us forget about industrial strategy and customer satisfaction, as the example of Coca-Cola has illustrated.