Value Added Statements – Definition, Advantages and Disadvantages

Meaning and Definition of Value Added Statements

The main thrust of financial accounting development in the recent decades has been in the area of `how’ we measure income rather than `whose’ income we measure. The common belief of the traditional accountants that profit is a reward of the proprietors has been considered as a very narrow definition of income. This was so because previously the assets were assumed to be owned by the proprietor and liabilities were thought as proprietor’s obligations. This notion of proprietorship was accepted and practiced so as long as the nature of business did not experience revolutionary changes. However, with the emergence of corporate entities and the legal recognition of the existence of business entities separate from the personal affairs and interest of the owners led to the rejection of proprietary theory.

Value added is now reported in the financial statements of companies in the form of a statement. Value Added Statement (VAS) is aimed at supplementing a new dimension to the existing system of corporate financial accounting and reporting. This is called value added statement. This statement shows the value created; value added (value generated) and the distribution of it to interest groups viz. Employees, shareholders, promoters of capital and government. Since VAS represents how the value or wealth created or generated by an entity is shared among different stakeholders, it is significant from the national point of view. ICAI, 1985 has defined Value Added Statement as a statement that reveals the value added by an enterprise which it has been able to generate, and its distribution among those contributing to its generation known as stakeholders.… Read the rest

Value Added – Concept, Definition and Uses

Meaning and Definitions of Value Added

The traditional basic financial statements are balance sheet and Profit & Loss account. These statements generate and provide data related to financial performance only. They do not provide any information which shows the extent of the value or the wealth created by the company for a particular period. Hence, there arose a need to modify the existing accounting and financial reporting system so that the business unit is able to give importance to judge its performance by indicating the value or wealth created by it. To this direction inclusion of Value Added statement in financial reporting system is useful. The Value Added concept is now a recognized part of the accountant’s repertoire.

However, the concept of Value Added (VA) is not new. Value Added is a basic and broad measure of performance of an  enterprise. It is a basic measure because it indicates the net output produced or wealth created by an enterprise. The Value Added of an enterprise may be described as the difference between the revenues received from the sale of its output, and the costs which are incurred in producing the output after making necessary stock adjustments.

Some definitions of Value Added are following;

  • E.S.Hendriksen has defined Value-added as: “The market price of the output of an enterprise less the price of the goods and services acquired by transfer from other firms.”
  • Morely has defined Value-added as:”The value, which the entity has added in a period that equals its sales less bought-in-goods and services.” i.e.
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Different Types of Risks Faced by Banks Today

All companies which have a profit maximizing objective hold a certain degree of risk whether through microeconomic or macroeconomic factors. Banks also face a number of risks atypical of non financial companies due to the payment and intermediary function which they perform. Recent changes in the banking environment has lead to an increased pressure to maximize shareholder value, this means that banks take on a higher risk in order to gain a higher return. It is due to this increased pressure and market volatility that banking risk needs such effective management to ensure the banks continued solvency. Risk can be defined as an “exposure to uncertainty of outcome” measured by the volatility (standard deviation) of net cash flow within the firm. Banks aim to add equity to the bank by maximizing the risk adjusted return to shareholders highlighting the importance of fully considering the risk and return business equation. Exposure to risk does not always lead to a loss, pure risk only has a downside from the expected outcome but speculative risk can produce either a better or worse result that expected.

Credit risk is the risk that the counterparty will fail to repay the loan in part or full. This includes delayed payments or any default on the loan agreement. It is widely know that credit risk is one of the most damaging risks to banks, for this reason there is usually a separate credit department run around a credit culture of the management’s views. The objective of the credit department will be to maximize shareholder value added through credit risk management.… Read the rest

Confirmation Bias – Understanding Behavioral Biases in Finance

Confirmation bias is the inclination to seek or make sense of news or facts in a way that validates one’s preconceptions. So, during the decision making process for psychologist they will refer to information that supports their decision more favorably. They will rarely give the obvious negative much consideration and since our beliefs and postulations are definitely prejudiced so the tendency to give more attention and weight to data that support our beliefs than we do to contrary data will subtly but gradually have a harmful effect.

An illustration of Confirmation Bias

A very real manifestation of this tendency can be observed in the virtual world. For instance, investors are increasingly turning to message boards or virtual communities to search, clarify, and exchange information before making investment decisions. The volume of discussion on such portals is so intense that it has become possible to sense stock sentiments from here. These message boards have been shown to provide more accurate and timely information than forecasts by analysts.

The reason so many investors even turn to these online communities is to gain an unbiased evaluation of the market conditions, a third-party opinion on something they might not have comprehensive information about, and the 360 degree view of the situation that can help in formulating a successful investment strategy. What in turn happens is that psychological biases, especially in such uncertain and noisy environments, affect the processing of information through these portals leading to short-sighted or impaired decision making.

It can be debated that investment-related message boards and communities do not necessarily benefit potential investors by helping them make unbiased and informed decisions, primarily because investors search for specific information on these portals that align with what they already believe.… Read the rest

Capital Structure Theory – Modigliani Miller Proposition

Capital Structure Decision in Corporate Finance

The corporate finance is a specific area of finance dealing with the financial decisions corporations make and the tools as well as analysis used to make these decisions. The discipline as a whole may be divided among long-term and short-term decisions and techniques with the primary goal being maximizing corporate value while managing the firm’s financial risks. Capital investment decisions are long-term choices that investment with equity or debt, and the short-term decisions deals with the balance of current assets and current liabilities which is managing cash, inventories, and short-term borrowing and lending. Corporate finance can be defined as the theory, process and techniques that corporations use to make the investing, financing and dividend decisions that ultimately contribute to maximizing corporate value. Thus, a corporation will first decide in which projects to invest, then it will figure out how to finance them, and finally, it will decide how much money, if any, to give back to the owners. All these three dimensions which are investing, financing and distributing dividends are interrelated and mutually dependent.

The capital structure decision is one of the most fundamental issues in corporate finance. The capital structure of a company refers to a combination of debt, preferred stock, and common stock of finance that it uses to fund its long-term financing. Equity and debt capital are the two major sources of long-term funds for a firm. The theory of capital structure is closely related to the firm’s cost of capital. As the enterprises to obtain funds need to pay some costs, the cost of capital in the investment activities is also the main consideration of rate of return.… Read the rest

Market Value Added (MVA)

Economic Value Added (EVA) is aimed to be a measure of the wealth of shareholders. According to this theory, earning a return greater than the cost of capital increase value of company while earning less than the cost of capital decreases the value. For listed companies, Stewart defined another measure that assesses if the company has created shareholder value or not. If the total market value of a company is more than the amount of capital invested in it, the company has managed to create shareholder value. However, if market value is less than capital invested, the company has destroyed shareholder value. The difference between the company’s market value and book value is called Market Valued Added or MVA.

From an investor’s point of view, Market Value Added (MVA) is the best final measure of a Company’s performance. Stewart states that MVA is a cumulative measure of corporate performance and that it represents the stock market’s assessment from a particular time onwards of the net present value of all a Company’s past and projected capital projects. MVA is calculated at a given moment, but in order to assess performance over time, the difference or change in MVA from one date to the next can be determined to see whether value has been created or destroyed.

The Market Value Added (MVA) measure is based on the assumption that the total market value of a firm is the sum of the market value of its equity and the market value of its debt.… Read the rest