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What is Excess Return? Description
Excess Return is the difference between actual wealth and expected wealth at the end of the measurement period. Good methodology to evaluate top management of public companies.
Excess Return calculation
The formula of Excess Return is straightforward:
Actual Wealth (N)
- Expected Wealth (N)
Excess Return (N)
Actual Wealth is the future value of all the cashflows received over the measurement period.
Expected Wealth is the future value of the initial investment.
N is the number of periods over which the Excess Return is calculated.
Excess Return and MVA
Unlike MVA, Excess Return debits a company for the capital it has used since the beginning of the measurement period. And companies are credited for the returns their shareholders should have earned from dividends and share buybacks, reinvested in the market. Also unlike MVA, Excess Return does take into account intermediate cash returns to shareholders. Therefore Maximizing Excess Return should be the financial goal of any value-based corporation.
Limits of Excess Return
Excess Return can only be used at firm / corporate level and is not practical for performance evaluation over a specific period of time, since it is equities based, i.e. it expresses value accumulated as of a certain date.
Compare with Excess Return: MVA
Return to Management Hub: Decision-making & Valuation | Finance & Investing
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