Adjustment Rationale

Why bother making any adjustments to Baseline EP? Because the traditional accounting from which Baseline EP is derived contains many rules that may get in the way of realizing the basic function of an ideal measure, i.e., that the the number gets bigger when value is created, and smaller when value is lost.

There are many possible adjustments we can make to traditonal accounting items, but they all fall under four general areas:

	Match revenues with expenses and capital charges within periods in which revenue is generated.
	Subject revenues and expenses to minimal managerial discretion consistent with good matching.
	Count all income and assets, and only the income and assets, under management's control.
	Segregate costs of financing into the capital charge(s), with the rest of the measure tracking returns on capital.

As we go through the adjustment process, it is worth keeping in mind that Economic Profit is used for managerial accounting. Managerial accounting is distinct from, and has a different purpose from, financial accounting. Financial accounting is designed to give external investors a uniform basis for evaluating companies, both among different companies in the same period, and the same company across different periods.  As such, it is subject to well established rules or principles (e.g., GAAP, IFRS).  In contrast, managerial reporting is designed to provide managers and employees within the company a sound basis for making decisions, and measuring the effects of those decisions according to their company's particular business model and strategy.