Hodak - Measuring EP/EVA

Option 1: Minority interest adjustment

Baseline EP does not include minority interest in net assets and allows minority interest expense to reduce income. This way, the proportion of capital not owned by the business is not charged in the capital charge, and the proportion of income belonging to outside investors is not counted in the business's income. This default treatment is reasonably consistent with reporting the value creation of the operation attributable to the company's shareholders.

However, the default treatment could be reversed. Minority interest could be added to net assets so that it counts as part of capital and minority interest expense can be added to income so that all consolidated income is reflected in net income. This treatment would, therefore, include both the capital and the return on capital of the outside shareholders in the business's total results.

The rationale for including all investment and all returns is that the managers in fact work for all the shareholders, not just the shareholders that own the controlling business. For managerial reporting purposes, this treatment eliminates any distortions that may arise as a result of differences between the risk of the incompletely owned operation and the risk of the remaining business operations. A minor drawback to this treatment is that EP results from 100 percent of the incompletely owned operation will look more substantial relative to the rest of the business than, say EP results of 70 or 80 percent of the partly owned entity. Management, thus, may be marginally more attentive to returns that don't wholly benefit their company.