Wealth Added Index (WAI)

Unveiling the Significance of Wealth Added Index (WAI)

Deciphering Wealth Added Index (WAI)

Wealth Added Index (WAI) is a pivotal metric crafted by Stern Value Management, a renowned consulting firm, aimed at gauging the value generated or eroded for shareholders by a company. This metric hinges on the premise that wealth is only augmented if a company's returns, encompassing share price appreciation and dividends, surpass its cost of equity.

Understanding the Core Principles of WAI

At the heart of the Wealth Added Index lies the notion that a company's cost of equity should surpass the returns available on risk-free investments like government bonds, given the inherent risk associated with companies. If a company fails to outpace its cost of equity, shareholders are advised to seek alternative investment avenues. In essence, WAI posits that if returns fall short of the cost of equity, the company is diminishing shareholder value; conversely, if returns exceed the cost of equity, the company is fostering wealth accumulation for its shareholders.

WAI shares similarities with Economic Value Added (EVA), another metric devised by Stern Value Management, in that both juxtapose the cost of capital against returns. However, traditional accounting metrics such as Return on Equity (ROE) and Return on Assets (ROA) often overlook the cost of capital required to attain these returns, potentially masking value destruction. While EVA is retrospective, focusing solely on past outcomes, WAI adopts a forward-looking approach, factoring in both historical and prospective share price performance, thus capturing the present and future potential for value creation.

Key Differences and Advantages

While EVA is constrained by national accounting standards, hindering cross-border comparisons, WAI circumvents this limitation by prioritizing the movement of share prices and dividends, which are universally accessible for calculation. This flexibility enables WAI to offer comprehensive insights into value creation across different markets, irrespective of regional accounting disparities.