Firms use a portion of their cash and cash equivalents and investments as operating cash for the running of the business, and any cash beyond this amount is excess cash and a non-operating asset. As a rule of thumb, I assume that operating cash is equal to 5% of revenue, increasing or decreasing this requirement according to the firm’s operating profitability. Excess cash grants firms optionality, and protection against crisis, and, compounds as a consequence of a firm’s profitability.

“Excess Cash, an Invested Capital Adjustment”, Joseph Noko

As excess cash is not needed for operations, it can be distributed to shareholders, and so, I add it to my calculation of economic book value (EBV). In 2023, Meta Platforms had $61.48 billion in excess cash, which I added to my calculation of its EBV. 

The logic of discontinued operations is that they are not a component of core operations and therefore, not only do their earnings not belong in a calculation of net operating profit after tax (NOPAT), they also do not belong in a calculation of the invested capital that generates NOPAT. So, I banish them from my calculation of invested capital.

“Discontinued Operations, an Invested Capital Adjustment”, Joseph Noko

When it comes to estimating economic book value (EBV), one can say that the logic of discontinued operations is that, if businesses are held for sale, the cash earned from that sale is cash that enriches shareholder value. Therefore, it makes sense to add the net assets of discontinued operations to EBV. 

Deferred compensation is that portion of employee compensation that has been set aside for future payment. Firms create plans to manage the assets that will be used to settle these liabilities. Consequently, deferred compensation assets are a non-operating liability, which is to say that they are not part of the invested capital that is used to earn net operating profit after tax (NOPAT) for shareholders. 

“Deferred Compensation Assets, an Invested Capital Adjustment”, Joseph Noko

Although deferred compensation agreements create a liability for a business, that business may not match that liability with requisite assets. Deferred compensation assets are netted against deferred compensation liabilities to determine the funded status of the firm’s obligations. Where there is a net asset, that is added to my calculation of economic book value (EBV) and where there is a net liability, that is deducted from my calculation of EBV.

Deferred tax accounts arise because of differences in how firms and the government account for taxes. For example, whereas the government uses accelerated depreciation to calculate taxes owed, firms employ straight-line depreciation. The taxes the company will actually pay, its “cash taxes”, will be lower than the tax expense or provision for income taxes that it will report. 

When the business’ reported income is less than its taxable income, the firm generates deferred tax assets (DTAs), whereas when its reported income is greater than its taxable income, deferred tax liabilities (DTLs) are created. They are either reported on the face of the balance sheet, or off its face, hidden away in the notes. DTAs increase a firm’s reported assets, whereas, DTLs can be seen as a kind of interest-free debt.

“Deferred Tax Assets and Liabilities, an Invested Capital Adjustment”, Joseph Noko

In my calculation of economic book value (EBV), I deduct DTLs, net of DTAs because they are real obligations that will have to be paid in future, reducing shareholder value. DTAs, net of DTLs, on the other hand, are not added to EBV because they cannot be converted into shareholder value, by selling them, for example, and, because they do not represent real value. The most famous example of net DTLs is Berkshire Hathaway, who, in page K-103 of their 2023 annual report, disclosed net DTLs of $92.34 billion. 

As I discussed in “Overfunded Pension Plan Assets, an Invested Capital Adjustment”, under SFAS 158, companies are obliged to  report the net funded status of their pensions, which is the difference between the fair value of their pension plan assets and the plans’ projected benefit obligation, i.e. the present value of their future pension obligations. Underfunded plans are, in effect, borrowings from employees and will require repayment at some point in the future and so, the degree of underfunding is deducted from my calculation of economic book value (EBV). Overfunded plans have dead capital that is not required to generate a return to meet projected benefit obligations and so, this is added to my calculation of EBV.

The adjusted total debt of a firm is the sum of the fair value of all its short and long-term obligations, on-balance sheet and off-balance sheet. For example, in 2023, the combination of Meta Platform’s on-balance sheet debt and its operating, variable and not-yet commenced leases, gave it an adjusted total debt of $47 billion, $10 billion greater than the operating lease liabilities, and long-term debt the company reported on its balance sheet. This was due to the impact of its variable and not-yet commenced leases. Without digging into the company’s notes, this would go undetected. I subtract this value from my calculation of economic book value (EBV) to reflect the priority debtholders have over shareholders.