Value Added

Describe the methods used to calculate value added. How does value added contribute towards understanding the connections between the business and its product markets?

The purpose of the majority of organizations is to create profit. The best criterion to look at when evaluating it, is value added. It is used as a measure of net output and it represents wealth created through the company's performance. Businesses exchange goods and services and they sell their products on a particular market, therefore there is a clear correlation between value added and the performance of a business on its market. Value added is in many ways determined by market conditions and the company's operating strategy, which means it immensely contributes towards understanding the connections between the business and its product markets.

Sales revenue does not represent the net profit, due to the fact that it excludes money spent on the suppliers of the business. In the 1920s Pigou defined the concept of value added as sales revenue less bought-in materials, components and services giving the precise earnings of a company. In 1979 in his book "Value-Added" Bernard Cox broadened the definition and explained that value added can be calculated in two different ways: the subtractive and the additive way. The first one represents the creation of value added, which means sales revenue minus purchases of materials. The second portray the way in which the created profit is distributed. Value added calculated in the additive way, is the sum of labour cost, operating profit, depreciation, dividends, interest to lenders of money and taxation. (Haslam, Neale and Johal, 2000). Value added plays a significant role because it is also the industry's contribution to the gross domestic product. All the information needed to calculate value added is included in companies' audited accounts.

In order to understand the way in which companies operate and distribute their money, it is best to look on their...