Alternative Definitions of Investment

Companies use a variety of definitions to measure the investments made in their divisions. Four common alternative definitions used in the construction of accounting-based performance measures are as follows:

1. TOTAL ASSETS AVAILABLE—includes all assets, regardless of their intended purpose.
2. TOTAL ASSETS EMPLOYED—total assets available minus the sum of idle assets and assets purchased for future expansion. For example, if the New Orleans hotel in Exhibit 24-1 has unused land set aside for potential expansion, the total assets employed (used) by the hotel would exclude the cost of that land.
3. TOTAL ASSETS EMPLOYED MINUS CURRENT LIABILITIES—total assets employed, excluding assets financed by short-term creditors. One negative feature of defining investment in this way is that it may encourage subunit managers to use an excessive amount of short-term debt because short-term debt reduces the amount of investment.
4. STOCKHOLDERS’ EQUITY—calculated by assigning liabilities to subunits and deducting these amounts from the total assets of each subunit. One drawback of this method is that it combines the operating decisions made by hotel managers with the financing decisions made by top management.

Companies that use ROI or RI generally define investment as the total assets available. When a firm directs a subunit manager to carry extra or idle assets, the total assets employed can be more informative than total assets available. Companies that use EVA define investment as the total assets employed minus current liabilities. The rationale for using this definition is that it captures total investment as measured by the sum of working capital (current assets minus current liabilities) and the long-term assets employed in the subunit. Managers are responsible for generating an adequate return on both components.