The concept of economic value is central to all business decisions on investment, operating, and financing. By definition, it refers to the stream of after-tax cash flows that an asset or claim provides to the shareholder. Such cash flows can be created through earnings, or contractual payments, and/ or partial or total liquidation at some future date.

Economic value is a future-oriented concept- i.e., it constitutes a series of future expected cash flows that are sought against giving up an amount of cash now- i.e., present value. This value is calculated by estimating and assessing future cash flows, including terminal value (proceeds from the disposal of the asset itself). Past costs and expenditures incurred by prior decisions are treated as sunk costs and therefore irrelevant from an economic perspective.

Economic value is based on a trade-off reasoning that is commonplace in the process of investing. The process of calculation involves determining today’s equivalents of the cash flow amounts expected to occur over a specific period of time (life of an asset or holding period), based to a great extent on subjective judgment. In principle, economic value is not absolute or static; it is derived from the relative risk assessment of future expectations. In fact, it is closely related to individual risk preferences, and different analysts will arrive at different valuation findings due to their varying understandings and estimations of risk.