Newton polynomial: Difference between revisions

Revision as of 12:50, 20 July 2013

Template:Corporate Finance In corporate finance, Economic Value Added (EVA), is an estimate of a firm's economic profit – being the value created in excess of the required return of the company's investors (being shareholders and debt holders). Quite simply, EVA is the profit earned by the firm less the cost of financing the firm's capital. The idea is that value is created when the return on the firm's economic capital employed is greater than the cost of that capital. This amount can be determined by making adjustments to GAAP accounting. There are potentially over 160 adjustments that could be made but in practice only five or seven key ones are made, depending on the company and the industry it competes in.

Calculating EVA

EVA is net operating profit after taxes (or NOPAT) less a capital charge, the latter being the product of the cost of capital and the economic capital. The basic formula is:

E V A = (r - c) \cdot K = N O P A T - c \cdot K

where:

$r = \frac{N O P A T}{K}$ , is the Return on Invested Capital (ROIC);
$c$ is the weighted average cost of capital (WACC);
$K$ is the economic capital employed;
NOPAT is the net operating profit after tax, with adjustments and translations, generally for the amortization of goodwill, the capitalization of brand advertising and other non-cash items.

EVA Calculation:

EVA = net operating profit after taxes – a capital charge [the residual income method]

therefore EVA = NOPAT – (c × capital), or alternatively

EVA = (r x capital) – (c × capital) so that

EVA = (r-c) × capital [the spread method, or excess return method]

where:

             r = rate of return, and
             c = cost of capital, or the Weighted Average Cost of Capital (WACC).

NOPAT is profits derived from a company’s operations after cash taxes but before financing costs and non-cash bookkeeping entries. It is the total pool of profits available to provide a cash return to those who provide capital to the firm.

Capital is the amount of cash invested in the business, net of depreciation. It can be calculated as the sum of interest-bearing debt and equity or as the sum of net assets less non-interest-bearing current liabilities (NIBCLs).

The capital charge is the cash flow required to compensate investors for the riskiness of the business given the amount of economic capital invested.

The cost of capital is the minimum rate of return on capital required to compensate investors (debt and equity) for bearing risk, their opportunity cost.

Another perspective on EVA can be gained by looking at a firm’s return on net assets (RONA). RONA is a ratio that is calculated by dividing a firm’s NOPAT by the amount of capital it employs (RONA = NOPAT/Capital) after making the necessary adjustments of the data reported by a conventional financial accounting system.

EVA = (RONA – required minimum return) × net investments

If RONA is above the threshold rate, EVA is positive.

Comparison with other approaches

Other approaches along similar lines include Residual Income Valuation (RI) and residual cash flow. Although EVA is similar to residual income, under some definitions there may be minor technical differences between EVA and RI (for example, adjustments that might be made to NOPAT before it is suitable for the formula below). Residual cash flow is another, much older term for economic profit. In all three cases, money cost of capital refers to the amount of money rather than the proportional cost (% cost of capital); at the same time, the adjustments to NOPAT are unique to EVA.

Although in concept, these approaches are in a sense nothing more than the traditional, commonsense idea of "profit", the utility of having a separate and more precisely defined term such as EVA is that it makes a clear separation from dubious accounting adjustments that have enabled businesses such as Enron to report profits while actually approaching insolvency.

Other measures of shareholder value include:

Relationship to market value added

The firm's market value added, or MVA, is the discounted sum (present value) of all future expected economic value added:

M V A = V - K_{0} = \sum_{t = 1}^{\infty} \frac{E V A_{t}}{(1 + c)^{t}}

Note that MVA = PV of EVA.

More enlightening is that since MVA = NPV of Free cash flow (FCF) it follows therefore that the

NPV of FCF = PV of EVA;

since after all, EVA is simply the re-arrangement of the FCF formula.

Integrating EVA and PBC

Recently, Mocciaro Li Destri, Picone & Minà (2012)^[1] proposed a performance and cost measurement system that integrates the EVA criteria with Process Based Costing (PBC). The EVA-PBC methodology allows us to implement the EVA management logic not only at the firm level, but also at lower levels of the organization. EVA-PBC methodology plays an interesting role in bringing strategy back into financial performance measures.

References

↑ Mocciaro Li Destri A., Picone P. M. & Minà A. (2012), Bringing Strategy Back into Financial Systems of Performance Measurement: Integrating EVA and PBC, Business System Review, Vol 1., Issue 1. pp.85-102 http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2154117.

20 year-old Real Estate Agent Rusty from Saint-Paul, has hobbies and interests which includes monopoly, property developers in singapore and poker. Will soon undertake a contiki trip that may include going to the Lower Valley of the Omo.

My blog: http://www.primaboinca.com/view_profile.php?userid=5889534
20 year-old Real Estate Agent Rusty from Saint-Paul, has hobbies and interests which includes monopoly, property developers in singapore and poker. Will soon undertake a contiki trip that may include going to the Lower Valley of the Omo.

My blog: http://www.primaboinca.com/view_profile.php?userid=5889534
20 year-old Real Estate Agent Rusty from Saint-Paul, has hobbies and interests which includes monopoly, property developers in singapore and poker. Will soon undertake a contiki trip that may include going to the Lower Valley of the Omo.

My blog: http://www.primaboinca.com/view_profile.php?userid=5889534
20 year-old Real Estate Agent Rusty from Saint-Paul, has hobbies and interests which includes monopoly, property developers in singapore and poker. Will soon undertake a contiki trip that may include going to the Lower Valley of the Omo.

My blog: http://www.primaboinca.com/view_profile.php?userid=5889534
20 year-old Real Estate Agent Rusty from Saint-Paul, has hobbies and interests which includes monopoly, property developers in singapore and poker. Will soon undertake a contiki trip that may include going to the Lower Valley of the Omo.

My blog: http://www.primaboinca.com/view_profile.php?userid=5889534

External links

[1] Free online PRVit analysis form shares on US Stockmarket
A Reading List on EVA/Value Based Management from Robert Korajczyk
Economic Value Added from G. Bennett Stewart III and EVA Dimensions LLC
Economic Value Added (EVA), Prof. Aswath Damodaran
EVA valuation tutorial from valuatum.com
Understanding Economic Value Added, investopedia.com
All About EVA, investopedia.com
EVA-WACC Tree Model Infographic Visual.ly
Economic Value Added: A simulation analysis of the trendy, owner-oriented management tool, Timo Salmi and Ilkka Virtanen, 2001
The Origins of EVA Chicago-Booth magazine

Template:Corporate finance and investment banking

[test-1] Mocciaro Li Destri A., Picone P. M. & Minà A. (2012), Bringing Strategy Back into Financial Systems of Performance Measurement: Integrating EVA and PBC, Business System Review, Vol 1., Issue 1. pp.85-102 http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2154117.

[1]

@@ Line 1: / Line 1: @@
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+{{Corporate Finance}}
+In [[corporate finance]], '''Economic Value Added''' ('''EVA'''), is an estimate of a firm's [[economic profit]] – being the value created in excess of the [[Required rate of return|required return]] of the [[types of companies|company's]] investors (being [[shareholder]]s and debt holders). Quite simply, EVA is the profit earned by the firm less the [[Cost of capital|cost of financing the firm's capital]].  The idea is that value is created when the return on the firm's economic capital employed is greater than the cost of that capital. This amount can be determined by making adjustments to [[GAAP]] accounting. There are potentially over 160 adjustments that could be made but in practice only five or seven key ones are made, depending on the company and the industry it competes in.
+==Calculating EVA==
+EVA is net operating profit after taxes (or [[NOPAT]]) less a capital charge, the latter being the product of the cost of capital and the economic capital. The basic formula is:
+:<math> \mathit{EVA} \ = \  ( r - c ) \cdot K   \ = \  \mathit{NOPAT} -  c \cdot K </math>
+where:
+*<math> r = {  \mathit{NOPAT} \over K } </math>, is the [[Return on Invested Capital]] (ROIC);
+*<math> c \,</math> is the [[weighted average cost of capital]] (WACC);
+*<math> K \,</math> is the economic capital employed;
+*[[NOPAT]] is the net operating profit after tax, with adjustments and translations, generally for the amortization of goodwill, the capitalization of brand advertising and other non-cash items.
+EVA Calculation:
+''EVA = net operating profit after taxes – a capital charge'' [the residual income method]
+therefore EVA = NOPAT – (c × capital), or alternatively
+EVA = (r x capital) – (c × capital) so that
+''EVA = (r-c) × capital'' [the spread method, or excess return method]
+where:
+              r = rate of return, and
+              c = cost of capital, or the [[Weighted Average Cost of Capital]] (WACC).
+NOPAT is profits derived from a company’s operations after cash taxes but before financing costs and non-cash bookkeeping entries. It is the total pool of profits available to provide a cash return to those who provide capital to the firm.
+Capital is the amount of cash invested in the business, net of depreciation. It can be calculated as the sum of interest-bearing debt and equity or as the sum of net assets less non-interest-bearing current liabilities (NIBCLs).
+The capital charge is the cash flow required to compensate investors for the riskiness of the business given the amount of economic capital invested.
+The cost of capital is the minimum rate of return on capital required to compensate investors (debt and equity) for bearing risk, their opportunity cost.
+Another perspective on EVA can be gained by looking at a firm’s return on net assets (RONA). RONA is a ratio that is calculated by dividing a firm’s NOPAT by the amount of capital it employs (RONA = NOPAT/Capital) after making the necessary adjustments of the data reported by a conventional financial accounting system.
+EVA = (RONA – required minimum return) × net investments
+If RONA is above the threshold rate, EVA is positive.
+==Comparison with other approaches==
+Other approaches along similar lines include [[Residual Income Valuation]] (RI) and residual cash flow. Although EVA is similar to residual income, under some definitions there may be minor technical differences between EVA and RI (for example, adjustments that might be made to NOPAT before it is suitable for the formula below). Residual cash flow is another, much older term for economic profit.  In all three cases, ''money cost of capital'' refers to the amount of money rather than the proportional cost (% cost of capital); at the same time, the adjustments to NOPAT are unique to EVA.
+Although in concept, these approaches are in a sense nothing more than the traditional, commonsense idea of "profit", the utility of having a separate and more precisely defined term such as EVA is that it makes a clear separation from dubious accounting adjustments that have enabled businesses such as [[Enron]] to report profits while actually approaching insolvency.
+Other measures of [[shareholder value]] include:
+*[[Added value]]
+*[[Market value added]]
+*[[Total shareholder return]].
+== Relationship to market value added ==
+The firm's [[market value added]], or MVA, is the discounted sum (present value) of all future expected economic value added:
+:<math>MVA = V - K_0 = \sum_{t=1}^{\infty} { EVA_t \over (1+c)^t }</math>
+Note that ''MVA = PV of EVA''.
+More enlightening is that since MVA = NPV of [[Free cash flow]] (FCF) it follows therefore that the
+''NPV of FCF = PV of EVA'';
+since after all, EVA is simply the re-arrangement of the FCF formula.
+== Integrating EVA and PBC ==
+Recently, Mocciaro Li Destri, Picone & Minà (2012)<ref name ="test">Mocciaro Li Destri A., Picone P. M. & Minà A. (2012), Bringing Strategy Back into Financial Systems of Performance Measurement: Integrating EVA and PBC, Business System Review, Vol 1., Issue 1. pp.85-102 http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2154117.</ref> proposed a performance and cost measurement system that integrates the EVA criteria with Process Based Costing (PBC). The EVA-PBC methodology allows us to implement the EVA management logic not only at the firm level, but also at lower levels of the organization. EVA-PBC methodology plays an interesting role in bringing strategy back into financial performance measures.
+==See also==
+*[[Business valuation]]
+*[[Free cash flow]]
+*[[Enterprise value]]
+*[[Opportunity cost]]
+*[[Value added]]
+*[[Weighted average cost of capital]]
+*[[Residual Income Valuation]]
+<!--  *[[Apples and oranges#Apples_and_oranges_in_teaching_the_use_of_units|Apples & Oranges busıness sımulatıon by Celemı]]
+-->
+==References==
+<references/>
+* {{cite book | author = G. Bennett Stewart III | title = Best-Practice EVA | publisher= John Wiley & Sons | year = 2013}}
+* {{cite book | author = G. Bennett Stewart III | title = The Quest for Value | publisher= HarperCollins | year = 1991}}
+* {{cite book | author = Erik Stern | title = The Value Mindset | publisher= Wiley}}
+* {{cite book | author = Joel Stern and John Shiely| title = The EVA Challenge | publisher= Wiley}}
+* {{cite book | author = Al Ehrbar| title = EVA, the Real Key to Creating Wealth | publisher= Wiley}}
+==External links==
+*[http://www.stasegem.be/PRVit/PRVitList.php] Free online PRVit analysis form shares on US Stockmarket
+*[http://www.kellogg.northwestern.edu/faculty/korajczy/htm/vbm.htm A Reading List on EVA/Value Based Management] from Robert Korajczyk
+*[http://www.evadimensions.com Economic Value Added] from G. Bennett Stewart III and EVA Dimensions LLC
+*[http://pages.stern.nyu.edu/~adamodar/New_Home_Page/lectures/eva.html Economic Value Added (EVA)], Prof. [[Aswath Damodaran]]
+*[http://www.valuatum.com/material/eva_tutorial/eva_tutorial.pdf EVA valuation tutorial] from valuatum.com
+*[http://www.investopedia.com/university/EVA/ Understanding Economic Value Added], investopedia.com
+*[http://www.investopedia.com/articles/fundamental/03/031203.asp All About EVA], investopedia.com
+*[http://visual.ly/eva-wacc-tree-model EVA-WACC Tree Model Infographic] Visual.ly
+*[http://lipas.uwasa.fi/~ts/eva/eva.html Economic Value Added: A simulation analysis of the trendy, owner-oriented management tool], Timo Salmi and Ilkka Virtanen, 2001
+*[http://www.chicagobooth.edu/magazine/summer98/Stern.html The Origins of EVA] Chicago-Booth magazine
+{{corporate finance and investment banking}}
+[[Category:Value]]
+[[Category:Fundamental analysis]]

Newton polynomial: Difference between revisions

Revision as of 12:50, 20 July 2013

Contents

Calculating EVA

Comparison with other approaches

Relationship to market value added

Integrating EVA and PBC

See also

References

External links

Navigation menu

Newton polynomial: Difference between revisions

Revision as of 12:50, 20 July 2013

Calculating EVA

Comparison with other approaches

Relationship to market value added

Integrating EVA and PBC

See also

References

External links

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