eva anu devassy
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BY : ANU DEVASSY
Economic Value Added (EVA)Concept
1
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Background of EVA
New Value based performance measuredeveloped by a New York Consulting
firm, Stern Steward & Co in 1982
The object of EVA is to promote value-maximizing behavior in corporatemanagers
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What is EVA
EVA is single, value based measurethat was intended to evaluate
Business strategies
Capital projects
Maximizing the long-term shareholderswealth
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What is EVA (contd..)
EVA establishes clear andaccountable links among
Economic Return:strategic thinking, capitalinvestment
Accounting Returns:
operating decisions and
Shareholders Returns:shareholder value
EVA
Shareholders Returns
Accounting
returns
Economic
Returns
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Why EVA
EVA sets managerial performancetarget and links it to reward system
which motivates the managers tobehave like owners.
EVA allow managers to have discretionand free range creativity keeping thelong term object in mind.
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EVA Concept of Profitability
A successful firm should earn atleast its costof capital.
Firms that earn positive/higher returns thanfinancing costs benefit shareholders andenhance shareholder value.
Until a business returns a profit that is greaterthan its cost of capital, it operates at a loss
Peter F Drucker in an article in Harward Business Review
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Object of EVA is to know
Whether the Entrepreneurs are really increasing
the Net Worth of the Organization or they aredestroying it gradually
The Real growth Entrepreneurs have added to
the ShareholdersWealth.
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Concept of EVA
Shareholders Value is created by
MAXIMIZING
ECONOMIC PROFITS
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What it measures
Creating value
The Company which earns HigherReturns (Net Operating Profit AfterTax) than the Cost of Capital
ARE CONSIDERED AS
HAS CREATED THE VALUE
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What it measures cont..
Destroying value
The company which earns LowerReturn (Net Operating Profit After Tax)than the Cost of Capital
ARE CONSIDERED AS
Destroyers of Shareholders Value
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Strategies for increasing EVA
Increase the return on existing projects(improve operating performance)
Invest in new projects that have a return
greater that the cost of capital Use less capital to achieve the same return
Reduce the cost of capital
Liquidate capital or curtail further investment in
sub-standard operations where inadequatereturns are being earned.
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Hence in the EVA there are three way to
increase value Operate: Improve the return earned on existing
capital
Build: Invest as long as returns exceeds cost of
capital Optimize: Reduce cost of capital by optimizing
capital structure
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EVA
Goal Setting
ShareholderCommunication
CapitalBudgeting
Performance
MeasurementFinancialPlanning
IncentiveCompensation
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Advantages of EVA EVA is more than performance management,.
It is motivational, compensation basedmanagement system that facilities economicactivity and accountability at all levels in thefirm.
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Limitations of EVA
EVA is based on financial accounting methods that can bemanipulated by managers by using different method of accounting.
There are different ways to calculate NOPAT and COC as there arenumerous fundamental differences exist with regard to calculation ofNOPAT and COC
There are 164 adjustment which is really cumbersome exercise
EVA may focus on immediate results which diminishes innovation EVA is biased against new assets
EVA is in favour of large companies
EVA favours more debt compared to equity
It is difficult to implement
Implementation includes significant cost EVA does not study business drivers like consumer satisfaction or
learning and growth.
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List of few Companies in India
implementing EVA and its objective
INFOSYS -
MARICO - DR. REDDYS LABORATORIES -
TCS -
Godrej -
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Why EVA is implemented by only
few companies Implementation of EVA is costly affair
The process is challenging and time consuming and toocomplicated for small business
Especially the key persons (Top and middle managers) haveto understand and commit to EVA thoroughly which isdifficult
Switching over to EVA from the earlier traditional methods ofbonus system may create resistance in the employees
EVA does not have system of Minimum and maximum capfor bonus as the traditional methods have.
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Thanks
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