Научно-методический семинар Шакина Е.А.

Value-based Management. Key Value Drivers

Today we will consider…

VBM Approach

Key Value Drivers

SVA EP

CVA CFROI

EVA MVA FGV

What is value-based

management?

When VBM is working well, management processes provide decision makers at all levels with information and incentives to make value-creating decisions

• Timothy Koller

VBM provides:

Assessing the results of the valuation and the key assumptions driving the value of the strategy.

Weighing the value of the alternative strategies that were discarded, along with the reasons for

rejecting them.

Stating resource requirements. VBM often focuses business-unit managers on the balance sheet for

the first time.

Summarizing the strategic plan projections, focusing on the key value drivers.

Analyzing alternative scenarios to assess the effect of competitive threats or opportunities.

A. Rappoport Concept: SVA «Creating Shareholder Value – The New Standard for Business Performance» (1986,1998)

SVA can be used to value a business. It can also be used to evaluate

alternative strategic decisions, by comparing the pre- and poststrategy

value of the business

SVnew

SVo

SVA

SVnew EVnew Dnew

SVo NOPAT

wacc Do

A. Rappoport Concept: Key Value Drivers

the percentage annual sales growth rate

operating profit margin

cash income tax rate

incremental fixed capital

investment rate

investment in working capital

rate

planning horizon

cost of capital

From Key Value Drivers to Key Performance

Indicators

Monitor

Manage actively

KPI

Low priority

Hedge downside,

reconfigurate by changing

strategy

Man

agem

en

t In

flu

en

ce

Value Impact

Copeland, Koller & Murrin Concept:

Economic profit (EP) «Valuation: Measuring & Managing the Value of Companies» (1990)

«Стоимость компании: оценка и управление» (1999)

Economic profit describes the surplus earned by a business in a period after the deduction of all expenses, including the cost of using investors’ capital in the business.

EP NOPAT IC WACC

EP IC ROIC WACC

Braxton or Levis Concept: CVA&CFROI

CFROI is a“ real” rate of return measure, which identifies the relationship between the cash generated by a business relative to the cash invested in it.

• The performance measure which best predicts future cash generation (Braxton, 1991)

• The discount rate that discounts the future annual cash flows that are expected to arise over the average life of a firm’s assets (IRR concept)

CVA GI CFROI CC

Ottosson&Weissenrieder: CVA

The CVA for a period is a good estimate of the cash flow generated above or below the investor’s requirement for that period.

• Note that this analysis can be done at each level of the company and that the CVA for the company is the aggregate CVA of its Strategic investments.

Cash Value Added - a new method for

measuring financial performance, 1996

Operating Cash Flow

Demanded Cash Flow CVA

Ottosson&Weissenrieder: CVA

CVA OCF DCF

DCF SI An

CVA – cash value added

OCF – operating cash flow

DCF – demanded cash flow

SI – strategic investments

An – annuity factor of amortization

Gross Investments

Strategic Investments Maintaining Investments

Stern&Stewart Concept: EVA®, MVA®, FGV® «The Quest for Value – The EVA Management Guide» (1991)

Economic Value Added is a measure of economic profit. It is calculated as the difference between the Net Operating Profit After Tax and the opportunity cost of invested Capital.

What separates EVA® from other performance metrics such as EPS, EBITDA, and ROIC is that it measures all of the costs of running a business-operating and financing. This makes EVA® the soundest performance metric, and the one most closely aligned with the creation of shareholder value.

In fact, EVA® and NPV arithmetically tie, so companies can be assured that increasing EVA® is always a good thing for its investors - certainly not the case with EPS (see Enron) or Free Cash Flow. Many even argue that EVA® is a better decision tool than NPV because it captures the period-by-period value creation or destruction of a given firm or investment, and makes it easy to audit performance against management projections.

Stern&Stewart Concept: EVA

NOPAT

Capital Charge EVA

EVA NOPAT

adj CE adj

WACC

EVA CE adj

ROCE adj

WACC

EVA: adjustments should be made because

of:

Cash

• non-cash, accruals-based bookkeeping entries, which tend to conceal the true “cash” profitability of a business

Relevance

• the fundamental accounting concept of prudence, which tends to lead to a systematic conservative bias affecting the relevance of reported accounting numbers

Write-off losses

• ”successful efforts accounting” whereby companies write-off costs associated with unsuccessful investments, which tends to understate the ‘”true capital” of a business, and also potentially subjects the profit and loss account to one-off, non-recurring gains or losses

The Key EVA Adjustments

Deduct cash and equivalents Add cumulative goodwill

written off Add the present value of

capitalized operating leases to the value of capital

3 common adjustments are usually made

Adj

Adj Adj

Stern&Stewart Concept: MVA

Market Value (Equity+Debt)

Capital Employed

Market Value Added

EVA

EVA EVA

MVA

n

1ii

i

WACC)(1

EVAMV CE MVA

MVA vs DCF

Free Cash Flow

EVA

Capital

Employed

Past Future:

Competitive advantages

period

Future:

Continuing value

EVA and Company’s Life Cycle

EVA

Introduction Growth Decline Maturity

Stern&Stewart Concept: FGV

Market Value (Equity+Debt)

Current Operations Value

Capital Employed

Capitalized Current EVA

FGV

FGV

FGV MV EVA wacc

CE

VBM Implementation: EVA

The primary goal of any business should be increasing shareholder (owner) value.

Economic Value Added (EVA) is the best available metric for measuring value.

EVA is a measure of economic (not accounting) profit. An EVA calculation shows the difference between the cost of capital and the return on that capital.

You can calculate EVA for the company and for individual business units or divisions.

To reap EVA’s benefits, you must adopt it as a performance metric from the top down.

Employees won’t change their behavior to align with shareholders’ interests unless they are motivated to do so, with both short- and long-term incentives.

Unlike stock options, EVA performance targets can reward managers for improvement in the performance of their individual divisions or business units.

EVA is a measurement system, not a strategy unto itself.