Value Innovation is in Our DNA
SVM is an innovator and pioneer in the field of management consulting with the invention of tools such as EVA®, Market Value Added (MVA), and the Wealth Added Index (WAI).
Economic Value Added® is a measure of economic profit. EVA® is calculated as the difference between the Net Operating Profit After Tax (NOPAT) and the opportunity cost of invested Capital. This opportunity cost is determined by multiplying the Weighted Average Cost of debt and equity Capital (WACC) and the amount of Capital employed. The formula for EVA: EVA = NOPAT – WACC*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. EVA is the soundest performance metric, and the one most closely aligned with the creation of shareholder value. Many companies have adopted it as part of a comprehensive management and incentive compensation system that drives their decision processes.
Future Growth Value measures the portion of market value attributed to EVA® growth. FGV can be driven by market expectations of productivity improvements, organic growth, and value-creating acquisitions. Companies can calibrate their incentive plan to performance targets tied to the annual EVA® growth implied by FGV. Furthermore, the FGV component can be a useful tool in benchmarking against the “growth plan” of competitors and evaluating investors’ assessment of the wealth creation potential of new strategies and opportunities.
Market Value Added measures the difference between the market value of the firm (Debt and Equity) and the amount of Capital invested. Equivalently, MVA equals the present value of future expected EVA®. Firms that trade at premiums to invested Capital have positive MVA, while those trading below invested Capital have negative MVA. Stern Value Management has compiled MVA Rankings to tally wealth creation across the universe of publicly traded firms.
Current Operations Value measures the portion of market value attributed to the existing level of profitability and assets at the firm. It equals the present value of current EVA® in perpetuity, plus Capital in place. Alternatively, it can be calculated as NOPAT divided by the WACC. The market value split between COV and FGV is often homogenous within sectors. For example, the COV portion of Market Value tends to be very high in mature markets, and relatively low in growth markets.
The Wealth Added Index measures the excess wealth generated above expectations based on the perceived risk of a company’s stock. WAI reflects returns for all equity investors, no matter when they bought their shares. At Stern Value Management, we believe that WAI is a better performance metric than Total Shareholder Return (TSR) because only WAI reflects the relationship between the equity injected into a company, and the required rate of return for shareholders. This is a key component for investors to take into account.
Relative Wealth Added compares the shareholder value created by the company with the average of its peers. RWA can be expressed either in absolute or monetary terms or as a percentage of the initial Enterprise Value (we then call it %RWA). The formulas for the respective expressions are: RWA = Beginning Market Cap x (Adjusted TSR – Peer-group Average Adjusted TSR), and %RWA = RWA ÷ Enterprise Value. The TSR and Market Capitalization are adjusted to include the performance of shares issued during the period and other capital changes. The TSR for the peer group also includes an adjustment for leverage to make it comparable to the measured company. RWA is a superior metric for “peer-relative” performance because it takes into account the financial risk of peer companies and recognizes the effect of stock transactions after the issuance of the equity.