eva as a performance tool & as an indicator of swm

EVA as a performance tool &

as an indicator of SWM

Course: Corporate Finance

Submitted To: Dr. Sandeep Goel

Group 1

Name Roll No Arindam Bera 15PGHR09

Ashmeet Singh 15PGHR14

Hansika Jain 15PGHR17

Parul Jain 15PGHR31

Shrutkirti Kothari 15PGHR42

Vipul Verma 15PGHR51

EVA as a performance tool & as an indicator of SWM

Corporate Finance Project | Group 1

Acknowledgement

We take this opportunity to express our gratitude to Dr. Sandeep Goel for his invaluable guidance,

excellent supervision and constant inspiration throughout the course. He helped all of us to understand

the elements of Corporate Finance and the issues involved with it. His encouragement and advice

helped us throughout the project, and helped us in the timely completion of the project.

We thank MDI Administration and the Library Staff for maintaining such an excellent repository for

Corporate Finance related material & EBSCO, without which the project would not have been possible.

Last but not the least, we thank all those who were directly or indirectly involved in the completion of

this project.

Date: 15/03/2016



Contents

Acknowledgement ........................................................................................................................................ 2

Executive Summary ....................................................................................................................................... 4

EVA (Economic Value Added) ....................................................................................................................... 5

Introduction .............................................................................................................................................. 5

EVA: ............................................................................................................................................................... 5

Significance of EVA .................................................................................................................................... 5

EVA Calculation ......................................................................................................................................... 5

EVA = NOPAT - Cost of Capital ..................................................................................................................... 5

WACC = Ke * W1 + Kd (1 - T) * W2 ............................................................................................................... 6

Advantages of EVA Reporting ................................................................................................................... 6

Limitations of EVA Reporting .................................................................................................................... 6

Relationship between Market Price and EVA ........................................................................................... 6

EVA Trend Analysis .................................................................................................................................... 7

Hindustan Unilever Limited ......................................................................................................................... 7

EVA (Rs. Crore) vs FY | Source: HUL Annual Reports .................................................................................. 7

Coca Cola Limited ......................................................................................................................................... 7

EVA (Rs. Crore) vs FY | Source: Coca Cola Annual Reports ......................................................................... 7

Market Performance Analysis (Using SPSS) .................................................................................................. 8

Hindustan Unilever Limited ......................................................................................................................... 8

Coca-Cola ...................................................................................................................................................... 9

Operating Efficiency Analysis ........................................................................................................................ 9

5 Year Trend of Current Ratios .................................................................................................................. 10

Working Capital Analysis - Management Approach ................................................................................... 11

Total Debt : 5 Year trends .......................................................................................................................... 11

Conclusion & Recommendations ................................................................................................................ 12

References .................................................................................................................................................. 13

Annual Reports ........................................................................................................................................... 14



Executive Summary

In this report we have studied the relationship between EVA and Shareholders Wealth Maximization or

SWM. SWM has been compared using the closing price of the market of the chosen companies during

the financial year.

The following objectives were accomplished in this report:

Economic Value Added (EVA)

EVA Trend Analysis

Operational Efficiency Analysis

Market Performance Analysis

Management Approach & Recommendations

We have taken into consideration 2 FMCG companies, HUL and Coca-Cola for the analysis. This was

done to include one Indian and one foreign company. The closing price index was taken from the

Bombay Stock Exchange (BSE) for HUL and the Securities Exchange Board (SEB) for Coca-Cola.

The EVA trend analysis was done using the data obtained from the Annual reports of the two

companies. To analyze the data, statistical tools and techniques like simple linear regression, correlation

coefficient and adjusted R2 were used. The share price was taken as the dependant variable (y) and the

EVA as the independent variable (x) to determine the relationship between the two.

For Operational Efficiency analysis, current ratios of the two companies have been analyzed.

For Market Performances have been analyzed using the EVA and Closing price and then plotting them

for a period of 5 years.

For Management Approach, the working capital management by the companies has been looked upon.

Finally, it was concluded that EVA has a positive impact on SWM and the investors should consider this

as an indispensable parameter before making any decisions related to investment or disinvestment.

Moreover, the PAT sometimes gives a misleading picture as it also includes non-operating income which

might create confusion for any investment related decision making and also does not include the Cost of

Equity.



EVA (Economic Value Added)

Introduction Economic Value Added (EVA) is the financial performance measure that captures the true economic

profit of any company closest to the actual and is the performance measure which is most directly linked

to creating shareholder wealth over time. There has been several studies which show the connection

between change in shareholder wealth and EVA.

EVA:

Is a value based performance measure appreciating value created by management for its

owners

Evaluates how a company is performing by maximizing wealth for its shareholders

Is most directly linked to creating shareholder wealth

A number of giant organizations, both in India and abroad report EVA in their annual reports. A few

examples include HUL, Godrej, TCS in India, whereas outside, companies like Coca Cola, PepsiCo, Eli Lily,

ANZ Bank have all implemented EVA financial management systems.

Significance of EVA EVA has the following critical aspects linked to it:

It helps organizations determine the actual profit once the taxes and capital amount has been

taken under consideration

It separates bonus plans from budgetary targets and covers all aspects of the business cycle

It helps in taking better assessment of decisions that affect the balance sheet and income

statement or tradeoffs between each through the use of the capital charge against NOPAT

A positive EVA indicates that the business has created wealth for the shareholders, whereas a

negative EVA means that the business has destroyed wealth for shareholders

EVA Calculation In mathematical terms, this concept is expressed as (Maheswari, 2009) -

EVA = NOPAT - Cost of Capital

Where,

EVA = Economic Value Added Cost of Capital = Capital Employed x WACC

NOPAT = Net Operating Profit After Tax WACC = Weighted Average Cost of Capital

WACC used in the calculations is calculated as:



WACC = Ke * W1 + Kd (1 - T) * W2

Where,

W1 = Weight of Equity W2 = Weight of Debt

Kd = Effective cost of debt Ke = Effective cost of equity

Advantages of EVA Reporting 1. Provides a summary of how much and from where a company created wealth

2. Relatively easy to calculate

3. Can be used for compensating management

4. Includes the balance sheet in the calculation thereby encouraging managers to think about

assets as well as expenses in their decisions

5. Can be used as a management tool to improve performance

Limitations of EVA Reporting 1. Economic Value Added only applies to the period measured; it is not predictive of future

performance

2. Seemingly infinite cash adjustments associated with calculating economic value can be time

consuming

3. Requires accurate estimate of After tax cost of capital

4. Does not take into account the effects of inflation, investment profile or currency effects on

accounting value of capital and accounting profit

Relationship between Market Price and EVA EVA and market price usually have a direct correlation. As the company's expected EVA becomes higher,

so does the market value. However, under exceptional circumstances, it might be possible that -

A positive EVA is accompanied by a fall in the market price and vice versa, due to market

outlooks or growth potential

Thus a positive change in EVA is better than a positive yet unchanging base level of EVA as it is

consistent with shareholder value added

In theory, EVA and Market Price walk hand in hand, up or down, however, as discussed, due to positive

market outlook or investors recognizing huge growth potential in the firm might reverse that trend and

negative EVA can also result in a positive Market price.



EVA Trend Analysis

Hindustan Unilever Limited

EVA (Rs. Crore) vs FY | Source: HUL Annual Reports

Coca Cola Limited

EVA (Rs. Crore) vs FY | Source: Coca Cola Annual Reports

1750

2250

2926 3147

3380

0

500

1000

1500

2000

2500

3000

3500

4000

2010-11 2011-12 2012-13 2013-14 2014-15

EVA Trend

EVA Trend

Poly. (EVA Trend)

5201 4968

4257

2227 2081

0

1000

2000

3000

4000

5000

6000

2010-11 2011-12 2012-13 2013-14 2014-15

EVA Trend

EVA Trend

Poly. (EVA Trend)



Market Performance Analysis (Using SPSS)

Correlation EVA and Market Price usually have a direct correlation. We measure this correlation to check the extent of EVA impact on Share Price & hence the Shareholder Wealth

Adjusted R2 Adjusted R2 is used to determine the magnitude of effect of EVA on Closing Price in percentage terms

Regression Regression analysis between EVA as independent variable and Closing Price as dependant variable gives a linear equation using which we can predict the impact of EVA on SWM

Hindustan Unilever Limited

Correlation 0.957

Adjusted R2 0.888

Regression CP = 0.128 EVA - 116.27

1750

2250

2926 3147

3380

284.6 409.9 466.1

603.6 624.3

0

500

1000

1500

2000

2500

3000

3500

4000

2010-11 2011-12 2012-13 2013-14 2014-15

EVA

Closing Price



Coca-Cola

Correlation 0.4

Adjusted R2 - 0.12

Regression CP = 0.003 EVA + 41.317

Operating Efficiency Analysis

Current Ratio (or Working Capital Ratio) is a widely used tool for evaluating short term solvency

position of a business, or in other words the ability of a business to pay its short term obligations

when due

A higher Current Ratio suggests that a company is more capable to pay its obligations. An ideal

ratio is 2:1

A ratio less than 1 suggests that the company would be unable to pay off its obligations when

due

The current ratio can give a sense of the efficiency of a company's operating cycle or the ability

to turn products into cash

5201 4968

4257

2227 2081

66.34 74.01 40.44 38.66 42.63 0

1000

2000

3000

4000

5000

6000

2010-11 2011-12 2012-13 2013-14 2014-15

EVA

Closing Price



Year Current Ratio

HUL Coca Cola

2010-11 0.86 1.05

2011-12 0.83 1.09

2012-13 0.76 1.13

2013-14 0.74 1.02

2014-15 0.75 1.24

5 Year Trend of Current Ratios

0.86 0.83

0.76 0.75 0.74

1.05 1.09

1.13

1.02

1.24

0

0.2

0.4

0.6

0.8

1

1.2

1.4

2010-11 2011-12 2012-13 2013-14 2014-15

Cu

rre

nt

Rat

io

Financial Year

HUL

Coca Cola



Working Capital Analysis - Management Approach

Bank loans and financing agreements, in addition to bonds and notes that have maturities

greater than one year, would be considered long-term debt

Other securities such as repos and commercial papers would not be long-term debt, because

their maturities are typically shorter than one year and are considered short-term debts

HUL has a negative Working Capital and has zero unsecured loans which show an aggressive

Approach

Coca Cola on the other hand is financed through heavy debts (as seen in the graph) which is

increasing every year, though current ratio is less than 1.3 indicating creditworthiness,

conservative

Total Debt : 5 Year trends

Year Total Debt

HUL Coca Cola

2010-11 0 63973.71

2011-12 0 78783.22

2012-13 0 111938.8

2013-14 0 116077.84

2014-15 0 119259.43



Conclusion & Recommendations

EVA is one of the most important parameters which needs to be considered while taking

investment decisions. This fact is even stated in the Statistical analysis performed on HUL and

several other journals

The companies which report EVAs in their balance-sheet have been able to create value for their

shareholders, whereas companies which do not do so have not been able to. Therefore, it is

recommended that investors look into the EVA performance of the respective companies before

investing capital

EVA takes into picture the real financial health of any company. Thus, companies should be

mandatorily made to disclose EVA values in their annual reports

Companies destroying wealth of the shareholders have a high equity cost and the profit is not

enough to cover the equity cost. This implies that companies have been investing in less

profitable projects

As far as Working Capital financing is concerned, it depends on the objective of the company

and is sector independent

The main aim for any investment should be to create value for the shareholders. The managers

should never consider their own profit while making an investment decision

EVA & SWM are strongly correlated for companies to consider it before investing in them

0 0 0 0 0

63973.71

78783.22

111938.8 116077.84

119237.43

0

20000

40000

60000

80000

100000

120000

140000

2010-11 2011-12 2012-13 2013-14 2014-15

Cu

rre

nt

Rat

io

Financial Year

HUL

Coca Cola



References



Annual Reports

https://www.hul.co.in/Images/hul-annual-report-2014-15_tcm1255-

436328_en.pdf

https://www.coca-

colacompany.com/content/dam/journey/us/en/private/fileassets/pdf/2

015/02/2014-annual-report-on-form-10-k.pdf

eva as a performance tool & as an indicator of swm

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