Ch,13,
Managing for Shareholder Value
? 2002,Prentice Hall,Inc,
Top Creators of Shareholder Value
1999
invested cost of
MVA capital return capital
Microsoft 328,257 10,954 56.16% 12.64%
Gen Elect 285,320 65,298 19.29% 11.92%
Intel 166,902 23,626 35.44% 12.92%
Wal-Mart 159,444 36,188 13.24% 9.82%
Coca-Cola 157,536 13,311 31.22% 11.24%
Market Value Added
MVA = Firm Value - Invested Capital
Firm value = market value of the firm’s
outstanding debt and equity securities,
Invested Capital = the sum total of the
funds that have been invested in the firm,
Value Creation
? The combination of opportunity and
execution,
? Opportunities must be recognized,and
? Employees must be ready,willing and
able to take advantage of the
opportunities,
Business Valuation,
The Accounting Model
? Using the P/E ratio,
? If a firm’s P/E ratio is 20,then a dollar
increase in earnings per share will create
$20 in additional equity value per share,
? Problem,ignores R&D,which would
reduce earnings per share,but should
increase future earnings!
Business Valuation,
Free Cash Flow Valuation Model
? Value = the PV of the firm’s projected free cash
flows for all future years,
Business Valuation,
Free Cash Flow Valuation Model
? Value = the PV of the firm’s projected free cash
flows for all future years,
Value = FCF + FCF + FCF + … + Terminal value
( 1+k)1 (1+k)2 (1+k)3 (1+k)n
Value Drivers
Variables that managers can tweak to
increase firm value,
? Examples,
? Sales growth
? operating profit margin
? net working capital to sales ratio
? property,plant and equipment to sales ratio
? cost of capital
Economic Value Added
Economic Value Added
Net operating weighted average invested
EVAt = profit after - cost of x capital t-1
tax (NOPAT)t capital (kwacc)
Economic Value Added
Net operating weighted average invested
EVAt = profit after - cost of x capital t-1
tax (NOPAT)t capital (kwacc)
alternative definition,
Return on weighted average invested
EVAt = invested - cost of x capital t-1
capital (ROIC)t capital (kwacc)
Paying for Performance
Shareholder and manager interests are
aligned when,
? contributions of individuals and groups
toward creation of shareholder value are
measured using EVA,and
? rewards are structured accordingly,
Components of a Firm’s
Compensation Policy
? base pay
? bonus,quarterly,semi-annual,or
annual
? long-term compensation,options,
grants
Designing a Compensation Program
1) How much to pay?
2) Base pay versus at-risk or incentive
compensation
3) Linking incentive compensation to
performance
4) Paying with a cash bonus versus equity
Managing for Shareholder Value
? 2002,Prentice Hall,Inc,
Top Creators of Shareholder Value
1999
invested cost of
MVA capital return capital
Microsoft 328,257 10,954 56.16% 12.64%
Gen Elect 285,320 65,298 19.29% 11.92%
Intel 166,902 23,626 35.44% 12.92%
Wal-Mart 159,444 36,188 13.24% 9.82%
Coca-Cola 157,536 13,311 31.22% 11.24%
Market Value Added
MVA = Firm Value - Invested Capital
Firm value = market value of the firm’s
outstanding debt and equity securities,
Invested Capital = the sum total of the
funds that have been invested in the firm,
Value Creation
? The combination of opportunity and
execution,
? Opportunities must be recognized,and
? Employees must be ready,willing and
able to take advantage of the
opportunities,
Business Valuation,
The Accounting Model
? Using the P/E ratio,
? If a firm’s P/E ratio is 20,then a dollar
increase in earnings per share will create
$20 in additional equity value per share,
? Problem,ignores R&D,which would
reduce earnings per share,but should
increase future earnings!
Business Valuation,
Free Cash Flow Valuation Model
? Value = the PV of the firm’s projected free cash
flows for all future years,
Business Valuation,
Free Cash Flow Valuation Model
? Value = the PV of the firm’s projected free cash
flows for all future years,
Value = FCF + FCF + FCF + … + Terminal value
( 1+k)1 (1+k)2 (1+k)3 (1+k)n
Value Drivers
Variables that managers can tweak to
increase firm value,
? Examples,
? Sales growth
? operating profit margin
? net working capital to sales ratio
? property,plant and equipment to sales ratio
? cost of capital
Economic Value Added
Economic Value Added
Net operating weighted average invested
EVAt = profit after - cost of x capital t-1
tax (NOPAT)t capital (kwacc)
Economic Value Added
Net operating weighted average invested
EVAt = profit after - cost of x capital t-1
tax (NOPAT)t capital (kwacc)
alternative definition,
Return on weighted average invested
EVAt = invested - cost of x capital t-1
capital (ROIC)t capital (kwacc)
Paying for Performance
Shareholder and manager interests are
aligned when,
? contributions of individuals and groups
toward creation of shareholder value are
measured using EVA,and
? rewards are structured accordingly,
Components of a Firm’s
Compensation Policy
? base pay
? bonus,quarterly,semi-annual,or
annual
? long-term compensation,options,
grants
Designing a Compensation Program
1) How much to pay?
2) Base pay versus at-risk or incentive
compensation
3) Linking incentive compensation to
performance
4) Paying with a cash bonus versus equity
