Stern Stewart & Co | 19th November 2008

Vishal Mehta, a senior practitioner at Stern Stewart based out of its Mumbai office, delivered a fascinating talk on “value based management”. The agenda of the session covered the following topics:

• Shareholder wealth creation and EVA
• Implementing “Value based management” programs

                   o   How we do it

                   o   Does it work

• Current environment and implications for Indian business
• About Stern Stewart

Although Market Value Added (MVA) is the best measure of value, it poses some challenges from a performance measurement perspective, such as

1. Can’t measure if you don’t have a market
2. Volatility due to relationship with share price
3. Difficult to link with operating and/or financial metrics

Why EVA?

1. EVA is intrinsically linked to MVA and wealth creation
2. There is no need of a market to calculate EVA
3. Does not suffer from volatility on account of short term changes in market price

MVA is equal to the PV of all expected future EVAs

Current Operations Value (COV) = Capitalized Current EVA + Invested Capital.

Enterprise value (EV) = Future Growth Value (FGV) + PV of EVA + Invested Capital

FGV is subject to expectations and fluctuations and is highly correlated to market sentiments. FGV = PV (improvements in EVA year on year). Thus the job of the management is to improve EVA (current performance) and at the same time build options and initiatives for the future and communicate it to the market (increments in EVA y-o-y). This will improve FGV and EVA and result in improved EV.

The PV of EVA is fundamentally equal to NPV of FCF

EVA can be increased by increasing NOPAT (operations/profitability) and by reducing cost of capital (financing).

Stern Stewart’s value creation framework synthesizes organization’s value by

-          Profitability – affects NOPAT

-          Prospects – affects FGV

-          Financing – arrive at the ideal capital structure – affects cost of capital

Disadvantages of using EVA: EVA is not applicable if there are period of negative EVA and taking decisions in the short term, whereas in the long term net EVA could be positive.

Stern Stewart currently has 11 professionals in its Mumbai office. It has been present in Mumbai since 1999-2000. The growth (in terms of professionals) is based on the projects under implementation. The work is highly performance driven since the success of a particular project can be measured by the client and evaluated directly. Stern Stewart recruits professionals who have a corporate finance bent of mind. 

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