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Fm10e ch13

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Fm10e ch13

  1. 1. Chapter 13 - Managing for Shareholder Value  2005, Pearson Prentice Hall
  2. 2. Top Creators of Shareholder Value for 2001 ($ Millions) <ul><li> invested cost of </li></ul><ul><li> MVA capital return capital </li></ul><ul><li>Gen Elect 339,200 82,111 20.0% 9.4% </li></ul><ul><li>Microsoft 325,872 26,343 21.5% 13.7% </li></ul><ul><li>Wal - Mart 221,166 65,677 12.4% 8.9% </li></ul><ul><li>Intel 169,980 41,397 9.0% 16.2% </li></ul><ul><li>Citigroup 155,695 104,210 14.7% 12.0% </li></ul>
  3. 3. Market Value Added <ul><li>MVA = Firm Value - Invested Capital </li></ul><ul><li>Firm value = market value of the firm’s outstanding debt and equity securities. </li></ul><ul><li>Invested Capital = the sum total of the funds that have been invested in the firm. </li></ul>
  4. 4. Value Creation <ul><li>The combination of opportunity and execution . </li></ul><ul><li>Opportunities must be recognized. </li></ul><ul><li>Employees must be ready, willing, and able to take advantage of the opportunities. </li></ul>
  5. 5. Business Valuation: The Accounting Model <ul><li>Using the P/E ratio: </li></ul><ul><li>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. </li></ul><ul><li>Problem: ignores R&D, which would reduce earnings per share, but should increase future earnings! </li></ul>
  6. 6. Business Valuation: Free Cash Flow Valuation Model <ul><li>Value = the PV of the firm’s projected free cash flows for all future years. </li></ul>
  7. 7. Business Valuation: Free Cash Flow Valuation Model <ul><li>Value = the PV of the firm’s projected free cash flows for all future years. </li></ul><ul><li>Value = FCF + FCF + FCF + … + Terminal value </li></ul><ul><li>( 1+k) 1 (1+k) 2 (1+k) 3 (1+k) n </li></ul>
  8. 8. Value Drivers <ul><li>Variables that managers can tweak to increase firm value. </li></ul><ul><li>Examples: </li></ul><ul><li>sales growth </li></ul><ul><li>operating profit margin </li></ul><ul><li>net working capital-to-sales ratio </li></ul><ul><li>property, plant and equipment-to-sales ratio </li></ul><ul><li>cost of capital </li></ul>
  9. 9. Economic Value Added
  10. 10. Economic Value Added <ul><li>Net operating weighted average invested </li></ul><ul><li>EVA t = profit after - cost of x capital t-1 </li></ul><ul><li>tax (NOPAT) t capital (k wacc ) </li></ul>
  11. 11. Economic Value Added <ul><li>Net operating weighted average invested </li></ul><ul><li>EVA t = profit after - cost of x capital t-1 </li></ul><ul><li>tax (NOPAT) t capital (k wacc ) </li></ul><ul><li>alternative definition: </li></ul><ul><li>Return on weighted average invested </li></ul><ul><li>EVA t = invested - cost of x capital t-1 </li></ul><ul><li>capital (ROIC) t capital (k wacc ) </li></ul>
  12. 12. Paying for Performance <ul><li>Shareholder and manager interests are aligned when: </li></ul><ul><li>contributions of individuals and groups toward creation of shareholder value are measured using EVA, and </li></ul><ul><li>rewards are structured accordingly. </li></ul>
  13. 13. Components of a Firm’s Compensation Policy <ul><li>base pay </li></ul><ul><li>bonus: quarterly, semi-annual, or annual </li></ul><ul><li>long-term compensation: options, grants </li></ul>
  14. 14. Designing a Compensation Program <ul><li>1) How much to pay? </li></ul><ul><li>2) Base pay versus at-risk or incentive compensation </li></ul><ul><li>3) Linking incentive compensation to performance </li></ul><ul><li>4) Paying with a cash bonus versus equity </li></ul>

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