Discuss EVA concept, how is EVA determined, Describe how the company can increase EVA, Dicuss why and how EVA relates to financial ratio analysis
This site will help you.
http://www.investopedia.com/articles/fundamental/03/031203.asp#axzz1S2KhwYeM
EVA, which stands for Economic Value Added, is a financial metric that measures the value a company generates above its cost of capital. It is a concept that helps determine whether a company creates value for its shareholders.
To calculate EVA, you need two key inputs: the net operating profit after tax (NOPAT) and the cost of capital. NOPAT represents the company's operating profit after deducting taxes, while the cost of capital is the minimum rate of return required by the company's investors.
Here's a formula to calculate EVA:
EVA = NOPAT - (Cost of Capital * Total Capital)
To increase EVA, a company can focus on improving either the numerator (NOPAT) or the denominator (cost of capital) of the formula.
1. Increase NOPAT: A company can increase its EVA by striving to increase its operating profit. This can be achieved through various strategies like increasing sales revenue, reducing costs, improving operational efficiency, or expanding into more profitable market segments.
2. Decrease the cost of capital: The cost of capital can be reduced by optimizing the company's capital structure, which involves finding the right balance between debt and equity financing. Lowering interest rates on debt, refinancing expensive debt with cheaper options, or reducing the cost of equity through effective investor relations can all help decrease the cost of capital.
EVA relates to financial ratio analysis in several ways. Financial ratios provide insights into a company's financial performance, efficiency, and profitability. EVA, on the other hand, focuses specifically on whether a company generates value above its cost of capital. By integrating EVA into financial ratio analysis, analysts can gain a more comprehensive understanding of a company's financial health and its ability to create shareholder value.
Moreover, EVA can also be used as a performance measure to assess managers' effectiveness in generating value for shareholders. By comparing a company's EVA with its industry peers or benchmarking against its own historical performance, managers and investors can evaluate the company's relative performance and make informed financial decisions.