Economic Value Add and Net Present Value Equivalence

Fortunately for project managers, NPV and EVA are exactly equivalent. NPV is computationally EVA-NPV equivalence is a very big convenience indeed. Let's see how this equivalence works ii shows the calculations.

Table 5-10: EVA-NPV of Project

 Present 1 2 3 4 5 EVA of Project \$50,000.00 \$50,000.00 \$50,000.00 \$50,000.00 \$50,000.00 \$250,0 \$46,296.30 \$42,866.94 \$39,691.61 \$36,751.49 \$34,029.16 \$199,6 \$0.00 \$37,037.04 \$27,434.84 \$19,051.97 \$11,760.48 \$5,444.67 \$100,7 \$9,259.26 \$15,432.10 \$20,639.64 \$24,991.01 \$28,584.49 \$98,9 0.08 0.08 0.08 0.08 0.08 PV of EAT = present value of earnings after tax. PV of CCE = present value of the cost of capital employed. PV of EVA = present value of economic value add. NPV of Project \$50,000.00 \$50,000.00 \$50,000.00 \$50,000.00 \$50,000.00 \$2: \$0.00 \$100,000.00 \$100,000.00 \$100,000.00 \$100,000.00 \$100,000.00 \$51 \$150,000.00 \$150,000.00 \$150,000.00 \$150,000.00 \$150,000.00 0.08 0.08 0.08 0.08 0.08 \$138,888.88 \$128,600.82 \$119,074.84 \$110,254.48 \$102,087.48 \$5! .\$51 \$ PV of NCF = present value of net cash flow.

First, we must reorient ourselves to cash flow rather than earnings. Tom Pike's ditty — "Cash is jumps to mind. To show equivalence between NPV and EVA, we must find the cash flow from c define cash earnings as net cash flow (NCF). Also recall the definition previously given of net ca the noncash expenses on the expense statement added back in:

NCF = EAT + Noncash expense

NCF = EAT + Depreciation

From this point the calculations are straightforward: add the EAT and the depreciation together ■ present value, and the result is the present value of the cash inflows from earnings. Then subtra The result is the NPV. We see that, to the penny, the EVA and the NPV are the same, though th much simpler since cash is much easier to measure and track than EAT.

NPV (NCF from operations) = EVA (EAT) [4lHiggins, Robert C., Analysis for Financial Management, Irwin McGraw-Hill, Boston, MA, 1998, t5]P.T. Finegan first wrote about EVA in the publication Corporate Cashflow. [61 Shawn Tully [71 m magazine article after Finegan wrote about EVA.

t5]Finegan, P.T., Financial incentives resolve the shareholder-value puzzle, Corporate Cashflow

[5]Tully, S., The real key to creating wealth, Fortune, pp. 38-50, September 1993.

[8]If the project does not generate revenue, but generates cost savings instead, the cost savings create increased earnings.

[^Depreciation is not always uniformly the same figure each year. There are "accelerated" depr expense in the early years and less in the later years. The controller will make the decision aboi follow.

Team LiB

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