Drivers of Shareholder Value
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Transcript of Drivers of Shareholder Value
ITM - INSTITUTE OF FINANCIAL MARKET
A PROJECT REPORT ON
Submitted by: Tanay Sinha Roll No. 38 PGDM FM: 2008 10
To study the various methods to measure the shareholders value. Analyze how the intrinsic values affect the shareholder value. To identify the key drivers that drive shareholders value. To analyze shareholders value across Time, Cross Section and Sectors.
INTRODUCTIONShareholders want good return, hence organizations main focus should be on enhancement of the shareholder value . Shareholder Value is the part of its capitalization that is equity as opposed to long-term debt. In a vehicle as it is very important to know what drives it, in the same way it is also necessary to know what factors increase or decrease the shareholder value.
DRIVERS OF SHAREHOLDER VALUE MEASURE OF CAPITAL INVESTED IN ASSETS
Many firms use the book value of capital invested as their measure of capital invested. To the degree that book value reflects accounting choices made over time, this may not be true. In cases where firms alter their capital invested through their operating decisions (for example, by using operating leases), the capital and the after-tax operating income have to be adjusted to reflect true capital invested.
RETURN ON CAPITAL
The accounting definition of return on capital may not reflect the economic return on capital. In particular, the operating income has to be cleansed of any expenses which are really capital expenses (in the sense that they create future value). One example would be R& D. The operating income also has to be cleansed of any cosmetic or temporary effects.
Economic Value Added EVA is the difference between return achieved on resources invested and the cost of resources. Higher the EVA, better the level of resource utilization. EVA = (r-c)*K = NOPAT c*K Where r - is the firm's return on capital, NOPAT- is the Net Operating Profit after Tax, c - is the Weighted Average Cost of Capital(WACC) and K - is capital employed
Dependent Variable on the basis of Market Value
Market Value Added Market Value Added (MVA) is the difference between the current market value of a firm and the capital contributed by investors. It is the sum of all capital claims held against the company plus the market value of debt and equity. The higher the Market Value Added (MVA) is, the better it is. If MVA is positive, the firm has added value. If it is negative, the firm has destroyed value. The formula for MVA is: MVA = V K Where V is the market value of the firm , including the value of the firm's equity and debt K is the capital invested in the firm
Stock ReturnThe size premium is due almost entirely to the extreme positive returns of small stocks that move to a big stock portfolio from one year to the next. Three factors contribute to the value premium. Plus transition, with their high returns, occur more often for value stocks than for growth stocks. Minus transitions and their low returns are more likely for growth stocks. Value stocks that remain in the same portfolio from one year to the next have higher average returns than the matching (small or big) growth stocks. Small growth stocks are more likely than small value stocks to move to a big portfolio from one year to the next. The average returns from these size transitions are huge, and their greater weight in the small growth portfolio pushes up its average return and lowers the value premium
INDEPENDENT VARIABLE ON THE BASIS OF GROWTH
Sales Growth Forecasting sales is necessary because it is the future neither current, nor past - cash flow and revenue that analysts must look at. Expansion of existing sales involves major promotional campaigns or expansion of an existing plant. Introduction of new products is the most risky of all projects for the firm because the firm will have to deal with unfamiliar customers and competitors.
The gross profit is the difference between the sales revenue and cost of goods sold. Gross Profit Margin = (Sales revenue - cost of goods sold)/ Sales revenue Profit margin is the end result of unit cost and volume strategies. Firms do not necessarily set total revenue as their goal instead it is profit that they seek to maximize at the point where marginal revenue is equal to margin cost.
INDEPENDENT VARIABLE ON THE BASIS OF PROFIT
Net Margin A company's profitability is very often evaluated by comparing earnings to sales rather than to investment. This is done in order to judge management's strategy with respect to administrative, general and overhead expenses. Interest Interest expense was analyzed from the stand point of determining if the firm will be able to borrow in the future. Here the concern is whether the interest expense is in line with management strategy. Compensation for loss of purchasing power, i.e. inflation Compensation for the non-use of money Liquidity preference Length of contract Monetary policy impact Market risk premium
Taxes The corporate income tax reported in the income statement is not the actual tax paid. The actual tax liability is calculated on the income tax return with all tax rules on income recognition and allowable deductions that are permitted and most advantageous to the firm. Asset Turnover FAT = Sales / Fixed assets This ratio is compared over several years and with other companies in the industry. TAT = Sales / Total assets This approach is often conducted in the context of the DuPont break out. A low ratio compared to prior years and other firms in the industry may be indicative of inefficiency (i.e. the company may have assets that are fully utilized). A high ratio compared to industry or prior years may be indicative of excessive use of assets that may result in breakdowns.
Leverage The degree to which an investor or business is utilizing borrowed money. Leverage is not always bad, however; it can increase the shareholders' return on their investment and often there are tax advantages associated with borrowing also called financial leverage. Cost of Capital Potential default Bankruptcy potential cost Minimum average cost of capital Size of Company Size also influences shareholders value because there is an economy of scale in issuing larger loans. A large business will have an easier time to borrow and a lower rate. Net profit margins and size of companies Return on equity and size of firms
INDEPENDENT VARIABLE ON THE BASIS OF ECONOMIC FACTORS
Sensex In the stock market, share prices are dependent on so many factors. So, it is hard to point out just one or two factors that affect the price of the stocks. There are still some factors that are that directly influence the share prices. Demand and Supply News Market Cap Earning Per Share Price/Earnings Ratio
Gross Domestic Product Buy in an emerging market sell in the established capital markets. On the surface, the formula for arbitrage success appears fairly straightforward. Wholesale Price Index Inflation is a rise in the general price level over a period of time. In any economy, prices are rising and falling all the time - some rise by quite a lot and others will fall. This is not just the prices in shops for food but also prices of things like insurance for both individuals and businesses, the prices of raw materials like oil, copper and steel, tuition fees for education at university and the price we pay for different sorts of entertainment like the cinema.
INDEPENDENT VARIABLE ON THE BASIS OF NON- FINANCIAL FACTORS
Ownership Patterns Current shareholders and prospective purchasers of shares of a corporation are those for whom financial statements are primarily intended, along with auditor's opinion and other text describing company's financial position. Minority and majority shareholders Small shareholders Minority shareholder Majority shareholders Companys global linkages Trade is growing, and growing lighter; exports are expanding primarily by reaching new markets with smaller shipments; and fragmented production networks are becoming the norm. All of these changes put a premium on speed, on flexibility, and on information, increasing the potential for transmission of shocks between trading partners.
FOREX Earning When there is less autonomy, and management of the company has to report to an owner which delegates only a portion of the responsibilities, then the processes of decision making and analysis occur in two different locations. FOREX Expenses Hedging can contribute greatly to a company's success and value creation. Corporate treasury risk management is as much similar to art as science given the company specific mix of numerous hard and soft factors that determine the appropriate approach. Hedging has the potential to create significant value, but it also has the potential to destroy value if it is not based on an appropriate strategy. Foreign Direct Investment FDI is associated positively with output growth because it either increases the volume of investment and/or its productivity or thus puts the economy on a path of higher longterm growth.
From these results, we may infer that investors were uncertain concerning the strength of the put provision in any particular covenant. On average, equity investors restored some of the risk premia when ratings indicated weak protection for bondholders. Likewise, equity investors surrendered premia when these ratings indicated the strongest protection existed. The market appears to have been less than perfectly efficient in determining the impact of the super poison put innovation.