Econ. profit=NOPAT-$WACC; discounted at WACC One approach to calculate residual income in equity (p583): RI=NOPAT-captial charge (debt charge +equity charge); discounted at required rate of return on equity investment. It looks the same concept to me, but why discounted at different rates?
RI uses NI, not NOPAT.
piwanowi Wrote: ------------------------------------------------------- > RI uses NI, not NOPAT. Please check the equity curriculum at p583 Approach 2. get the same results from NI and NOPAT.
NOPAT = EBIT(1-t) which doesn’t adjust for interest expense. Also EVA = NOPAT - $WACC which again accounts for profit generated after tax after contributions from all capital sources, debt and equity. RI model looks at just excess equity returns. Since RI uses Book Value (assets net of liabilities) only an equity measure of profit must be used, hence Net Income over NOPAT. RI = Net Income - (required return on equity x B(t-1)) The only time NI and NOPAT would be the same is if the company is financed 100% through equity. Then EVA and RI would give the same results.
RI = NI - rB_t-1 So Net Income - cost of equity*last years book value EP = NOPAT -$WACC NOPAT is EBIT(1-t). EBIT(1-t) should equal NI… as long as there is no interest charges on the income statement. If there are, then your calc should be EP = EBT(1-t) - $WACC note ($WACC = D+E * WACC) which is the weighted average cost of debt (reduced by tax rate), preferred debt (maybe - but not reduced by tax rate) and equity (drived from CAPM).
If I remember correctly, r = return on equity S/E = shareholder’s equity BV RI = NI - ®(S/E) EP = EBIT(1-t) - (wacc)(invested capital) Very different equations, though similar conceptually.
still confused. let pay with some numbers total asset $200, financed with 50% of debt and 50% of equity total debt $100, cost of debt 7%, tax rate 30%, after tax cost of debt 4.9% equity $100, cost of equity 12% EBIT=$40 in the income statement NI=(EBIT-interest)*(1-tax rate)=(40-100*0.07)*0.7=23.1 RI=NI-rB=23.1-0.12*100=11.1 NOPAT=EBIT*(1-tax rate)=40*0.7=28 WACC=0.5*4.9+0.5*12=8.45% EP=NOPAT-WACC*invested capital=28-200*0.0845=28-16.9=11.1 it is not 100% financed through equity but still get the same result. Where did I get it wrong?
In equity EOC, they say calculate EVA or RI, meaning they are the same. However, in corp finance, they are not the same. EVA in corp finance is EP, which is different from RI. I think that’s what the question is.