 # EVA

EVA = NOPAT − (WACC × invested capital).

Is it that INVESTED CAPITAL = debt + Equity?

Equity is based on the book value or maket value becuase the share in the market might change making diifferent from original par value.

Thanks

So both Debt and Equity are market values…

not true , look at below problem

After her initial review of residual income, Clifton gives Rawls a test. The answers depend on the use of the following information about CR Industries in Year X (in \$ millions):

Invested capital \$225 Market capitalization \$231 Debt \$130 Sales \$90 Cost of goods sold (COGS) \$26 Selling, general & administrative (SG&A) expense \$10 Depreciation and amortization expense \$25 Interest expense \$6.5 Dividend expense \$6 Tax rate 40.0% Pretax cost of equity 11.4% Pretax cost of debt 5.00%

The economic value added (EVA) of CR Industries is closest to:

A) −\$8.13 million. B) −\$4.53 million. C) \$2.67 million.

EVA = NOPAT − (WACC × invested capital).

NOPAT = (sales − COGS − SG&A expense − depreciation and amortization expense) × (1 − tax rate) = \$17.40 million.

To calculate the weighted average cost of capital (WACC), start by determining the percentage of equity and debt. \$130 million in debt represented 57.78% of total capital. The remaining 42.22% is the equity portion. Don’t forget to adjust the cost of debt for taxes.

WACC = 57.78% × (5% × [1 − 40%]) + (42.22% × 11.4%) = 6.55%.

EVA = \$17.40 million − (\$225 million × 6.55%) = \$2.67 million.

Note that in this problem residual income and EVA are the same. This is true in a “perfect world” but you should not assume this will always be true on exam problems.

(Study Session 12, LOS 42.a)

interesting…it shattered my belief on Economic theory…I will have to go back and seek my support