Question

What is impact of NPV from SVA?

Answer 1

The impact of NPV from share holder value added

Shareholder value added (SVA) is a measure of the operating profits that a company has produced in excess of its funding costs, or cost of capital. The basic calculation is net operating profit after tax (NO PAT) minus the cost of capital, based on the company's weighted average cost of capital.

The formula of SVA

SVA = NOPAT - CC

WHERE CC = COST OF CAPITAL

NOPAT = NET OPERATING PROFIT AFTER TAX

A prime disadvantage of shareholder value added is that it is difficult to calculate for privately held companies. SVA requires calculating the cost of capital, including the cost of equity. This is difficult for companies that are privately held.

The basic assumption of SVA is that a business is worth the net present value of its future cash flows, discounted at the appropriate cost of capital. SVA provides a framework for linking management decision and strategies to value creation.

SVA insists the managers to take decisions which can create value for the shareholders. A business can plan and manage its activities to increase value for shareholders, and at the same time, benefit other stakeholders.

SVA requires the specification of a planning horizon i.e., number of years, for which cash flows are to be forecast and discounted to present values. The quantum of cash flows during the planning horizon will be effected by value creation strategies to be implemented. Therefore, value creation strategies can be considered in the light of its ability to create value for shareholders.