What is Economic Value Added and Market Value Added? Under what conditions will EVA increase ?

Answer 6A(iv) Economic Value Added (EVA) Economic Value Added (EVA) is the after tax cash flow generated by a business minus the cost of the capital it has incurred by deploying capital to generate that cash flow. Representing real profit versus paper profit, EVA underlines shareholder value, increasingly the main target of leading companies strategies. Shareholders are the players who provide the firm with capital to gain from their investment. There are two key components to EVA i.e. the net operating profit after tax (NOPAT) and the capital charge, which is the cost of capital times the amount of capital. In other words, it is the total pool of profits available to provide cash return to those who provided capital to the firm. The capital charge is the product of the cost of capital times the capital tied up in the investment. In other words, the capital charge is the cash flow required to compensate investors for the riskiness of the business given the amount of capital invested. On the one hand, the cost of capital is the minimum rate of return on capital required to compensate debt and equity investors for bearing risk-a cut-off rate to create value and capital is the amount of cash invested in the business, net of depreciation. Formula: EVA = Operating Profit - Capital Charge OR EVA = NOPAT - (Cost of Capital * Capital) EVA represents value added to shareholders by generating operating profits in excess of cost of capital employed in business. EVA will increase if: Operating profits grow without employing additional capital i.e., through greater efficiency. Additional capital is invested in the projects that give higher returns than the cost of procuring new capital. Unproductive capital is liquidated i.e. curtailing unproductive use of capital. Market Value Added (MVA) Market value added (MVA) is a calculation that shows the difference between the market value of a company and the capital contributed by all investors, both bondholders and shareholders. In other words, it is the market value of debt and equity minus all capital claims held against the company. It is calculated as: Formula: MVA = V - K Where: V = market value of firm including the value of firm's equity and debt K = Total capital invested in the firm. Capital = Equity + Debt capital