10. The calculation of a firm's Market Value Added (MVA) and EconomicValue Added (EVA) Josh, your newly appointed boss, has tasked you with evaluating the following financial data for Water and Power Co. to determine how Water & Power's value has changed over the past year. The investment firm for which you work will make a positive (or "buy recommendation to its investing clients if Water & Power's value has increased over the past year, a neutral (or "hold") recommendation if the value has remained constant, or a negative (or "sell") recommendation if the value has decreased. He has recommended that you use several metrics to ascertain how the firm's value has changed, and he has provided you with the following income statement and balance sheet. Water and Power Co. Income Statement Assets: Cash and cash equivalents Receivables Year 2 $59,850 Year 1 $57,000 Inventory 199,500 349,125 $608,475 389,025 $997,500 190,000 332,500 $579,500 370,500 $950,000 Current assets Net fixed assets Total current assets Liabilities and Equity: Accounts payable Accruals Notes payable Total current liabilities Long-term debt Total liabilities Common stock ($1 par) Retained earnings Total equity Total liabilities and equity Shares outstanding Weighted average cost of capital $149,625 97,256 209,475 $456,356 192,019 $648,375 69,825 279,300 $349,125 $997,500 69,825 7.98% $ 142,500 92,625 199,500 $434,625 182,875 $617,500 66,500 266,000 $332,500 $950,000 66,500 7.30% Metric Year 2 Year 1 Percentage Change Sales General Metrics $1,050,000 $85,050 Net income $1,000,000 $72,000 $107,000 Net cash flow (NCF) Net operating working capital (NOWC) Earnings per share (EPS) Dividends per share (DPS) $361,594 $1.08 $0.73 Book value per share (BVPS) Cash flow per share (CFPS) $5.00 0.00% 8.07% $19.75 Market price per share MVA Calculation Market value of equity 15.53% $349,124 $332,500 $980,875 $103,950 Book value of equity Market Value Added (MVA) EVA Calculation Net operating profit after-tax (NOPAT) Investor-supplied operating capital Weighted average cost of capital Dollar cost of capital Return on invested capital (ROIC) 5.00% 7.98% 7.30% 14.78% 13.80% ONUJCICHCOUNT IUI Pidilidi Management $103,950 5.00% Net operating profit after-tax (NOPAT) Investor-supplied operating capital Weighted average cost of capital Dollar cost of capital Return on invested capital (ROIC) Economic Value Added (EVA) 7.98% 7.30% 14.78% 13.80% $44,061 Using the change in Water & Power's EVA as the decision criterion, which type of investment recommendation should you make to your clients? A hold recommendation A buy recommendation A sell recommendation Which of the following statements are correct? Check all that apply. Water & Power's net income is growing at a rate greater than its sales. This could imply that either its revenues are growing more quickly than its expenses or that management is being effective in managing its costs while achieving the reported growth in sales. Other things remaining constant, either event should increase the value of the firm. For any given year, one way to compute Water & Power's EVA is as the difference between its NOPAT and the product of its operating capital and its weighted average cost of capital. An increase in the number of common shares outstanding must increase the market value of the firm's equity. Other things remaining constant, Water & Power's EVA will increase when its ROIC exceeds its WACC. Water & Power's NCF is calculated by adding its annual interest expense to the corresponding year's net income