You siad " I'm not familiar with the EVA valuation model. Does it include risk and future projections, or just the simple EVA calculation? My understanding is that EVA is mainly a tool for analyzing past and present performance. Furthermore, if risk is included in the equation, isn't ROE (or perhaps ROE minus cost of common equity) a better indicator? EVA seems to neglect any leverage provided by your capital structure. EVA and ROE both are vulnerable to earnings manipulation- I look forward to your discussion of cash flow models.
I agree that sales is a dangerous variable. I've always doubted the
wisdom of those who preach of small P/S ratios while neglecting to
compare margins."
The reason I posted this is that these questions illustrate some very important characteristics of fundamental valuation.
EVA can include risk and future valuations if applied to future cash flow projections. EVA inherently includes risk. Debt, business, investment, and equity risk are calulated when one determines the costof capital. That is the cost of total capital and not just equity.
<Furthermore, if risk is included in the equation, isn't ROE (or perhaps ROE minus cost of common equity) a better indicator? EVA seems to neglect any leverage provided by your capital structure.>
To inlude just the cost of equity would overstate the cost of capital (in the US, debt is cheaper than equity due totax laws) and would understate the (investment and credit) risk involved. EVA = after tax returns - total cost of total capital structure, therefore EVA takes into account leverage in the capital structure. This can be projected forward or used to analyze past and present performance.
<. EVA and ROE both are vulnerable to earnings manipulation- I look forward to your discussion of cash flow models.>
EVA is not vulnerable to earnings manipulations for, if done correctly, would exclude all non-cash transactions (explained in my two initial and rather lengthy psots). What I have done was to create a simplified EVA calculation (for the sake of simplicity) to include in the quasi-public domain model that I am giving away for free. The free cash flow and disocunted cash flow models contain the advanced EVA calucations (they add back amortization, deferred revenues, prepaid taxes, etc.), in order to do this it takes some work. I will systematically work my way up to the DCF model in order to bring the rest of SI up to speed. I doubt if everybody in this forum is as well versed as you are in fundamental analysis. BTW, ROE is indeed subject to earnigns manipulation though. |
