A Proposed New EVA Incentive

System
 What is EVA?
Economic Value Added (EVA) is a measure of
financial performance based on the concept
that all capital has a cost and that earning
more than the cost of capital creates value
for shareholders. It is after-tax net operating
profit (NOPAT) minus a capital charge. It is
true economic profit consisting of all costs
including the cost of capital. If a company’s
return on capital exceeds its cost of capital it
is creating true value for the shareholder.
 Objective of this new System
• To Align closely the interests of managers and
the share holders
• To provide a self adjusting mechanism
 Logic Behind EVA Calculation
• EVA for a particular year is the product of:
I. Average capital during the year and
II. The spread separating Cost of Capital(CoC)
and Return on capital (RoC) during the year

• By this formula management of each Unit can

separately compensated for the EVA.
 Key Drivers of EVA
• Net Operating Profit after taxes (NOPAT)
Revenue – Cost of Sales - SG&A – Cash taxes
• Average Capital
• Cost of Capital
 Mechanism of Calculating Executive
Compensation
• A target Bonus was established which was
37% of the base pay. Bonus Units like
phantom stock would be assigned to each
manager in an amount such that if the bonus
unit was valued at $1.00
• A baseline EVA was established. At the end of
each year the base line EVA would change by
one–half the difference between actual EVA
and Base line EVA for the previous year.
• A base unit value was established for each
ensuring year. If EVA hit exactly the baseline
EVA each year, and base unit value was set at
$1.00, then exactly the target bonus would be
earned each year
• A bonus sensitivity factor was established
 Advantages of EVA compensation
system
• It addressed both Long term and Short term
compensation plans
• It aligned the interest of the managers and the
shareholders
• It was self Adjusting compensation system