They took your money. As equity. Or as debt. But how many of them used it to create wealth for you? And which ones destroyed your wealth? The first-ever BT - Stern Stewart & Co. listing ranks companies on their ability to create wealth as indicated by two unique metrics: Economic Value Added and Market Value Added. Find out who did what with your money.

Shareholder Value is the quintessential measure of corporate performance. It is an accurate reflection of the quantum of incremental value a company generates for its shareholders, after accounting for its cost of operations, which includes the cost of capital. But it isn't easy to measure. Balance-sheet-based measures are veiled in accounting anomalies that, often, measure notional profits, not real ones. And market-driven measures, like market capitalisation, are prone to the volatility of the bourses.

The solution, thus, is a mix-and-match measure-or a family of measures-that can factor in a market's assessment of a company's value and, at the same time, use real measures of its financial performance that it extracts from its financial statements. The ideal family of measures comprises the value-added twins: Market Value Added (MVA) and Economic Value Added (EVA). The first is the perfect measure of a company's ability to create wealth. But it can be calculated only at the level of the entire company, and is as volatile as any market index.

The second is the most accurate measure of the economic performance of a company. It can be calculated at the level of divisions and product-lines, and is not a function of the market price of a company's scrip. It is also the one measure that best explains changes in the MVA of a company. Explains V. Raghunathan, 45, Professor, Indian Institute Of Management, Ahmedabad: ''EVA is one measure that can realistically assess the economic contribution of a company, shorn of accounting anomalies. It is a relevant management tool since it unifies the concepts of Net Present Value (NPV), market price, and book value.''

What exactly are these silver bullets of incremental shareholder value? The EVA of a company is the excess of its return on capital over its cost of capital. And the MVA is the difference between a company's total market value-the market capitalised value of equity, including preference shares, and debt-and its capital employed. In a mature market, the MVA of a company is equal to the NPV of all future EVAs. In the context of countries like India, though, where the markets are anything but mature, the MVA is a highly volatile figure that, often, does not have any mathematical linkage with the EVA or a logical one with the fundamentals of the company.

This will, indubitably, change, but at this point of time, EVA is a far more accurate measure of the ability of a company to add shareholder value than MVA. Thus, when BT commissioned Stern Stewart & Co.-the financial consulting hot-shop that created the concepts of EVA and MVA-to assess the value-addition capabilities of companies that constituted the BT-500 value-listing, the objective of the exercise was to look beyond the façade of traditional measures like market capitalisation, Earnings Per Share (EPS), and the Price-to-Earnings ratio (p-e) so as to investigate whether a company's management was really adding value to its shareholders.

Is yours? Is that high p-e multiple justified? Do your company's EPS come out of real earnings or notional profits? The answers to questions such as this can be found in the first-ever study of its kind: the BT - Stern Stewart EVA/MVA rankings. BT presents insights on shareholder value-addition from India's wealth club:

Towards Shareholder Wealth

If EVA is the one true measure of shareholder value, how did Indian companies perform? Not too well although that isn't evident from other numerical indicators of the 500 companies that constitute the BT-500 value listing. The total sales of the sample increased by 8.85 per cent; total market value by 28.54 per cent; average market capitalisation by 9.61 per cent; and the aggregate MVA, thanks to a bull-market, by 76.94 per cent. But the aggregate EVA decreased by 14.15 per cent, from -Rs 30,962.67 crore in 1997-98 to -Rs 35,342.82 crore in 1998-99.

Thus, a mere 71 companies in the BT 500 listing boasted a positive EVA in 1998-99. The range? Hindustan Lever Ltd's (hll) Rs 290.64 crore to Bayer Diagnostics' Rs 0.07 crore. And 52 of the 71 had EVAs less than Rs 10 crore. By themselves, these numbers are intriguing for they indicate that even after capitalising expenditure targeting future, and not current, returns, just about 1 out of every 7 Indian companies managed to generate returns in excess of their cost of capital; the other 6, in effect, eroded shareholder value. But the numbers acquire even more significance when seen from the perspective of an MVA-analysis of the same companies.

Almost 1 in 2 companies managed to generate incremental MVA between 1997-98 and 1998-99. But Rs 33,947 crore out of the aggregate of Rs 70,007 crore generated as incremental MVA by the 500 companies in the sample came from an increase in total capital employed. Take that away, and the aggregate incremental MVA created by the sample comes down to Rs 36,060 crore. Even more significantly, a substantial chunk of this incremental MVA came from the sudden boom in the scrips of infotech, pharma, and fmcg companies which, while indicative of the growth-potential of these sectors, did not-and still do not-magnify the abilities of these companies to add shareholder value.

Thus, Britannia Industries, whose average market capitalisation increased from Rs 637.97 crore in 1997-98 to Rs 1,448.86 crore in 1998-99, and whose MVA increased from Rs 697.29 crore to Rs 2,129.40 crore in the same period, actually saw its EVA worsen from -Rs 9.19 crore in 1997-98 to -Rs 11.47 crore in 1998-99. This does not imply that assessments of its ability to add value in the long term, measured by its MVA, are totally wrong. Nor does it imply that they are totally right.

The first EVA variable: ROCE

The EVA of a company is just a measure of the incremental return its investment earns over the market rate of return. Companies fund their investments from equity, debt, or retained earnings. The returns equity investors expect from a company are, at the very least, equal to what they will achieve by investing in the market-index although the actual figure depends on the risk-profile of the company. The returns institutional and private lenders expect from a company are, again, at the very least, equal to the prime lending rate. Even retained earnings, contrary to what most managers believe, are not totally free. The company can, after all, expect some returns from its retained earnings if it invests them in either the equity- or debt-markets.

This obsession for returns that is inherent in the EVA methodology makes Return On Capital Employed (ROCE) the perfect value-vane for a company's wealth-creation initiatives. Thus, the 10 companies in the BT-500 that managed to improve their ROCE the most saw their EVAs move from below zero to positive figures. Explains Sudhir Tilloo, 52, Managing Director, DGP Windsor: ''EVA will transform people from mere accountants into well-rounded managers. But the first step in the EVA process revolves around increasing the ROCE of the company.''

In keeping with this belief, DGP Windsor has targeted a ROCE of 20 per cent. That achieved, it proposes to adopt EVA. The company that managed to register the maximum increase in its ROCE, BFL Software-from -36.15 per cent in 1997-98 to 43.34 per cent in 1998-99-saw its EVA go up from -Rs 9.98 crore in 1997-98 to Rs 9.66 crore in 1998-99. Expectedly, companies whose roce dropped saw their EVAs fall too: the EVA of Onward Technologies, whose ROCE fell from 11.73 per cent in 1997-98 to -17.68 per cent in 1998-99, decreased from -Rs 3.66 crore to -Rs 8.34 crore in the same period.

High market valuations are no insurance against poor performance. Thus, a minor ROCE HICCUP-a decline from 32.48 per cent in 1997-98 to 22.30 per cent in 1998-99-for Infosys (No. 4 in the list in terms of MVA) resulted in a substantial swing in its EVA: Rs 13.39 crore in 1997-98 to -Rs 19.53 crore in 1998-99. Explains Vinayak Chatterjee, 40, Chairman, Feedback Ventures: ''EVA has to be seen in the context of Economic Value Subtraction. A small fall in a company's ROCE can result in a significant fall in its EVA. Thus, this is one measure that ensures that companies never lose their focus on shareholder returns.''

If they do, though, there's a price to be paid: for a company-even one with a high market valuation to begin with-that registers negative EVAs year after year will, eventually, become the market's pariah. In effect, the mathematical validity of the link between EVA and MVA-the MVA of a company is the NPV of all its future EVAs-will rule supreme in the long-term: consistent negative EVAs will result in a low or negative MVA.

The second EVA variable: COC

One look at the BT - Stern Stewart value listings is all it takes to show that ROCE isn't the only variable that has an impact on a company's EVA. Several companies that had high ROCEs reported negative EVAs: itc, for instance, despite posting an above-average ROCE of 19.65 per cent, had an EVA of -Rs 90.25 crore. The reason: EVA is a measure of incremental return, or the ability of a company to generate returns in excess of its Cost Of Capital (COC). Thus, if a company's cost of capital is higher than its ROCE, it is certain to have a negative EVA.

For instance, Reliance Industries Ltd (RIL), which had net operating profits of Rs 2,185.48 crore in 1998-99, reported a negative EVA of -Rs 2,200.48 crore in the same year, and a fall of Rs 3,706.23 crore in its MVA between 1997-98 and 1998-99. The cause wasn't a low ROCE-the company had a ROCE of 9.53 per cent in 1998-99-but a high cost of capital: 19.13 per cent. Put simply, for every rupee of capital it used-the total capital employed by the company rose from Rs 19,175 crore in 1997-98 to Rs 22,929.06 crore in 1998-99-RIL generated 9.50 paise of operating profits.

Only, it cost the company 19.13 paisa to access and use the 1 rupee. Bottomline: for every rupee of capital used, RIL managed to destroy shareholder value to the extent of 9.60 paise. One reason for this could be capital expenditure that is yet to start producing returns. And the market's expectation that such investments will, eventually, generate returns explains RIL's MVA of Rs 2,138.39. Caveat: the market is quick to penalise capital investments it thinks wasteful.

A case in point is Tata Steel. The company's MVA fell from Rs 595.65 crore in 1997-98 to -Rs 890.77 crore in 1998-99. What went wrong? Its Net Operating Profits declined from Rs 495.82 crore in 1997-98 to Rs 433.43 crore in 1998-99; and its ROCE from 5.01 per cent to 4.12 per cent in the same period. However, these were marginal changes. What really hurt the company was its high cost of capital: 18.86 per cent in 1998-99 and 18.75 per cent the previous year. Magnified by a 6 per cent growth in capital-from Rs 9,895.69 crore to Rs 10,508.21 crore in the same period-this proved to be the main factor behind the value-erosion the company experienced.

Explains Ridham Desai, 31, Vice-President and India Strategist, JP Morgan Stanley: ''Long business cycles and massive capital investment mean that companies cannot continually invest money in commodity businesses. So, a downcycle can prevent them from adding economic value.'' The conclusion: sales revenue which cascades down as the Net Operating Profit and ROCE, and the cost of capital are the 2 variables on which an EVA-conscious company needs to focus.

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