NPV vs. EPA

Submitted by jagjitdhaliwal@... on Sat, 07/31/2010 - 17:50

Hi Team,

Can anyone help me understand difference between Net Present Value and Economic Value Added(EVA) in Integration Management.

These terms are mentioned in Rita's 6th edition Page 107 and 109. As per book, NPV is the present value of the total benefits minus the costs over many time periods and EVA is amount of added value the project produces for the company's shareholder above the cost of financing the project.

Both definition looks similar to me.

Regards,

Jagjit

 

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sai_murthy

Sat, 07/31/2010 - 22:16

Hi


What I understood is : EVA is a way to determine the value created, above the required return, for the company shareholders.


NPV determines the returns.


Correct me if I am wrong.

Herman2548 (not verified)

Mon, 08/23/2010 - 19:21

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Mon, 08/23/2010 - 19:46

  Hi Jagjit,

 
Although both the EVA and NPV are profit measurement techniques, both are used in different contexts and both give different information regarding the project's behavior in terms of profits. Let me take on both of these concepts one by one:
 
EVA - Economic Value Added profit measurement technique is very simple; for any given point in time (this can be during the project or after the project is complete) the total project revenue is subtracted by the total incurred costs plus the taxes to get the net profits. 
 
NPV - Net Present Value is a complex profit measurement technique in which we first estimate the expected returns of the project on a time period basis, say years. Suppose that I invest $10,000 in a project and I expect a return of $2,000 per year. When will I achieve the break-even? In 5 years? That would be correct if I would have been using simple accounting and not considering my opportunity cost. In another words, if I ask you whether is better for us to have $10,000 in hand right now or get in in parts in the next five years? Obviously having $10,000 in hand is better than having the amount in parts in FIVE YEARS. If I can have this amount right now I can invest it somewhere and turn it into, say $7,000 in the next five years, right? In short to have cash today is better than receiving the same amount in future. NPV takes care of such situation when we want to assign time-value to money  (the early we receive the higher the value). NPV does that by reducing the revenue progressively by a factor (which is determined earlier, called discount factor) per time period. When we discount a future estimated amount by the discount factor, we say we have turned that into "today's money value". After discounting every cash inflows, you add them together to calculate the actual project revenue in "today's value". Let's get back to out example, if I discount all my cash in-flows by 10% for the first year, 20% for the second year and so on, in five years although I would have earned back $10,000 from the project, this profit in today's value will be $7,000. This means the project will not achieve a break-even in 5 years if I take the time-value of money in consideration.
 
I hope this answers the question.
 
Regards,
 
Exam Support Team