Chapter 5 • Practical aspects of investment appraisal
The principles of SVA
A business has a value at a particular time because of the projected cash flows from its
activities. The particular value will be based on the timings of those cash flows and the
appropriate discount rate. According to the philosophy of SVA, the value of the busi-
ness is affected by or driven by just seven factors known as value drivers. To increase
the value of the business, that is, to generate additional value, one or more of these
value drivers will need to alter in a favourable direction. These value drivers, and their
effect on shareholder value, are shown in Figure 5.3.Figure 5.3
The seven drivers
of cash flows and
shareholder value
These seven factors all impact on the business’s operating cash flows, and through them on
the value of the business and the wealth of the shareholders.We shall now look at these value drivers and relate them to individual parts of the
business.Sales revenue growth rate
If a greater level of sales revenue can be generated in the future than was expected,
then this should create more cash flows and, therefore, more value. The greater level
of sales revenue could come from a new product and, provided that this did not have
an adverse effect on one of the other value drivers, greater value would necessarily be
created. Similarly, arresting an expected decline in sales revenue levels for some exist-
ing product has the potential to generate value.Operating profit margin
The operating profit margin is the ratio of operating profit (that is, before financing
charges and tax) to sales revenue. The higher this ratio, the greater the net positive
cash flows from each sale. Thus, if costs can be controlled more effectively, more cash
will tend to flow from each sale and value will be enhanced.‘