Question

its cost of capital to be 12% for the purpose of its performance evaluations

Balance Sheet		Income Statement
	£’000	£’000
Non-current assets	1,500	Revenue 4,000
Current assets	600	Operating costs 3,600
	2,100	Operating profit 400
Divisional equity	1,000	Interest paid 70
Long-term borrowings	700	Profit before tax 330
Current liabilities	400
	2,100

For many years prior to the year ended March 2019 the annual expenditure on research and development was £200,000. Due to the launch of a new product, in the year ended March 2019 the amount was increased to £300,000. New products are expected to last four years.

For EVA calculations assume that research and development costs start to be charged in the year the investment takes place, and the EVA book value of past research and development costs was £300,000 at the beginning of 2018-19.

What is the correct Economic Value Added (EVA) for Tetra Division for the year ended 31 March 2019?

Answer 1

Statement of Economic value-added

Particulars		Amt(000)
Economic profit	(a)	500
WACC	(b)	11.18%
Economic capital employed	(c)	2,000
EVA = a-(b*c)
=500 - (11.18%*2,000)		27.64

a) Economic profit

Operating profit = 400

Add Research and development = 100

Economic profit 500

b) WACC

Equity	1,000	12%	120
Long term borrowings	700	10%	70
Total	1,700		190

WACC = 190/1700 =11.18%

c) Economic capital employed

Divisional equity	1,000
Long-term borrowings	700
Research and Development Expenditure	300
Total	2,000