Economic Value Added (EVA) is the incremental difference in the rate of return over a company's cost of capital. We use it to measure the value a company generates from funds invested in it.
A value driver tree is a graphical representation of the relationships between a company's financial KPI and its key value drivers. The tree helps us in identifying which items are most critical to the company's value.
The Value Driver Tree was invented by DuPont. They used a visual model to define Return on Investment (ROI) as a function of profitability, asset turnover and financial leverage — which were broken down further in a tree shape.
In the competitive business world, organizations must optimize their assets and maintain efficiency to thrive. One way to achieve this is by investing in maintenance programs. The EVA (Economic Value Added) driver tree concept can help maintenance and reliability managers create a compelling business case for their improvement initiatives by translating technical language into financial terms.
Understanding Economic Value Added (EVA)
Economic Value Added measures a company's return on invested capital above the baseline return expected by investors. A positive EVA indicates that the organization adds value for shareholders, while a negative EVA suggests that shareholders would be better off receiving the money as dividends. The EVA driver tree breaks down EVA into subcomponents to identify opportunities for maximizing it.
Maintenance, Reliability, and Economic Value Added
Maintenance and reliability improvement can focus on two areas:
- Maintenance Effectiveness
- Maintenance Effectiveness
- Predicting and preventing equipment failures
- Improving equipment reliability
- Maintenance Efficiency
- Doing things right
- Maximizing maintenance labor productivity
- Minimizing parts and materials costs
These strategies can add value for shareholders by improving Overall Equipment Effectiveness (OEE), reducing operating costs, enhancing product quality, deferring the need for additional capital expenditure, and minimizing operating, safety, and environmental risks.
Estimating the Economic Value of Improved Maintenance and Reliability
Using the Economic Value Added driver tree, we can estimate the potential impact of various improvement initiatives on EVA:
1. Increasing OEE: A slight increase in OEE can lead to a significant increase in EVA, assuming that the additional products can be sold at the same price.
2. Reducing operating costs: A small reduction in operating costs can result in a noticeable increase in EVA.
3. Improving product quality: A minor increase in sales price due to better product quality can yield a substantial increase in EVA.
4. Deferring capital expenditure: A modest reduction in the value of fixed assets can lead to a moderate increase in EVA.
5. Reducing operational, environmental, and safety risks: A slight reduction in the Beta Coefficient can result in a small increase in EVA.
6. Reducing maintenance costs: A moderate reduction in maintenance costs can lead to a modest increase in EVA.
The Dangers of Focusing Solely on Cost Reduction
It is essential to note that focusing only on cost reduction without identifying specific process improvements can lead to adverse, unintended consequences. Instead, maintenance managers should concentrate on enhancing equipment reliability and maintenance effectiveness to maximize the benefits of their investment.
The Economic Value Added driver tree concept is a valuable tool for illustrating the importance of maintenance investment by translating technical language into financial terms. By focusing on improving maintenance effectiveness and efficiency, organizations can unlock the full potential of their assets and drive significant value for shareholders.
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About the Author
Arun Panangatt, is a growth hacker and thought leader. He trys to help organizations and people find a purpose. He is father of an Autistic son and husband of a loving wife.
He talks about #innovation, #negotiations, #pricingoptimization, #realestatedevelopment, and #strategicpartnerships. He can be contacted on Linkedin, if you are excited to get in touch with him.
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