The Math of Value
For the mathematically inclined, this appendix shows the core-of-value cornerstone as a simple formula along with its derivation. We call this the key value driver formula as it relates the value of a company to growth and ROIC:
Net operating profit less adjusted taxes (NOPLAT) represents the profits generated from the company's core operations after subtracting corresponding income taxes.
Return on invested capital (ROIC) is the return the company earns on each dollar invested in the business:
Invested capital represents the cumulative amount the business has invested in its core operations—primarily property, plant and equipment, and working capital.
Weighted average cost of capital (WACC) is the rate of return that investors expect to earn from investing in the company and, therefore, the appropriate discount rate for the free cash flow.
Growth ( g) is the rate at which the company's NOPLAT and cash flow grow each year.
To derive the core value driver formula, we also need to define the following variables:
Net investment is the increase in invested capital from one year to the next:
Free cash flow (FCF) is the cash flow generated by the core ...