Holooly Plus Logo
Holooly Plus Logo

Question 11.RQ.4: It has been argued that many businesses are overcapitalised....

It has been argued that many businesses are overcapitalised. If this is true, what may be the reasons for businesses having too much capital and how can EVA® help avoid this problem?

The blue check mark means that this solution has been answered and checked by an expert. This guarantees that the final answer is accurate.
Learn more on how we answer questions.

If businesses are overcapitalised it is probably because insufficient attention is given to the amount of capital that is required. Management incentive schemes that are geared towards generating a particular level of profits or achieving a particular market share without specifying the level of capital invested can help create such a problem. EVA® can help avoid the problem by focusing on the need to obtain a profitable return on capital invested.

Related Answered Questions

Question: 11.SE.4

Virgo plc is considering introducing a system of EVA^® and wants its managers to focus on the longer term rather than simply focus on the year-to-year EVA^® results. The business is seeking your advice on how a management bonus system could be arranged so as to ensure that the longer term is taken ...

Verified Answer:

Virgo plc There is no single correct answer to thi...
Question: 11.A.15

It was mentioned earlier that the EVA^® generated during a period is rarely reported to shareholders. Why might this be a drawback for implementing a EVA^®-based bonus scheme? ...

Verified Answer:

It means that shareholders will be unable to check...
Question: 11.SE.6

Pisces plc produced the following statement of financial position and income statement at the end of the third year of trading: ...

Verified Answer:

Pisces plc Adjusted NOPAT £m £m Operating...
Question: 11.SE.2

Aquarius plc has estimated the following free cash flows for its five-year planning period: ...

Verified Answer:

Aquarius plc There are a number of ways in which t...
Question: 11.A.19

Centaur plc has 5 million shares in issue with a market value of £8.40 per share. The business has £14.2 million capital invested and EVA^® for the most recent year was £1.8 million. The required return from investors is 10 per cent a year. What is the percentage contribution to the market value of ...

Verified Answer:

Assuming no growth, PV of future EVA® = \fr...
Question: 11.RQ.3

Should managers take changes in the total market value of the shares (that is, share price × number of shares issued) over time as an indicator of shareholder value created (or lost)? ...

Verified Answer:

The problem with taking changes in the market valu...
Question: 11.RQ.2

Why is MVA not really suitable as a tool for internal management purposes? ...

Verified Answer:

Two problems with the use of MVA as a tool for int...
Question: 11.RQ.1

How might the directors’ attitude towards risk be affected by the business offering them share options? ...

Verified Answer:

The directors’ attitude towards risk may be affect...
Question: 11.A.24

From the business viewpoint, is there a potential disadvantage to this feature of PSPs? ...

Verified Answer:

Directors can still be rewarded despite a fall in ...
Question: 11.A.23

Can you think of any circumstances under which re-issuing share options at a lower price to directors might be justified? ...

Verified Answer:

By ‘re-pricing’ options in this way, it may re-inc...