Page 23 - Banking Finance February 2025

ARTICLE

practices by encouraging transparency and accuracy in discrepancies in asset valuation and accounting
the presentation of financial information. Companies practices.
are required to disclose key components of Market Value Approach: The market value approach
shareholders' equity and provide meaningful
derives EVE from the current market price of the
explanations of factors influencing EVE. company's shares. By multiplying the market price per
This enhances the quality and reliability of financial share by the total number of shares outstanding, one
statements, enabling investors to make informed can estimate the market value of equity.
decisions and assess the company's financial health and Discounted Cash Flow (DCF) Analysis: DCF analysis
performance accurately. Moreover, EVE serves as a
involves estimating the future cash flows generated by
basis for regulatory oversight and enforcement, the company and discounting them back to present
ensuring compliance with accounting standards and
value using an appropriate discount rate. The residual
disclosure requirements. value at the end of the forecast period represents the
economic value of equity.
Economic Value of Equity (EVE) has far-reaching implications
for capital allocation, risk management, corporate Comparable Companies Analysis: In this method, EVE
is derived by comparing the company's financial metrics
governance, market efficiency, and financial reporting. By
providing a measure of the intrinsic worth of a company's with those of similar publicly traded companies. By
analyzing multiples such as price-to-earnings (P/E) ratio
equity, EVE guides investment decisions, influences
corporate strategies, fosters market transparency, and or price-to-book (P/B) ratio, EVE can be inferred.
promotes financial stability.
As a mathematical formula it can be calculated as under
As such, understanding and leveraging EVE is essential for
navigating the complexities of the financial landscape and Calculation:
fostering sustainable value creation in the global economy. EVE = Present Value (Asset Cash Flows) - Present Value
(Liability Cash Flows)
_
Economic Value of Equity (EVE) - Change in equity value of the bank = (Modified
_
duration of assets x Value of assets Modified duration
Calculation
of liabilities x Value of liabilities) x Increase in average
There are several methods for calculating EVE, each with
yield
its nuances and suitability depending on the context:
E = - [(MDa x Va ) - (MDl x Vl )] x r
Book Value Approach: This method calculates EVE by
subtracting total liabilities from total assets as reported Where:
on the company's balance sheet. While straightforward, E = Change in equity value of the bank
it may not capture the true economic value due to
MDa = Modified duration of assets
MDl = Modified duration of liabilities

Va = Value of assets
Vl = Value of liabilities
r = Change in average yield
EVE calculations consist of assets like loans, investments,
and income-generating assets. Their present value
mirrors expected future cash flows discounted
appropriately.

Liabilities, including deposits and borrowings, are
similarly discounted to their present value, reflecting

BANKING FINANCE | FEBRUARY | 2025 | 21