Equity Value Created

“My Most Important Innovation,” Dan Caruso

Management’s primary responsibility is to create Equity Value at a pace that exceeds their investor’s return threshold for an investment of a similar risk characteristic. Despite universal agreement, private companies have no method of measuring performance relative to the company’s Equity Value creation responsibility. And public companies use the stock price as this barometer, which clouds performance as stock prices are heavily influenced by factors outside the management’s control.

This bothered me — a lot. For many years. If you don’t keep score, how do you know whether you are exceeding value creation expectations? If creating Equity Value is the goal, the ability to measure Equity Value creation is paramount.

I was deeply unsatisfied with the norms to get around this. Enormous efforts would be put into establishing a budget, often involving negotiations to allow management to lower, and then beat, expectations. This struck me as an enormous waste of time, as the outcomes were focused on actuals versus budget instead of how much value was created or destroyed.

My solution flowed naturally from how the Private Equity industry values its portfolio companies. I adapted this approach to how management, as responsible stewards of its investors’ capital, track and report its value creation performance.

My Private Equity sponsors loved it. They saw the calculation of value creation each quarter, which aligned with how they measured the performance of their investment. The discussions validated that management was focused on the right levers of value creation.

The methodology proved to be versatile. It applied to periods that included acquisitions, new equity investments and distributions, increases or decreases in debt, and major capital outlays.

I view Equity Value Creation methodology as my greatest accomplishment. It might die as a result of me hanging up my CEO spikes. I hope someone who reads this book takes an interest.