Introducing the 8th edition of Valuation: The fundamentals haven't changed, but how we apply them has.

Excerpt from Chapter 3, Fundamental Principles of Value Creation

Companies create value for their owners by investing cash now to generate more cash in the future. The amount of value they create is the difference between cash inflows and the cost of the investments made, adjusted to reflect the fact that tomorrow’s cash flows are worth less than today’s because of the time value of money and the riskiness of future cash flows.

The conversion of revenues into cash flows—and earnings—is a function of a company’s return on invested capital (ROIC) and its revenue growth. That means the amount of value a company creates is governed ultimately by its ROIC, revenue growth, and ability to sustain both over time. Keep in mind that a company will create value only if its ROIC is greater than its cost of capital. Moreover, only if ROIC exceeds the cost of capital will growth increase a company’s value. Growth at lower returns actually reduces a company’s value.

Understanding these principles helps managers decide which strategies and investments will create the most value for shareholders in the long term. The principles can also help investors assess the potential value of companies they might consider investing in.

One might expect universal agreement on the definition of a concept as fundamental as value, but this isn’t the case. Many executives, boards, and financial media still treat accounting earnings and value as one and the same—and focus almost obsessively on improving earnings. However, while earnings and cash flow are often correlated, earnings don’t tell the whole story of value creation. Focusing too much on earnings or earnings growth often leads companies to stray from a value-creating path.

The logic laid out in this section reflects the way companies perform in the stock market. Some companies create high shareholder returns despite shrinking revenues—others grow quickly but destroy value because their returns are too low. What matters most is the combination of growth and ROIC, and how well companies can sustain both.

About the book: Today's leaders face unprecedented complexity—but the principles of value haven’t changed. What’s changed is how we apply them.

For over 35 years, Valuation has been the world’s most trusted guide to measuring and managing value—selling more than 1 million copies and shaping decisions in boardrooms, classrooms, and investment committees around the globe.

The newly released 8th edition brings together McKinsey’s decades of practical insight with today’s most pressing challenges—from AI to ESG—to help leaders create, sustain, and communicate long-term value with confidence.

Explore the new #Valuation8thEd: https://mck.co/36NJafV