Business Strategy Essentials: Creating Shareholder Value

1. Basic Questions

2. Answers to Basic Questions Will Provide Foundation for Remainder of Course • How Do Companies Create Shareholder Value? • How Do Companies Make Money (Profits)? • What Are the Components of a Strategy? • How Do We Craft a Strategy?

3. Returns Competitive Forces Drive Returns Down to the Cost of Capital Shareholder Value WACC Time CAP Shareholder Value is Created by Earning Returns in Excess of Your Cost of Capital

4. 40 30 ROI (%) 20 10 0 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 Competitive Forces Drive Down Returns Average Rate of Return for Top and Bottom 50% of Companies in PIMS Database Source: “Commitment: The Dynamic of Strategy” by Pankaj Ghemawat

5. Returns Incremental Value Incremental Value WACC Time CAP Higher Returns and an Extended CAP Add Value Shareholder Value

6. Returns Source: MarketGuide, 12Feb00 31x Revenue; ½Value Shareholder Value WACC CAP Current Valuations Imply Long Period of High Returns

7. Single-Period Measure (Historical) Economic Profit = Operating Profit - Capital Charge = NOPLAT - (Capital Invested x WACC) Economic Value is Strongly Correlated to Shareholder Value Five Ways to Increase Economic Profit (Value Drivers) • Increase Returns on Existing Capital • Increase Revenues • Reduce Operating Costs • Increase Returns on New Capital • Reduce Existing Capital • Reduce Cost of Capital

8. Dell’s Business Model Leverages Each Value Driver • Increase Revenues • Built-to-Order Equipment Increases Demand • Reduce Operating Costs • Mail Order and Web-Based Channels Reduce Costs • Increase Returns on New Capital • Economies of Scale in Production Reduce Unit Costs • Reduce Existing Capital • Financing Model Reduces Working Capital • Reduce Cost of Capital • Timing of Cash Flows Reduce Default Risk

9. Source: Marketguide.com, 16Feb00 The Strength of Dell’s Business Model is Evident Half the Revenue Twice the Value

10. High-Value Companies Design Their Businesses to Focus on Profit The Four Dimensions of Business Design • Customer Selection • Which customers derive real value from our product & service offerings? • Which customers will allow us to make a profit? • Which customers do we not want to serve? • Value Capture • How do we capture, as profit, a portion of the value we create for customers? • What is our profit model (direct & indirect)? • Strategic Control • How do we protect our profit stream? Strength of Strategic Control is a Critical Design Element • Scope • What products and services do we sell? • Which business activities do we perform? Adapted from The Profit Zone, by Adrian Slywotzky

11. Installed Base Switchboard New Product Profit Margin Profit Margin Business Sellers Buyers Time Complementary Product Base Product Customer-Focused Solutions Transaction Scale Profit Profit/Transaction Time Transaction Size de Facto Standard Market Leverage Operating Profit Base Business Absolute Market Share Other Components There are Many Sources of Profit... Return: High CAP: Short Just as product designs become technologically obsolete, business designs become economically obsolete. To maintain its profitability, a company must continually change its business design. Return: High CAP: High …But Each Has a Different Return/CAP Characteristic Adapted from The Profit Zone, by Adrian Slywotzky

12. Traditional Definition of Strategy is Too Limited • Five Ps of Strategy • Strategy is a Plan (Intended) • A Course of Action to Achieve a Desired Outcome • Strategy is a Pattern (Realized) • Consistency in Behavior Over Time Perfect realization implies brilliant foresight, not to mention an unwillingness to adapt to unexpected events. No realization suggests a certain mindlessness. Real world strategies inevitably involve some thinking ahead and some adaptation en route. Traditional Definition of Strategy Top Management’s Plans to Attain Outcomes Consistent with the Organization’s Mission and Goals. • Strategy is a Position (Market Focus) • Conscious Selection of Markets and Activities • Strategy is a Perspective (Internal Focus) • Organization’s Fundamental Way of Doing Things As position, strategy looks down, to the X that marks the spot where the product meets the customer. It also looks out, to the marketplace. As perspective, strategy looks in, inside the organization, but it also looks up—to the grand vision of the enterprise. • Strategy is a Ploy (Competitive Focus) • Specific Maneuver Intended to Outwit a Competitor Adapted from Strategy Safari, by Henry Mintzberg

13. Generic Strategy Matrix Strategic Intent Five Forces Value Disciplines Value Migration Core Competence Existing Strategic Frameworks Are Not Appropriate for High-Tech Markets

14. The Business of John Rockefeller... Early 20th Century Industry: Raw Materials-Based • Scarce Resources • Destructive Consumption • Decreasing Returns • Routine Work Management Focus: Prediction & Control Management Goal: Optimization & Scale

15. Unlimited Resources Constructive Consumption Increasing Returns Non-Routine Work ...is Not the Business of Bill Gates. Late 20th Century Industry: Knowledge-Based Management Focus: Uncertainty Management Goal: Adaptation & Domination

16. New Science Provides the Raw Material for Our New Lenses • Lenses for Examining Complex Systems Must Have Three Characteristics • Must Examine the Whole System • Must Be Dynamic • Must Account for Non-Linearity • Course Will Present & Apply New Frameworks that are Especially Useful for Crafting Strategies for High-Tech Markets