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Evaluating Strategy- Step # 4:

Evaluating Strategy- Step # 4:. “ SHOW ME THE MONEY”. Performance Assessment. Planning & Evaluating Your Strategy. Corp. & SBU Strategy : Mission & Vision Growth & Competitive Strategy. Market Research: Situation & SWOT Analysis. Performance Assessment: Success Measures

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Evaluating Strategy- Step # 4:

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  1. Evaluating Strategy- Step #4: “SHOW ME THE MONEY” Performance Assessment

  2. Planning & Evaluating Your Strategy Corp. & SBU Strategy: Mission & Vision Growth & Competitive Strategy Market Research: Situation & SWOT Analysis Performance Assessment: Success Measures & Financial Ratios Functional Planning: Marketing Production R&D, HR Finance

  3. Let’s Examine: • Ways to plan & evaluate your financial performance • Some Financial Planning guidelines

  4. Financial Proformas & Reports Cash Flow Income Statement Balance Sheet Financial Ratios

  5. Shows cash movement in & out of organization • & how much cash is available

  6. Compares revenues & expenses for the period • Indicates profitability

  7. What Co. Owes What Co. Owns Who Owns Co. http://www.fool.com/school/valuation/howtoreadabalancesheet.htm

  8. Financial Ratios Provide insights into company’s operations & strategy • Used internally to evaluate performance & set goals • Used externallyto make investment decisions ROE ROA ROS Asset T/O P:E

  9. Financial Ratios Answer 5 key Questions 1) How liquidis your firm? 2) How profitableis your Firm? 3) How effectively are you utilizing your assets? 4) How are you financing your assets? 5) Are you providing your owners an adequate return on their investment ?

  10. Your Company’s ratios as reported annually in the Capstone Courier

  11. Financial Guidelines Re: Liquidity

  12. IF • You Produce a crappy product • &/or Your Competitors produce a better product • &/or You produce too much product You’ll be left w/less revenue than anticipated PLUSproduction & inventorycarrying costs that must be paid.. Then

  13. Big Al arrives -- pays your bills, and leaves you with a loan & a stiff interest payment Then You’re left w/less revenue than anticipated and did not plan & allocate enough cash to cover yourproduction & inventorycarrying costs.... IF

  14. Maintain Adequate working capital & cash reserves In order to: Need to: • Avoid a Liquidity Crisis- & “Big AL” • Have realistic/ accurate sales forecasts

  15. Basic Steps of Sales Forecasting BEST CASE WORST CASE Your Product/Total Customer survey scores = Demand

  16. Enter WORSE case- in “your sales forecast” on marketing spreadsheet • Enter BEST case- in “production schedule” on production spreadsheet • Spread show up as inventory on proforma BALANCE SHEET

  17. $0.00 In WORSE CASE: You should observe lots of Inventory & little or no Cash.

  18. 000 Return to Marketing Spreadsheet. • Enter your best case forecast. Observe that your Balance Sheet will now reflect: • lots of Cash • and no Inventory

  19. Important Considerationsre: BEST-WORST Scenario Analyses By adjustingyour CASH POSITION according to your WORST CASE estimate– will avoid …

  20. $0.00 In WORSE CASE: You will have lots of Inventory & thus need to drive your cash position to the black…

  21. Liquidity Guidelines To adjust your cash position -- • If you are cash poor, issue Stock /Bonds ; or if necessary consider a short term loan • If you are cash rich, pay dividends and/or buy back stock.

  22. Important Considerationsre: BEST-WORST Scenario Analyses By adjusting production according to BEST CASE estimate– will minimize loss of profit due to Stock-outs • Fixed costs(marketing, R&D, interest or depreciation)already covered • Thus, any additional sales would only incur variable(production) costs

  23. For example, If your annual sales were $120M, in one month you’d sell $10M. If a months material & labor costs = $7M, you missed contributing $3M to Net Margin. This would be taxed in the simulation at 35%, so your opportunity cost is a missed $2M in profit.

  24. Financial Ratios 2nd Key Question 1) How liquid is your firm? 2) How profitable is your Firm? 3) How effectively are you utilizing your assets ? 4) How are you financing your assets? 5) Are you providing your owners an adequate return on their investment ?

  25. Profitability Ratios Show how profitable company is • ROS---Return on Sales • ROA—Return on Assets • ROE-- Return on Equity

  26. Main ratio of ProfitabilityReturn on Sales “ROS indicates the percentage of each sales dollar that results in net income.” net profit net sales Return on Sales =

  27. Financial Guidelines: Profitability

  28. 2) How Profitable is your Firm? ROS Contribution Margin

  29. If your Contribution Margin is below 30%, …..the problem = combination of Marketing (customers hate your products), Production (your labor and material costs are too high), or Pricing (you cut the price too much). • If your ROS is below 5%, but your Net Margin Percentage is above 20%,….you either experienced some extraordinary "Other" expense like a write-off on plant you sold, or you are paying too much Interest (If TQM is enabled, you may also have spent heavily on TQM initiatives). • If your Net Margin Percentage is below 20%, but Contribution Margin is above 30%,…the problem is heavy expenditures on Depreciation (perhaps you have idle plant) or on SGA (perhaps you are pushing into diminishing returns on your Promo and Sales Budgets).

  30. Financial Ratios 3rd Key Question 1) How liquid is your firm? 2) How profitable is your Firm? 3) How effectively are you utilizing your assets ? 4) How are you financing your assets? 5) Are you providing your owners an adequate return on their investment ?

  31. Drive Asset Turnover Reveals how effective assets are at generating sales revenue. The higher the better= more efficient use of assets sales assets Asset Turnover= $103,777/ $96,043 = 1.08 Firm can generate $1.08 in sales for every $1 assets

  32. Drive- Return on Assets “ROA measures company’s ability to use all its assets to generate earnings.” net profit assets Return on Assets =

  33. Financial Ratios 4th Key Question 1) How liquid is your firm? 2) How profitable is your Firm? 3) How effectively are you utilizing your assets ? 4) How are you financing your assets? 5) Are you providing your owners an adequate return on their investment ?

  34. Assets/Equity – simulation takes owner's perspective. LEVERAGE: Corp assets fin.w/ debt Optimal A Leverage of 3.0 says, "For every $3 of Assets there is $1 of Equity 1.8 to 2.8

  35. AAA/AA/A/BBB/… BB & beyond is Junk… B/CCC /CC/C/D = default Leverage from lenders’ perspective impacts bond ratings: • As your debt-to-assets ratio increases… • Your short term interest rate increases… • For each additional .5% increase in interest • You drop one category

  36. Last Key Question Are you providing your owners an adequate return on their investment

  37. Owners evaluate profits w/ two stat’s: • ROE (Return On Equity) ROE = Profits/Equity = Profits/Assets * Assets/Equity = ROA * Leverage. • EPS (Earnings Per Share) EPS = Profits/Shares Outstanding

  38. STOCK PRICE Function of: • Book Value • Equity/ # shares issued • Earnings per Share (wgtg 2-3?) • Net Profit/ Shares • Dividend Policy (wgtg 5-8?)

  39. Encompasses the 3 main levers used by mgt to generate return on investors equity ROE Profitability * Asset Mgt * Leverage

  40. net profit equity Return on Equity = net profit sales sales assets assets equity x x DuPont Formula Profitability * Asset Mgt * Leverage

  41. net profit equity Return on Equity = • Improve ROE by: • Increase sales w/out increase costs & expenses • 2) Reduce COG or operating expenses • 3) Increase sales relative to asset base- either by increasing sales or by reducing company assets • 4) Increase use of debt relative to equity-- but only to extent it does not jeopardize firm’s financial position

  42. Success Measures • Cumulative Profits • Ending Market Share • ROS • Asset Turnovers • ROA • ROE • Ending Stock Price • Market Capitalization(Ave # Shares) * (Closing Price) Performance Measures- Defined Performance Measures-Dynamics

  43. Cost Strategy = higher leverage/more investment/ more assets/more debt/ less equity Focused Strategies should operate more effectively & have overall less sales All Segments= more sales & thus enable greater Cum. profit & overall market share Differentiation Strategy =lower leverage/less investment/ less assets Diff Strategies Play into Different Success Measures

  44. TODAY’S • Determine Relative Weightings for Your Selected Success Measures • Enter weightings – in preparation for simulation: Practice Round #1

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