Evaluating StrategyPerformance
Assessment
Planning & Evaluating
Your Strategy
Market Research:
Situation & SWOT
Analysis
Performance
Assessment:
Success Measures
& Financial Ratios
Corp. & SBU
Strategy:
Mission & Vision
Growth &
Competitive Strategy
Functional Planning:
Marketing
Production
R&D, HR
Finance
Let’s Examine:
1. Ways to plan &
evaluate your
financial
performance
2. Some Financial
Planning guidelines
Financial Proformas &
Reports
Cash
Flow
Income
Statement
Balance
Sheet
Financial
Ratios
 Shows cash movement in &
out of organization
 & how much cash is available
 Compares revenues &
expenses for the period
 Indicates profitability
What Co. Owns
What Co. Owes
Who Owns Co.
http://www.fool.com/school/valuation/howtoreadabalancesheet.htm
Financial Ratios
Provide insights into
company’s operations &
strategy


Used internally to evaluate
performance & set goals
Used externally to make
investment decisions
ROE
ROA
ROS
Asset
T/O
P:E
Financial Ratios
Answer 5 key Questions
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 ?
Your
Company’s
ratios as
reported
annually in
the
Capstone
Courier
Financial
Guidelines
Re: Liquidity
You Produce a crappy product
 &/or Your Competitors produce a
better product
 &/or You produce too much
product

IF
Then
You’ll be left w/less
revenue than anticipated
PLUS production &
inventory carrying costs
that must be paid..
IF
You’re left w/less revenue than
anticipated and did not plan &
allocate enough cash to cover your
production & inventory carrying
costs....
Then
Big Al arrives -pays your bills,
and leaves you
with a loan & a
stiff interest
payment
In order to:
• Avoid a
Liquidity
Crisis& “Big AL”
Need to:
•Maintain
Adequate
working capital
& cash reserves
•Have realistic/
accurate sales
forecasts
Basic Steps of Sales Forecasting
1
2
3
BEST CASE
WORST CASE
Your Product/Total Customer survey scores = Demand
4
•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
In WORSE
CASE: You
should observe
lots of
Inventory
& little or no
Cash.
$0.00
Return to Marketing
Spreadsheet.
 Enter your best case
forecast.
Observe that your
Balance Sheet will
now reflect:
 lots of Cash
 and no Inventory
000
Important Considerations
re: BEST-WORST Scenario Analyses
By adjusting your CASH
POSITION according to your
WORST CASE estimate– will
avoid …
In WORSE
CASE: You will
have lots of
Inventory
& thus need to
drive your cash
position to the
black…
$0.00
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
stock.
and/or
buy back
Important Considerations
re: 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
For example,
1.
2.
3.
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.
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 ?
Profitability
Ratios
Show how profitable company is
ROS---Return on Sales
 ROA—Return on Assets
 ROE-- Return on Equity

Main ratio of Profitability
Return on Sales
“ROS indicates the percentage of each
sales dollar that results in net income.”
net
profit
Return on Sales =
net sales
Financial
Guidelines:
Profitability
2) How Profitable is your Firm?
Gross Margin
Gross Profit (Sales – COS) / Total Revenue
Benchmark = 30%....
If less need to: Reduce costs
&/or raise prices
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 ?
Main Ratio-Asset Turnover
Reveals how effective assets are at
generating sales revenue.
The higher the better= more efficient use of assets
Asset Turnover =
sales
assets
$103,777/ $96,043 = 1.08
Firm can generate $1.08 in sales for every $1 assets
Return on Assets
“ROA measures company’s ability to
use all its assets to generate earnings.”
Return on Assets =
net profit
assets
Financial
Guideline:
Assets
Maintain Adequate
Assets
Quick n’ Dirty GuestimateAssets/Current Sales -- Ratio
Have $108 in assets/ & sales of $186= 58%



Thus if project sales of $300k
Will need ~$174k in assets
Thus need to add/raise an additional $66K….
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 ?
COMPANY BALANCE SHEET
ASSETS
Cash
Accts Receivable
Inventory
TOTAL CURR ASSETS
Land/Bldg.
Plant/Equip.
TOTAL FIXED ASSETS
TOTAL ASSETS
LIABILITIES
11%
16%
8%
35%
30%
35%
65%
100%
Leverage Perspectives
• Assets/Equity = owner's
• Debt/Assets = lenders
• Debt/Equity = management
Accts payable
Accrued Expenses
Short Term Debt
TOTAL CURR LIAB
20%
10%
8%
38%
Long Term Debt
13%
TOTAL LIABILITIES
51%
NET WORTH
Common Stock
Retained Earnings
NET WORTH
12%
37%
TOTAL LIABILITIES
AND NET WORTH
49%
100%
LEVERAGE:
Assets/Equity – simulation takes
owner's perspective.
Corp assets fin.w/ debt
Optimal
Leverage
A Leverage of 3.0
says, "For every
$3 of Assets there
is $1 of Equity
Assets
Debt
Equity
$1
$0
$1
$2
$1
$1
3.0
$3
$2
$1
4.0
$4
$3
$1
1.0
2.0
1.8
to
2.8
Leverage from lenders’ perspective impacts bond ratings:
AAA/AA/A/BBB/… BB & beyond is Junk…
B/CCC /CC/C/D = default
•As your debt-to-assets ratio
increases…
•Your short term interest
rate increases…
•For each additional .5%
increase in interest
•You drop one category
Last Key Question
Are you providing
your owners an
adequate return
on their
investment
Owners evaluate profits (not
the wealth) 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

STOCK PRICE
Function of:
1. Book Value

Equity/ # shares
issued
2. Earnings per
Share

Net Profit/ Shares
3. Dividend Policy
ROE
Encompasses the 3
main levers used by
mgt to generate
return on investors
equity
Profitability * Asset Mgt * Leverage
DuPont Formula
net profit
Return on Equity =
net profit
sales
x
sales
assets
equity
x
assets
equity
Profitability * Asset Mgt * Leverage
Return on Equity =
net profit
equity
Improve ROE by:
1) 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
Success Measures








Cumulative Profits
Ending Market Share
ROS
Asset Turnovers
ROA
ROE
Ending Stock Price
Market Capitalization
(Ave # Shares) * (Closing Price)
Diff Strategies Play into
Different Success Measures
Profit
BCL
X
MS
X
SP &
MC
ROE
pf/e
X
CostAll Segments= more sales & thus enable
Niche &
greater
PLC
X
X
X
AT
s/a
ROA
pf/a
X
X
Cum. profit & overall market share
B-Diff
ROS
pf/s
X
X
X
NicheDiff
X
X
X
X
PLC-Diff
X
X
X
X
• Select your Success
Measures & Determine
Relative Weightings
• Enter weightings – in
preparation for simulation:
Practice Round #1
The Balanced Scorecard
Balanced Scorecard History
Measurement
and
Reporting
Enterprise-wide
Strategic
Management
Alignment and
Communication
1992
Article in Harvard Business
Review:
Acceptance and
Acclaim:
 translated into 18
 “The Balanced
languages
Scorecard — Measures
that Drive Performance”
January - February 1992
By Robert Kaplan and David
Norton
2000
1996
 Selected as one of
1996
the “most important
management
practices of the past
75 years.“
2000
3 reasons why….
Today, about 70% of
The Fortune 1,000
companies utilize the
Balanced Scorecard to
help manage
performance
Performance Management
The Balanced Scorecard
1.
Focus on traditional financial
accounting measures (such as ROA,
ROE, EPS) can give misleading signals
to executives regarding quality &
innovation.
It is important to look at the means
used to achieve outcomes …. not just
focus on the outcomes themselves.
Reasons for the Need of a
Balanced Scorecard
2. Performance needs to be judged thru a
mix of both financial & non-financial
measures to effectively operate a
business…As some non-financial
measures are drivers of financial
outcomes
3. Management benefits from a multidimensional perspective which includes
not only financial– but customer, internal
and organizational learning/improvement
perspectives as well…
Principles of the Strategy Focused Organization:
TRANSLATE THE STRATEGY TO OPERATIONAL
TERMS
The Strategy
 Strategy can be
described as a series of
cause and effect
relationships
 Measurement is the
language that gives
clarity to vague concepts
& is used to
communicate, not to
control.
Financial Perspective
"If we succeed, how
will we look to our
shareholders?”
Customer Perspective
"To achieve my vision,
how must I look to my
customers?”
Internal Perspective
"To satisfy my customers,
at which processes must
excel?”
Organization Learning
"To achieve my vision,
how must my organization
learn and improve?”
What is measured
gets noticed
What is noticed
gets acted on
What
is acted on
gets improved
The benefit of a
Balanced Scorecard
The balanced scorecard
disciplines an executive to
focus on several important
measures that drive the
strategy.
-- Too many measures … can
confuse and distract an
executive from focusing on
important strategic priorities.
Basic Scorecard Terminology
(Southwest Airlines Example)
Strategic Theme:
Operating Efficiency
Profits and
RONA
Financial
Grow
Revenues
Customer
Fewer planes
Objectives:
What the
strategy is
trying to
achieve
Measures:
Targets:
Initiatives:
How success The level of Key action
or failure
performance programs
against
or rate of
required to
objectives is improvement
achieve
monitored
needed
targets
Attract &
Retain More
Customers
On-time
Service
Lowest
prices
Internal
Fast ground
turnaround
Learning
Ground crew
alignment
Strategy Map
Objectives
Measures
• Fast ground
• On Ground
turnaround
Time
• On-Time
Departure
Targets
Initiatives
• 30 Minutes • Cycle time
• 90%
optimizati
on
A Complete Scorecard is a
Program for Action
Strategic Theme:
Strategic
Theme:
Operations
Excellence
Operating Efficiency
Profits and
RONA
Financial
Grow
Revenues
Customer
Fewer planes
Attract &
Retain More
Customers
On-time
Service
Lowest
prices
Objectives
Fast ground
turnaround
• More Customers • # Customers
• Flight is on -time • FAA On Time
Arrival Rating
• Lowest prices
• Market Survey
turnaround
alignment
Ground crew
alignment
Initiatives
• 12% growth
• Ranked #1
• Ranked #1
•Customer
loyalty
program
• Quality
management
• On Ground Time • 30 Minutes • Cycle time
• On-Time
• 90%
optimization
Departure
• Ground crew
Learning
Targets
• 30% CAGR
• Profitability
• Grow Revenues • 20% CAGR
• Fewer planes • 5% CAGR
• Fast ground
Internal
Measures
• % Ground crew • yr. 1
trained
• % Ground crew
stockholders
70%
yr. 3 90%
yr. 5 100%
• Ground crew
training
• ESOP
Capstone Balanced Scorecard
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BA460-3 - University of Alaska system