Collecting the tools for value creation
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Tuesday, 23 October, 2001 - 22:00
WE recently held a Business Forum during which a selection of eminent business leaders in Western Australia presented on the topic of Managing for Shareholder Value into 2002. TRUDO presented a paper entitled “The 10 Most Important Tools for Value Creation”.
Based on more than a decade of working with a large number of companies worldwide on the challenge of value creation, here is the list as we see them. Whether you are a senior executive or proprietor with a single-firm focus, an investor with a multi-firm focus or a shareholder with a portfolio focus, try to think through how your particular organisation(s) ranks in terms of these 10 capabilities.
An understan-ding of economic profit (EP). This is the excess profit earned after a return to all capital providers. The organisation should be measuring a charge for the debt and equity capital used to fund their assets, if not there will be little or no evidence of balance sheet accountability within the organisation.
An understanding of share-holder value added (SVA). This is different to EP because it calculates the level of growth in EP in future years. This is a critical tool for evaluating long-term strategic performance and links directly to market-to-book multiples.
Rigorous and fact-based strategic planning. Clear fact-based recognition of core competencies, industry segment economics, competitive position, evolving customer needs and the role of technology should be evident in the strategic thrust of the organisation.
Integrated financial fore-casting. Income statement and balance sheet integration is the key. Far too many firms simply undertake multi-period budgeting, not linking costs to capital, and don’t integrate financial forecasting with their strategic planning.
Disciplined capital budgeting. Capital should be expensive but available, not cheap but scarce. The capital budgeting process also needs to link to the strategic planning process so there are no big surprises for the board or shareholders mid-year to destabilise the economics of the firm.
Bold and informed M&A. Pre-planning is the key here. Value exemplars never overpay, and yet are prepared to be bold and opportunistic. The best firms know how the acquisition premium will be re-captured well before the final bid is made and evidence of the integration is apparent from day one of ownership.
Performance-based executive compensation. The link to performance – EP in the short term and SVA in the medium term – is critical, as is the need to evolve, rather than leap, from the current program.
Toolkit availability. Tools for value creation can be new and exciting and, most importantly, must be available to the troops. Use of the intranet and a reference manual – written in simple, pragmatic language – is critical.
Balanced investor relations. In capital markets today, CFOs need to graduate beyond statements to do with “EPS growth”, “strategic acquisitions” and “market valuation criticisms”, and be prepared to articulate robust strategies, regardless of single period earnings performance.
CEO and board leadership. Leaders need to do more than just talk the talk. Evidence of a clear value mandate throughout the organisation will reassure shareholders, clarify strategies and make competitors nervous. Good CEOs ask themselves one thing: “if I’m not creating value for shareholders, what am I doing?”
Most firms rank from strong to weak across this spectrum of 10 capabilities. The key, of course, for all companies is not simply to leverage their strengths but to develop the full toolkit. Companies that focus on their three weakest capabilities in 2002 will be on track to create additional wealth for shareholders.
We receive regular queries on a wide range of corporate advisory topics. If there is a topic of particular interest or query that you would like covered within this column, please feel free to email the writer at anthony.wooles@trudo.com.au or drop a line to the editor at Business News and we will attempt to respond at the earliest opportunity.
Based on more than a decade of working with a large number of companies worldwide on the challenge of value creation, here is the list as we see them. Whether you are a senior executive or proprietor with a single-firm focus, an investor with a multi-firm focus or a shareholder with a portfolio focus, try to think through how your particular organisation(s) ranks in terms of these 10 capabilities.
An understan-ding of economic profit (EP). This is the excess profit earned after a return to all capital providers. The organisation should be measuring a charge for the debt and equity capital used to fund their assets, if not there will be little or no evidence of balance sheet accountability within the organisation.
An understanding of share-holder value added (SVA). This is different to EP because it calculates the level of growth in EP in future years. This is a critical tool for evaluating long-term strategic performance and links directly to market-to-book multiples.
Rigorous and fact-based strategic planning. Clear fact-based recognition of core competencies, industry segment economics, competitive position, evolving customer needs and the role of technology should be evident in the strategic thrust of the organisation.
Integrated financial fore-casting. Income statement and balance sheet integration is the key. Far too many firms simply undertake multi-period budgeting, not linking costs to capital, and don’t integrate financial forecasting with their strategic planning.
Disciplined capital budgeting. Capital should be expensive but available, not cheap but scarce. The capital budgeting process also needs to link to the strategic planning process so there are no big surprises for the board or shareholders mid-year to destabilise the economics of the firm.
Bold and informed M&A. Pre-planning is the key here. Value exemplars never overpay, and yet are prepared to be bold and opportunistic. The best firms know how the acquisition premium will be re-captured well before the final bid is made and evidence of the integration is apparent from day one of ownership.
Performance-based executive compensation. The link to performance – EP in the short term and SVA in the medium term – is critical, as is the need to evolve, rather than leap, from the current program.
Toolkit availability. Tools for value creation can be new and exciting and, most importantly, must be available to the troops. Use of the intranet and a reference manual – written in simple, pragmatic language – is critical.
Balanced investor relations. In capital markets today, CFOs need to graduate beyond statements to do with “EPS growth”, “strategic acquisitions” and “market valuation criticisms”, and be prepared to articulate robust strategies, regardless of single period earnings performance.
CEO and board leadership. Leaders need to do more than just talk the talk. Evidence of a clear value mandate throughout the organisation will reassure shareholders, clarify strategies and make competitors nervous. Good CEOs ask themselves one thing: “if I’m not creating value for shareholders, what am I doing?”
Most firms rank from strong to weak across this spectrum of 10 capabilities. The key, of course, for all companies is not simply to leverage their strengths but to develop the full toolkit. Companies that focus on their three weakest capabilities in 2002 will be on track to create additional wealth for shareholders.
We receive regular queries on a wide range of corporate advisory topics. If there is a topic of particular interest or query that you would like covered within this column, please feel free to email the writer at anthony.wooles@trudo.com.au or drop a line to the editor at Business News and we will attempt to respond at the earliest opportunity.