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S I M U L A T I O N M A N A G E M E N T Performance Assessment

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Performance Assessment. Situation/SWOT Analysis. Strategic Planning. Functional Integration. Performance Assessment. The Big Picture. C ompany C onsumers C ompetitors C onditions PEST. Functional Integration. Growth & Competitive Strategies. Profits Mrkt Share ROA ROS ROE - PowerPoint PPT Presentation

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Page 2: Performance Assessment

S I M U L A T I O N

M A N A G E M E N T The Big Picture

•CCompanyompany

•CConsumersonsumers

•CCompetitorsompetitors

•CConditionsonditions• PESTPEST

GrowthGrowth &&

Competitive Competitive StrategiesStrategies

FinanceHRProduction

R&DMarketing

Functional Functional IntegrationIntegration

Profits Mrkt Share ROA ROS ROE Asset T/O Stock Mrkt Cap

Situation/SWOT Situation/SWOT AnalysisAnalysis

Strategic Strategic PlanningPlanning

Functional Functional IntegrationIntegration

Performance Performance AssessmentAssessment

Page 5: Performance Assessment

PROFITS

Profitability Ratios: ROS---Return on Sales ROA—Return on Assets ROE-- Return on Equity

Net ProfitsCum Profits

Page 6: Performance Assessment

NET PROFITS $$NET PROFITS $$•Year 1 $6 million•Year 2 $8 million•Year 3 $10 million•Year 4 $12 million•Year 5 $16 million•Year 6 $21 million•Year 7 $27 million•Year 8 $35 million

CUM PROFITCUM PROFIT Typical Range: $20

to $100 M

Page 7: Performance Assessment

““ROS indicates percentage of each ROS indicates percentage of each sales dollar that results in net income.”sales dollar that results in net income.”

Main ratio of ProfitabilityReturn on Sales

Return on Sales =Return on Sales = net profitnet profit

net salesnet sales

Page 8: Performance Assessment

Financial Guidelines: Profitability-ROS & Margins

Page 9: Performance Assessment

How Profitable is your Firm?

ROS

Contribution Margin

Page 10: Performance Assessment

Contribution Margin below 30%,Contribution Margin below 30%, Problem = Marketing (customers hate your products), Production (your labor & material costs too high), or Pricing (you cut price too much).

Contribution Margin is above 30%…Contribution Margin is above 30%… but but Net Margin Percentage is below 20% … Net Margin Percentage is below 20% …

Problem= heavy expenditures on Depreciation (perhaps you have idle plant) or

on SGA (perhaps you’re pushing into diminishing returns on Promo & Sales Budgets).

Net Margin above 20%,Net Margin above 20%, but ROS below 5%.. ROS below 5%.. ----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:

Page 11: Performance Assessment

“Generically, profits are driven by the company’s

asset base and by its efficiency

working those assets”

Page 12: Performance Assessment

How effective/aggressive are you in building your Co’s asset base?

Use leverage: 1.8 -2.8 optimal / <1.5 >3=poor Fully fund plant purchase thru depreciation +

stock + long term debt At outset should be spending ~$10-25M / round

on plant improvement By end should expand asset base to min $140M

to $160M+

Page 13: Performance Assessment

Assets/Equity – simulation takes owner's perspective.

A Leverage of 3.0 says, "For every $3 of Assets there is $1 of Equity

Leverage     Assets     Debt     Equity

1.0   $1   $0   $1

2.0   $2   $1   $1

3.0   $3   $2   $1

4.0   $4   $3   $1

LEVERAGE:

1.8 to 2.8

OptimalOptimalCorp assets fin.w/ debt

Page 14: Performance Assessment

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

Leverage from lenders’ perspective impacts bond ratings:

Page 15: Performance Assessment

“Generically, profits are driven by the company’s

asset base and by its efficiency

working those assets”

Page 16: Performance Assessment

Return on Assets

Return on Assets = = net profit

assets

““ROA measures company’s ability to use all its assets to generate earnings.”

ROA 100%+ 50%+ ~10% <10%

Ratio World     Class  

Top            10 cut Mean Poor 

Page 17: Performance Assessment

Asset TurnoverReveals how effective assets are at generating sales revenue.

The higher the better = more efficient use of assets

Asset Turnover =sales

assets

You are generating $1.05 in sales for every $1 assets

Page 18: Performance Assessment

ERGO:

…if you effectively build your asset base & efficiency work those

assets

Stocks

Market Share

Profit$

Page 19: Performance Assessment

Return on EquityReturn on Equity = =net profitnet profit

equityequity

Profitability * Asset Mgt * Leverage

As measured by ROE

Encompasses the 3 main levers used by mgt to generate return on investors equity

Page 20: Performance Assessment

net profitnet profit

salessales

salessales

assetsassets

assetsassets

equityequityxx xx

Value Chain

Profitability * Asset Mgt * Leverage

Return on EquityReturn on Equity = =net profitnet profit

equityequity

Page 21: Performance Assessment

Du Pont Formula

Return on Equity =Return on Equity =net profitnet profit

equityequity

net profitnet profit

salessales

salessales

assetsassets

assetsassets

equityequityxx xx

Value Chain

Page 22: Performance Assessment

Du Pont Formula

Return on Equity =Return on Equity =net profitnet profit

equityequity

net profitnet profit

salessales

salessales

assetsassets

assetsassets

equityequityxx xx

Value Chain

Page 23: Performance Assessment

Ratio World Class

Top 10 cut Mean Poor

ROE* 600%+ 100%+ ~20% <15%

Page 24: Performance Assessment

net profitnet profit

salessales

salessales

assetsassets

assetsassets

equityequityxx xx

Value Chain

Profitability * Asset Mgt * Leverage

Improve ROE by:Improve ROE by:

Increase sales &/or reduce &/or eff. work assets

Improving Margins

Increasing Leverage

Page 25: Performance Assessment

ERGO:

…if you effectively build your asset base & efficiency work those

assets

Stocks

Market Share

Profit$

Page 26: Performance Assessment

STOCK PRICE Function of:

1. Earnings per Share

Net Profit / # Shares

2. Book Value Equity / # Shares

3. Dividend Policy Good Dividend Policy

Page 27: Performance Assessment
Page 28: Performance Assessment

Let’s Examine:

1.Ways to plan & evaluate your financial performance

2.Some Financial Planning guidelines

Page 29: Performance Assessment

Financial Proformas & Reports

BalanceBalanceSheetSheet

Financial Financial RatiosRatios

CashCashFlowFlow IncomeIncome

StatementStatement

Page 30: Performance Assessment

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

Page 31: Performance Assessment

Shows revenues & expenses for the period

Indicates profitability

Page 32: Performance Assessment

http://www.fool.com/school/valuation/howtoreadabalancesheet.htm

What Co. Owns

What Co. Owes

Who Owns Co.

Page 33: Performance Assessment

Financial Guidelines Re: Liquidity

Page 34: Performance Assessment

You’ll be left w/less revenue than

anticipated PLUS production &

inventory carrying costs that must be

paid..

IF You Produce a crappy product &/or Your Competitors produce a

better product &/or You produce too much product

Then

Page 35: Performance Assessment

You’re left w/less revenue than anticipated and did not plan & allocate enough cash to cover your production & inventory carrying costs....

IF

ThenBig Al arrives -- pays your bills, and leaves you with a loan & a stiff interest payment

Page 36: Performance Assessment

•Maintain Adequate working

capital & cash reserves

In order to:

•Have realistic/ accurate

sales forecasts

•Avoid “Big AL” & a Liquidity Crisis-

Need to:

Page 37: Performance Assessment

Sales Forecasting1. Quick N’ Dirty2. Consumer Pref’s

3. Best / Worst Case

Page 38: Performance Assessment

Estimate Your FAIR SHAREAnswer 2 Q’s:1.What will average

product sell in this segment next round?

2.To what degree is your product above or below average- on consumers'’ buying criteria?

Page 39: Performance Assessment

12

34

Fair Share - Sales Forecast Fair Share - Sales Forecast Determine industry demand next round. Take last year’s total demand -- multiply by (1 + Growth

Rate).

Estimate # products that will be in segment. Divide total industry demand by the number of products. Your product’s demand will typically be between one half and twice the average product’s demand.

Compare your product with competing products.

Factors include design, awareness, accessibility, and planned mid-year revisions.Examine industry capacities, and the capacities of the “best” products.Can products meet the demand they generate?

Page 40: Performance Assessment

#2 Forecast by Consumer Pref’s

Page 41: Performance Assessment

Forecast off Customer Survey Scores

Page 42: Performance Assessment

For Example-in Traditional segment everyone begins w/ 13% market share

Opening rounds crucial- can establish competitive advantage (that can be sustained for many years- even thru-out entire sim.)

Initial round demand can vary +/- 25%

Later rounds best case/worst case vary ~~~~ 10-15%

Page 43: Performance Assessment

After 1st Year/Round-Can see demand spread

Page 44: Performance Assessment

Total=223

R#1 Dec Survey score

% of 223 Predicted sales R#2

Actual Sales R#2

Baker 43 19% 1827 units 1758 units

Able 40 18% 1731 1598

Fast 36 16% 1339 1560

Eat 36 16% 1539 1492

Cake 42 19% 1827 1339

Daze 26 12% 1154 1045

Page 45: Performance Assessment

R#1 Survey score

43

40

36

36

42

26

R#2

12

Page 46: Performance Assessment

CASE

CASE

Page 47: Performance Assessment

Worst Case:BIG INVENTORY/

little cash Best case:

Lots of CASH / little Inventory

Page 48: Performance Assessment

•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

Page 49: Performance Assessment

$0.00

In WORSE CASE: You have lots of Inventory & little or no Cash.

Page 50: Performance Assessment

$0.00

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

Page 51: Performance Assessment

If you are cash poor, issue Stock /Bonds - or consider a short term loan

If you are cash rich, pay dividends and/or buy back stock.

To adjust your cash position --

Page 52: Performance Assessment

Important Considerations re: BEST-WORST Scenario

Analyses

By adjusting your CASH POSITION according to your WORST CASE estimate– will avoid … BiG AL

Page 53: Performance Assessment

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

Page 54: Performance Assessment

For example, 1. If your annual sales

were $120M, in one month you’d sell $10M.

2. If a months material & labor costs = $7M, you missed contributing $3M to Net Margin.

3. This would be taxed in the simulation at 35%, so your opportunity cost is a missed $2M in profit.

Page 55: Performance Assessment

Worst Case:BIG INVENTORY/ no

cash– risk seeing Big Al Best case:

Lots of CASH / no Inventory -you risk stockout

How Big is your Slinky?

Page 56: Performance Assessment

Determining A Reasonable Spread

Want to avoid generating an ultra Conservative Worst case scenario …matched w/ an ultra Optimistic Best case scenario

Should be able to sell excess inventory in ~betw. 6 & 16 weeks Any less or less: risk a visit from Big Al would require major screw-up from competition

Page 57: Performance Assessment

Take your total inventory costs

$23,900M

How to measure your slinky slack--

Page 58: Performance Assessment

& Divide by total variable costs of inventory sold:$23,900M/$131,119M

=.18

52weeks *.18 = 9Risk ~9weeks of Inventory to avoid

stockout

Page 59: Performance Assessment

1. The Relationship between Your

Strategy & Success Measures

Two more things to think about:

2. Other measures

of success-

besides $$

$$

Page 60: Performance Assessment

Diff Strategies Play into Different Success Measures

Profit MS SP & MC ROEpf/e

ROSpf/s

ATs/a

ROApf/a

BCLL=2-3

X X X X

Cost- Niche & PLC X X X

B-Diff L=1.5-2 X X X XNiche-PLCDiff X X X X

Cost Strategy = higher leverage/more

investment/ more assets/more debt/ less

equity

Differentiation Strategy =lower

leverage/less investment/ less assets All Segments= more sales & thus enable greater Cum. profit & overall market share

Focused

Strategies should

operate more

effectively &

have overall less

sales

Page 61: Performance Assessment

It is important to look at the means used to achieve outcomes …. not just focus on the outcomes themselves

To only focus on traditional financial accounting measures (such as ROI, ROE, EPS) …..does not give mgt the whole picture….

Page 62: Performance Assessment

M A R K E T I N G

M A N A G E M E N T

Performance needs to be judged thru mix of both financial & non-financial measures….

As - nonnon--financialfinancial measures are driversdrivers of financial outcomes

Will Make $$$ - if sell product

Will sell product if consumer wants, knows about , can get, &

LIKES product

To achieve “above’ everyone must effectively do their job

To effectively do job must know what to do

Page 63: Performance Assessment

M A R K E T I N G

M A N A G E M E N T

Balanced ScorecardPuts Strategy At Top

Of Measurement Systems

• Management benefits from a multi-dimensional perspective Includes not only financial but customer, internal & organizational learning/improvement perspectives as well…

Page 64: Performance Assessment

M A R K E T I N G

M A N A G E M E N T

The Logic

"If we succeed, how will we look to our

shareholders?”

Financial Perspective

"To achieve my vision, how must I look to my

customers?”

Customer Perspective

"To satisfy my customers, at which processes must excel?”

Internal Perspective

"To achieve my vision, how must my organization learn

and improve?”

Organization Learning

STRATEGY

Page 65: Performance Assessment

M A R K E T I N G

M A N A G E M E N T

For Each Perspective:

FinancialObjectives Measures Targets Initiatives Responsibility Budget1.2.3.

Customer… Business processes… LearningObjectives Measures Targets Initiatives Responsibility Budget1.2.3.

Page 67: Performance Assessment

M A R K E T I N G

M A N A G E M E N T

What is measured gets noticed

What is noticed gets acted on

What is acted on

gets improved

Today …

~ 70% of Fortune 1,000 companies utilize a Balanced Balanced ScorecardScorecard to help manage performance—

because…..

Page 68: Performance Assessment

M A R K E T I N G

M A N A G E M E N T

Basic Scorecard Terminology(Southwest Airlines Example)

Objectives

• Fast ground turnaround

Objectives:What the

strategy is trying to achieve

Targets• 30 Minutes• 90%

TargetsThe level of performance

or rate of improvemen

t needed

• Cycle time optimization

InitiativesKey action programs

required to achieve targets

InitiativesMeasures• On Ground

Time• On-Time

Departure

MeasuresHow

performance is measured

against objectives

Strategic Theme: Operating Efficiency

Profits and RONAFinancial

Learning

Ground crew alignment

Lowest prices

Fewer planes

Customer

Internal

Fast ground turnaround

Strategy Map

On-time Service

Attract & Retain More Customers

Grow Revenues

Page 69: Performance Assessment

M A R K E T I N G

M A N A G E M E N T

• % Ground crew trained

• % Ground crew stockholders

A Complete Scorecard is a Program for Action

Objectives Measures

• # Customers• FAA On Time

Arrival Rating• Market Survey

• On Ground Time

• On-Time Departure

Strategic Theme:Operating Efficiency

Initiatives

• Cycle time optimization

• Ground crew training

• ESOP

•Customer loyalty program• Quality management

Targets

•30% +/yr

•20% •5% • 12% growth

• Ranked #1• Ranked #1

• 30 Minutes• 90%

• yr. 1 70%yr. 3 90%yr. 5 100%

• Profitability

• Grow Revenues

• Fewer planes• More

Customers • Flight is on -

time• Lowest prices• Fast ground

turnaround

• Ground crew alignment

Strategic Theme: Operations Excellence

Profits and RONAFinancial

Learning

Ground crew alignment

Fewer planes

Customer

Internal

Fast ground turnaround

Attract & Retain More Customers

Grow Revenues

Lowest prices

On-time Service