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1、Author:Patrick Cote,Contributors:Kate McGreevy Julian Critchlow,bc,Corporate Performance Measurement,April 1999,Copyright 1999 Bain&Company,Inc.,2,CorporatePerformanceMeasurement,Executive SummaryObjectivesBackgroundPerformance Measurement FrameworkMarket Value Added(MVA)Economic Profit(EP)Cash Flow
2、 Return on Investment(CFROI)Exercises MVAEconomic ProfitCase Study-Diageo,Agenda,3,CorporatePerformanceMeasurement,Corporate performance evaluation has evolved from the 1960s focus on ROE to the current variations of economic profit that measure impact on shareholder valuemany firms have devised the
3、ir own variations of economic profitStern Stewarts Economic Value Added(EVA)TM is best known of these measures Holt/BCGs Cash Flow Return on Investment(CFROI)is a similar concept presented in%return formatBoth ROE and EP are business metrics,tools used to measure the performance of the businesssepar
4、ate from fundamental business drivers,the actual factors that influence shareholder value,and output measures the backward-looking records of overall company performanceFocusing on EP instead of ROE decreases the likelihood of destructive behavior by managersBy evaluating managers based on EP,manage
5、r behavior can be altered such that only projects that add value(with NPV0)are undertaken,which does not always occur with ROE,Executive Summary(1 of 2),4,CorporatePerformanceMeasurement,Executive Summary(2 of 2),End goal of EP exercises is consistent with traditional Bain focus of maximising shareh
6、older valueBain has measured historical performance with Total Shareholder ReturnStern Stewart devised Market Value Added(MVA)TM as means of measuring market expectations of EP that managers will add in the futuremanagers objective should be to maximise MVAAll economic profit measures deduct charge
7、for use of equity capital from accountings typical net income or profit after tax to reflect the opportunity cost associated with equity investmentsStern Stewart has trademarked EVATM by specifying adjustments to make to EP,5,CorporatePerformanceMeasurement,Agenda,Executive SummaryObjectivesBackgrou
8、ndPerformance Measurement FrameworkMarket Value Added(MVA)Economic Profit(EP)Cash Flow Return on Investment(CFROI)Exercises MVAEconomic ProfitCase Study-Diageo,6,CorporatePerformanceMeasurement,Objectives,There are three objectives of the Corporate Performance Measures Module:,To define the most pop
9、ular measures of corporate performanceTo explain the significance of these measures in the corporate environment and potential applications in Bains strategy workTo outline calculations of each performance measure,7,CorporatePerformanceMeasurement,Agenda,Executive SummaryObjectivesBackgroundPerforma
10、nce Measurement FrameworkMarket Value Added(MVA)Economic Profit(EP)Cash Flow Return on Investment(CFROI)Exercises MVAEconomic ProfitCase Study-Diageo,8,CorporatePerformanceMeasurement,With the rise of conglomerates,most companies focused on Return on Equity,or ROE,as their primary measure of perform
11、ance led most managers to undertake acquisitions solely to manipulate accounting figures,1960s/70s,1980s/90s,With the increased focus on delivering shareholder value,managers have accepted systems that measure the change in value managers realised equity is not freeeconomic profit(EP)meets these nee
12、ds by telling managers where value has been created and where it has been destroyedAs aligning interests between owners and managers has become more important,tying management compensation to EP provided a popular solution,Corporate performance evaluation has evolved from the 1960s focus on ROE to t
13、he current variations of economic profit(EP)that measure impact on shareholder value,Background,Corporate Performance Evaluation,9,CorporatePerformanceMeasurement,Bain was the first of major consulting firms to focus on creating shareholder valueTo achieve this,Bain has used the output measure of To
14、tal Shareholder Return and the accounting measures of ROE and ROIModified accounting measures,such as EP,provide an alternative means of measuring the creation of shareholder value,Background,Relevance to Bain,10,CorporatePerformanceMeasurement,To illustrate the role of corporate performance measure
15、s and resource allocation to strategy work,an examination of Marakons“program”is usefulMarakon applies the following program,which can take several years to complete,to all of its clients:assess the economic profit of all customer segments and product linescompare company performance to industry per
16、formanceinvestigate three or more strategies for each business every planning cycleshift resource allocation from economically unprofitable products/customers to economically profitableleads to yield loss for Marakon and clients since additional scenarios frequently evaluated,Marakon has made econom
17、ic profit(EP)the central focus of the program they apply to every case,Background,Link to Strategy,11,CorporatePerformanceMeasurement,EVA is a registered trademark of Stern Stewart,A century ago,Alfred Marshall explained that for a company to have genuine profits,the profits must be sufficient to co
18、ver the cost of capital as well as the firms operating costsStern Stewart has re-packaged the concept into EVA,which is essentially a more palatable form of the same ideaMcKinsey has been using economic profit for many yearsBCG uses Cash Flow Return on Investment(CFROI)for a similar analysisTo avoid
19、 infringing upon Stern Stewarts trademark,many consulting firms have developed their own terms for the same concept,How new is Economic Value Added(EVA)?,EVATM is one variation of EP,Background,Economic Value Added,12,CorporatePerformanceMeasurement,Agenda,Executive SummaryObjectivesBackgroundPerfor
20、mance Measurement FrameworkMarket Value Added(MVA)Economic Profit(EP)Cash Flow Return on Investment(CFROI)Exercises MVAEconomic ProfitCase Study-Diageo,13,CorporatePerformanceMeasurement,Measures,*For a discussion of WACC and discount rates,please see the Investment Appraisal Module in the BVU,Descr
21、iption:,EVA/MVA,EP,and CFROI are modified accounting measures used to measure the performance of the business,Inputs/Measures:,Fundamental Business Drivers,Business Metrics,Output Measures,Primary business-specific factors influencing shareholder value,Tools used to measure performance of business,B
22、ackward-looking measures of overall company performance as viewed by market,Operating profitsvolumepricecostsFinancial Cost of Capital Employedfixed assetsworking capitalWACC*,Accounting ROEROAModified accountingEVA/MVAEPCFROICVA,Total Shareholder Return(TSR)Total Business Return(TBR),Framework,14,C
23、orporatePerformanceMeasurement,The fundamental business drivers provide a framework for identifying the sources of shareholder value creation or destruction,Shareholder Value Creation/Destruction,Operating Profit,Cost of Capital,Volume,Price,Costs,Working Capital,WACC,Fixed Assets,X,+,X,Direct costs
24、materiallabourIndirect costsSG&ADepreciation,Average selling price,#of units sold,Weighted average cost of capital based on market values of debt and equityUse after-tax cost of debt,Current assets less current liabilities,Property,plant&equipmentIntangibles,LIFO vs FIFODepreciation estimates,Cost o
25、f equity for private firms,Intangible measurement,Components:,Issues:,Framework,Fundamental Business Drivers,15,CorporatePerformanceMeasurement,*Sometimes referred to as Return on Investment(ROI),ROE measures returns to shareholders,while ROA measures returns to investors of all forms of capital,For
26、mula:,Measures:,ROA,Profitability of all capital employed,including debt,Uses:,Return on Assets(ROA)*,Return on Equity(ROE),Net Income,Assets,=,ROE,Net Income,Equity,=,Profitability of equity invested in business(net equity issued plus retained earnings),Returns of enterprise as a whole,Returns to s
27、hareholders,Framework,Accounting Business Metrics,16,CorporatePerformanceMeasurement,The DuPont formula is used to separate ROE into its components in order to assess the performance of the business,ROE,Net Income,Equity,=,Net Income,Sales,=,Sales,Assets,Assets,Equity,X,X,ROS,Asset Turnover,Leverage
28、,ROE,=,Profitability,Asset Turnover,Leverage,X,X,=,ROA,Framework,Accounting Business Metrics-DuPont Formula,17,CorporatePerformanceMeasurement,*EVA=EVA with depreciation added back,Many consulting companies attempt to brand the modified accounting business metrics they use,Economic Profit,Measure,Co
29、nsulting Companies,Bain McKinseyMarakon(through Value-Based Management)LEK,EVA/MVA,Stern StewartAT KearneyAccounting firms,BCG,HoltBCG,Cash Value Added*(CVA),Cash Flow Return on Investment(CFROI),Framework,Modified Accounting Business Metrics,18,CorporatePerformanceMeasurement,*only backward-looking
30、,The modified accounting business metrics,which include EP,enable relatively accurate levels of corporate performance measurement at lower levels of decision making in the organisation,Accuracy as Measure of Corporate Performance,Level of Decision Making,High,Low,Low,High,MVA,Modified Accounting Bus
31、iness Metrics,TSR*,ROE/ROA,Fundamental Business Drivers,EP/EVA/CFROI,Role in Organisation,Framework,19,CorporatePerformanceMeasurement,*Adjusted for all stock splits and assuming all dividends reinvested,While TSR calculates return to shareholders for publicly-listed companies,BCGs TBR calculation e
32、stimates equivalent returns for privately-held firms,Total Shareholder Return(TSR)in CAGR Format,Market value of share at end of period*,Market value of share at beginning of period,=,Total Business Return(TBR),=,Estimated market value of shares of privately-held company at end of period*,number of
33、years,1,number of years,1,1,1,Estimated market value of shares of privately-held company at beginning of period*,Framework,Output Measures,20,CorporatePerformanceMeasurement,Bains client stock performance slide is calculated using TSR,which is used to measure the shareholder value created,Framework,
34、Output Measures,21,CorporatePerformanceMeasurement,Agenda,Executive SummaryObjectivesBackgroundPerformance Measurement FrameworkMarket Value Added(MVA)Economic Profit(EP)Cash Flow Return on Investment(CFROI)Exercises MVAEconomic ProfitCase Study-Diageo,22,CorporatePerformanceMeasurement,Market Value
35、 Added(MVA),Invested Capital,Goal of Managers should always be to create more shareholder value,or maximise MVA,Total Market Value of Firm(includes all debt and equity),Bains focus has always been to help the management of the firm to maximise shareholder value,which is equivalent to maximising MVA,
36、Market Value Added,Definition(1 of 2),23,CorporatePerformanceMeasurement,MVA equals the total market value of the company less invested capital or net assets.Either the Operating or Financing Approach can be used,but Bain typically uses the Operating approach,Note:*Short-term non-interest bearing li
37、abilities,Operating Approach(Typically used by Bain),Financing Approach,Market Value Added,Definition(2 of 2),24,CorporatePerformanceMeasurement,The first step required to calculate Net Assets with the Operating Approach is to identify excess cash,which is total cash less cash required in the operat
38、ing cycle,Note:*Short-term non-interest bearing liabilities,Amount($),Market Value Added,Operating Approach-Excess Cash,25,CorporatePerformanceMeasurement,Next,The working capital requirements are the firms net investments in the operating cycle,or the net amount of short-term investment required to
39、 fund operations,Amount($),WorkingCapitalRequirements,Market Value Added,Operating Approach-Working Capital Requirements,26,CorporatePerformanceMeasurement,When calculating MVA,Net Fixed Assets is defined as Net PP&E plus other Investment(tangible and intangible).The third and final step to calculat
40、e Net Assets is Net PP&E,which is the amount of long-term investment required to fund operations,Amount$,Net PP&E,Market Value Added,Operating Approach-Net Fixed Assets,27,CorporatePerformanceMeasurement,Market value added(MVA)reflects the markets expectations of the EP managers will add in the futu
41、re,Percent of Total,MVA is the markets expectation of discounted future EPs,Market Value Added,Link to EP,28,CorporatePerformanceMeasurement,After extensive work by a diligent Bain team,Acme Industries is expected to generate$25M in economic profits next year,which is expected to grow at 3%forever.I
42、f the cost of capital is 13%and the invested Capital is$100M,what is the MVA and the market value of the company?,Market Value Added,Link to EP-Example,29,CorporatePerformanceMeasurement,After extensive work by a diligent Bain team,Acme Industries is expected to generate$25M in economic profits next
43、 year,which is expected to grow at 3%forever.If the cost of capital is 13%and the invested Capital is$100M,what is the MVA and the market value of the company?,MVA=PV of EPs,=$25 M,13%-3%,=$250 M,=MVA+Invested Capital,=$250 M+$100 M,=$350M,Market Value of the Company,Market Value Added,Link to EP-So
44、lution,30,CorporatePerformanceMeasurement,EP measures managers performance in the past,since it represents the market value added created over one year,Note:*Assumes Invested Capital Constant,Market Value Added,Link to EP(1 of 2),31,CorporatePerformanceMeasurement,EP is used to evaluate manager perf
45、ormance because the change in MVA over a period of time is measured,Goal of companys managers should always be to maximise MVAWhen managers make any investment decisions,if the project is:value-creatingNPV 0MVA increasesvalue-destroyingNPV 0MVA decreasesReason that EP is the focus of most attention
46、is because MVA is a stock or wealth measure,so MVA will show how much value has been added at that point in timeEP measures the amount of value added over a period of time,which is far more useful when measuring manager performance,Market Value Added,Link to EP(2 of 2),32,CorporatePerformanceMeasure
47、ment,Which UK sectors would you expect to have the highest market value added?and the lowest?Which UK companies would you expect to have the highest market value added?and the lowest?,Market Value Added,Actual Performance,33,CorporatePerformanceMeasurement,Banks,integrated oil and drugs were the UK
48、sectors with the highest market value added,Source:Stern Stewart,Sunday Times,Sector Market Value Added(Sept 98),Market Value Added,UK Sector Performance-10 Best,34,CorporatePerformanceMeasurement,Distributors,print and packaging and construction had the lowest market value added in the UK,Source:St
49、ern Stewart,Sunday Times,Sector Market Value Added(Sept 98),Market Value Added,UK Sector Performance-10 Worst,35,CorporatePerformanceMeasurement,Shells 69.5B of market value added is the largest in the UK,Source:Stern Stewart,Sunday Times,Company Market Value Added(Sept 98),1998 EVA(B),(1.506),0.416
50、,0.803,0.710,0.402,(0.024),1.400,0.231,n/a,0.098,Market Value Added,UK Company Performance-10 Best,36,CorporatePerformanceMeasurement,British Steels 3B of market value destroyed was the worst of Britains 200 largest companies,Source:Stern Stewart,Sunday Times,Company Market Value Added(Sept 98),1998
