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WHAT IS A COMPANY:
a voluntary association where two or more persons come together to carry on activities for common business goals. It is a form of business organization.
It has a separate legal existence from its owners. The owners are known as members or shareholders. A company has legal rights as a natural person: it can incur into debt, can be sued and sue.
2 main types of company:
- for profit → it gets profit out of goods/services it sells
- non profit → it doesn’t get profit in return for its activities. Ex United Nations, NGOs
COMPANY OBJECTIVES/WHY DOES A COMPANY EXISTS?
- profit
- to leave heritage/legacy (family firms)
- long-term stability
- growth
- satisfying people
- survive-over time
EXTERNAL ENVIRONMENT Companies are embedded in the environment they live in (economic, social and natural environment). They are not self sufficient, they need outside resources to be able to operate (raw materials, electricity ecc). INPUT-OUTPUT MODEL input ↔ activities ↔ output Input:
- resources: ➔ primary: ➢ equity ➢ labour ➔ other: ➢ technical & industry properties ➢ commercial properties ex. Cuccinelli decided not to produce in house, but only to design → all the resources come from outside Activities: Once the company has the resources, it runs its activities, which can be grouped into 3 main categories - management activities: decision making.
➔ strategic management: core of the firm/set of managerial decisions and activities that determines the long-run performance of a corporation. It includes: environmental analysis, strategy formulation, strategy implementation, evaluation and control ➔ operative management: set of managerial decisions and activities that determines the performance of a daily and short-term performance. It includes: purchasing, operations, sales
- organization activities: organize the business (ex. manage the people). The more people you have inside the company, the harder it is to manage/organize. Organizing = create a structure of relationship among people working for the desired results. It includes: determining and structuring activities, creating rules for effective performance at work, allocation necessary authority and responsibility… Company organization follows company values, When values are embedded in the company, the values shape the company.
- accounting activities: record the business. Accounting = organized way of measuring and summarizing the information, primarily quantitative and financial, related to the activities of a business. Record every transaction the company makes. 2 main users: ● internal users: owners, managers, officers, sales staff… ● external users: lenders, shareholders, government, customers… Scandal: Parmalat: owner in jail for financial fraud ENRON, went bankrupt bc accounting info were falsified Output: to measure a company. 3 main performances to measure a company
- financial performance: it measures the firm’s capability to be profitable. KPIs = Profit, Financial ratios (ROE, ROA, ROS)
- competitive performance: it measures the firm’s capability to meet the expectations and needs of the clients. KPIs: market share, customer satisfaction. ex. Ryanair: built to satisfy the need of non-rich people that wanted to fly
- institutional performance: it measures consensus of stakeholders - not the clients - on the way the firm works. KPIs: employee satisfaction, relationship with banks, employee turnover rate. Ex. Ryanar, a lot of strikes bc working conditions are not optimal
RELATIONSHIPS OF A COMPANY 2 main actors a company has relationship with:
- customers → foster relationship to keep on selling products/services
- stakeholders → any person or organization that can positively or negatively impact the organization, or cause an impact on the actions of a company. Foster relationship to keep on receiving collaboration offers
GOVERNANCE ≠ MANAGEMENT
- management: it involves directing the activities of a business
COMPANY PERFORMANCE
HOW TO ANALYZE THE FINANCIAL PERFORMANCE OF A COMPANY
- Bookkeeping → mechanical act of managing and recording external transactions. Every transaction made by the company gets registered. ➔ external transaction → between the company and an outside entity ➔ internal transactions → within the company
- Accounting → application of accounting principles to bookkeeping data to produce financial statements that represent the financial condition and operations of an economic entity. All the data collected from bookkeeping, are automatically converted into financial documents: ➢ balance sheet ➢ income statements ➢ statement of cash flows ➢ statement of stakeholder’s equity ➢ … So the process is:
DOUBLE ENTRY SYSTEM:
Core principle: every transaction generates two values/every transaction is recorded in at least two accounts (the one that buys and the one who receives the money's account). The total amount of the entries has to be zero:
- if it’s zero = the transaction is “in balance”
- if it’s not zero = the transaction is “out of balance
Principles of accounting:
- All figures have to refer to a specific period of time: ● annual report = 12 months ● half year = 6 months ● quarter = 3 months ● month
- matching principle → expenses should be recorded when they can be matched with revenues they contributes to generate (“now that we recognized the revenue, let’s see what expenses we incurred into to generate that revenue”)
FINANCIAL STATEMENT
It recaps and lists all the company’s transactions during the financial period taken in consideration. Through this document, we can understand if and to what extent the company was profitable in that given period of time. Profitability = total & revenues - (minus) total expenses and losses
- net income > 0 = profit
- net income < 0 = loss
Income = increases in economic benefits. It includes:
- revenues = generated by ordinary activities of a company (sales, fees, royalties ec…)
- gains = other items that meet the definition of income but are not related to ordinary activities Expenses = costs incurred to generate revenues. Related to ordinary activities. Exs: cost of raw materials, personnel, distribution, services… Losses = items that generate a decrease in economic benefit and are not related to ordinary activities. Exs: loss from a lawsuit, selling a product for less money than it’s worth…
Order of listing:
- revenue → sales revenue $185,
- list all expenses that generated that value one by one: a. operating activities
DA = non real expenses/ expenses that cannot be associated with a payment. EX Ryanair: the life of an aircraft is longer than one year → the cost of the aircraft at the moment of purchase is split into how many years the aircraft lives. EBITDA is not always listed.
If listed, it is listed between Contribution margin and EBIT
- it helps in comparing companies profitability
EBITDAR = earning before interest, taxes, D&A and rentals Quite rare
CALCULATING % - OPERATING MARGINS (%)
To get:
- EBITDAR margin in % = 432 (dived by) 1219 (times) 100 = 35,5%
- EBITDA margin in % = 418 / 1219 x 100 = 34,3%
- EBIT margin in % = 388 / 1219 x 100 = 31,8%
TO SUM UP
BALANCE SHEET
It’s a financial snapshot at one point in time, usually on the last day of the firm’s fiscal year. It is an inventory of what the f irm owns (assets) and how those assets are finance d (liabilities and owners enquiry)
- right side lists liabilities and owners equity
it is helpful in determining financial risks of the company (liquidity risk, financial risk, credit risks…)/ to determine the overall financial health ● assets = company’s economic resources (money, goods and properties, credits…) Assets are listed according to “liquidity logic”: from most liquid (cash) to less liquid (fixed assets). Assets cannot be sold nor bought ● liabilities = obligations to third parties arising from past events (bank pans, debt to suppliers …) They are listed according to temporal term of obligations, from short term to long term ● shareholders’ equity = overall amount of shareholders’ investments into the firm. It’s what the firm owes to its owners BALANCE SHEET EQUATION: assets = liabilities + equity
Some items that can be found in the balance sheet: Assets:
- cash and equivalents
- trade account receivable or credit → assets resulting from selling goods on credit = transaction was made but payment will occur in the future
- inventory → amount of the costs of products awaiting to be sold
- PP&E - Property, plant and equipment → tangible assets used in the production processes
- design patent → intangible assets that grants a business the sole right to manufacture and sell a product
- goodwill → intangible asset that arises when a company acquires another business at a higher price than the fair market value. Liabilities:
- trade account playable → amounts that a firm owes to its suppliers. It rises when transaction in deferred in time (by credit)
- bank loan
- net defer taxes → tax debt that the company will be required to pay in the future
- borrowings → financial debts
- provisions → amount that the firm puts aside in their accounts to cover future liability
- severance fund → long term obligation related to the compensation that an employer provides to an employee who has stopped working for the company Shareholders’ equity
- shareholders’ capital → amounts invested in the corporation by the shareholders
- net income for the year
- retained earning → profits a firm generates that are not distributed to shareholder but are kept for use (reinvest) in the business
- revaluation reserve → arise when the value of an asset becomes grater that the value at which it was previously carried on the balance sheet
- they’re easy to asses and evaluate
- they provide significant insights for future prospect of the firm
4 main groups of financial indicators: ● liquidity ratios → measure the ability of the firm to meet its short-term obligations through current resources. These numbers come from the balance sheet
- Current ratio → it helps estimate short-term, debt-paying ability of the company. It divides current assets (like cash) by current liabilities (like due payments). Formula: current assets (CA) / current liabilities (CL) = current ratio It reveals if assets exceed debts. ➢ >1 → If ration above 1 = more current assets than current liabilities = good short-term financial health; ➢ = 1 → ratio equals 1 = current assets equal current liabilities = it just covers short-term obligations ➢ < 1→ if below 1 = currents assets are less than current liabilities = insufficient cash flow
- Quick ratio → similar to current ratio, but it excludes assets that may be difficult to convert into cash (like inventory). So, it still measure ability to meet short-term liabilities. Formula: Cash+credits+other current items / current liabilities = quick ratio ➢ > 1 = good ➢ = 1 = somewhat good ➢ < 1 = bad
● solvency ratios → measure the ability of the firm to generate future revenues and meet long-term obligations. It focuses more on the long-ter, sustainability of the company instead of current liabilities payments.
- debt ratio (D) → shows what share of a company's total assets comes from borrowed money (debt) on a specific date (balance sheet date)/ for every euro in assets, how much came from loans or debt. Formula: total liabilities / total assets = debt ratio ➢ < 0.5 (or 50%) = less than half of the assets are financed by debt = good ➢ < 0.5 (or 50%) = the company relies on dept = not good ➢ approaching 1 (or 100%) = almost all asset are financed by debt
- equity/leverage ratio → it shows the part of a company's assets paid for by its owners (such as shareholders’ money) at a specific moment in time (balance sheet date)/ out of every euro in assets, how much did the owners provide. Formula: Shareholder’s equity (SE) / Total Assets (TA) = equity ratio ➢ > 0.6 (60%) = company finances most of its assets with shareholder’s funds = financially stable and less risky ➢ < 0.4 (or 40%) = the company relies more on debt
- debt-to-equity ratio (D/E) → it shows how much debt a company has compared to its owners’ investments (equity, such as stock and saved profits) at a specific moment on the balance sheet/ for every euro of owners money, how much debt is there Formula: total debt / shareholders’ equity = debt-to-equity ➢ high D/E (close to infinite) = company uses a lot of debt compared to equity = higher financial risks ➢ low D/E (close to zero) = company uses more equity that debts = lower risk but possibly slower growth ● profitability ratios → measure the ability of the firm to prove financial rewards sufficient to attract and retain financial financing/It checks if the business makes enough money to pay back loans with interest or deliver strong returns to shareholders, making it appealing for them to stick around instead of pulling out.
- ROS - return on sales → shows a company’s ability to earn an operative income from sales/ it measures the percentage of profit a company makes fro every dollar of sales (so after covering all operating expenses and leaving out taxes and interest) Formula: EBIT / sales = ROS ➢ high ROS = company is efficient in converting sales into profit
Strategy has different roles:
- it supports decisions
- it’s a coordination device → it gives a role to people in the company
- it’s a target → it gives inspiration and commitment
- it’s animation and orientation → everybody should be involved in the company
Strategy doesn’t exist for the sole objective of making profit. A company is created and lives by a mission (statement) and a vision (statement). These two elements feed into the strategy, and strategy answers how to achieve mission and vision.
CORPORATE SOCIAL RESPONSIBILITY - SCR Companies are increasingly accepting responsibilities that extend well beyond immediate interest of shareholders, for different reasons:
- ethical reasons
- self- interest reasons: ➔ sustainability (it’s in both the society’s and firm’s interests to sustain the ecosystem) ➔ reputation (CSR enhances the firm’s reputation) ➔ meet investors’ needs/expectations
MANAGING STAKEHOLDERS
DIFFERENT PERSPECTIVE ON STRATEGY DESIGN AND IMPLEMENTATION
The most rational and theoretic framework is:
- establish strategic intent
- formulate a strategy
- implement the strategy
- evaluate the strategy
- Monitoring through each step
Though, when implementing a strategy, things might not go as planned or there may be emergent strategies that can change the plan:
INDUSTRY ANALYSIS
Why are some industries more profitable than others? (ex. Tobacco industry is very profitable, meanwhile the airline industry’s profitability was declining bc of 09/11) Industry profitability is determined by the industry's underlying economic characteristics.
The external environment matters:
- favorable environment = more chances of being profitable
- not favorable environment = less chances of being profitable This is bc, the environment gives opportunities and threats → successful companies are those which are able to leverage opportunities provided and avoid threats. So, it’s important to keep the environment constantly monitored.
The environment outside the company is very large:
ex. When customers are powerful, it’s difficult for them to stay loyal
to you for a long time. You then start adding services, programs for
loyal customers. Profitability goes down
ex. it is easy for entrants to enter when competitors are not
competitive ???????
These are the 5 forces of Porter
There are determinants on the force of the five forces:
- rivalry → high when low product diversification (the product
is the same for every competitor)
- buyer power → buyers are very informed nowadays, so they
change decision easily
- threat of entry → the difficulty of entering a n industry varies
a lot, bc it depends on very different factors (investments
required, product differentiation, government and legal
barriers …) sometimes it’s easy sometimes it’s hard.
Difficulties in environmental analysis:
- difficulty in drawing industry boundaries and the need to define industries more
broadly or narrowly → it depends on the kind of answers we are looking for →
so, sometimes it can be helpful to detailed and fragmented analysis =
segmentation analysis.
Segmentation = dividing a market into distinct segments of consumers with
common needs/characteristics and selecting one or more targets with distinct
marketing mix. So, the process is:
- break down the bigger industry in smaller groups of similar consumers →
it highlights opportunities
- target a specific group
- for each group chosen, the company targets them with specific strategies
of marketing mix
Segmentation variables
Requirements for effective segmentation:
- Measurable → ex. size, purchasing power, profile of segments
- Accessible → the market can be effectively reached and served
- Substantial → the markets are large and profitable enough to serve
- Differentiable → the markets and distinguishable and respond differently to
marketing mix elements and programs
- Actionable → effective programs can be designed for attracting and serving the
segments
INTERNAL ANALYSIS
RESOURCES AND CAPABILITIES
When deciding a strategy, 2 steps:
- external analysis → environment-strategy interface
- internal analysis → firm-strategy interface
Internal analysis made of:
- goals and values
- resources and capabilities
- structure an system
1990s, resource based view - Barney Wernerfelt:
- firm is a bundle of resources and capabilities
Core and distinctive capabilities partially overlap.
Identifying capabilities, 2 approaches:
1. functional analysis → it identifies organizational capabilities in relation to each of
the principal functional areas of the firms/ it analyses all the company’s function
and fore each area notes the main capabilities
2. value chain analysis → it separates the activities of the firm into a sequential
chain/ for each activity of the value chain, it identifies the capabilities. Porter’s
representation of the value chain distinguishes between
- primary activities → those involved with the transformation of inputs and
interface with the customer
HIERARCHY OF ORGANIZATIONAL CAPABILITIES
Competencies are:
- hierarchical: first come broader/primary capabilities, then come more
specialized/secondary capabilities
- complementary: one capability helps the other. ex. walmart uses a mix of three
capabilities: aggressive supplier management, point-of-sale data analysis and
superior logistics.
Capabilities or resources that can help achieving sustainable competitive advantage are
considered more important than others.
4 key criteria to assess these resources and capabilities:
VRIO Framework - 4 elements:
- Value (of resources and capabilities) → capabilities are of value when they
➢ take advantage of opportunities and neutralize threats
➢ provide value to customers
➢ are provided at a cost that still allows an organisation to make acceptable
return
- Rarity → capabilities are rare when they are posses uniquely by one organisation
or by a few others (ex. patented products, highly talented people, powerful
brand). Rarity could be temporary (patents expire, individuals can leave, brand
can lose value)
- Inimitability → capabilities that competitors find hard to replicate, obtain os
substitute. Not always these capabilities can be sustainable in the long-term.
- Organizational support → the organisational must be suitably organised to
support the value, rare and inimitable capabilities that it owns.
If the organisation owns these kinds of resources (valuable, rare, inimitable,
organizationally supported), then these resources are strengths. Otherwise, they are
weaknesses.
Capabilities are of varied kinds:
- strategic → strategic to run the business and get competitive advantage
- dynamic → they are those capabilities that the org uses to renew and recreate
strategic capabilities.
There are 3 dynamic capabilities:
➔ sensing capabilities: constantly scanning and exploring new opportunities
across markets and technologies
➔ seizing capabilities → addressing opportunities through new products,
processing and activities
➔ re-configuring capabilities → new products and processes may require
renewal and reconfiguration of capabilities and investment in new
technologies.
- ordinary → they may be necessary to operate efficiently now, but that may not be
sufficient to sustain superior performance in the future
COMPETITIVE ADVANTAGE
“The core of strategy is creating competitive advantage faster than competitors mimic the one you have today”
