Académique Documents
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Steve Montgomery
session) Fundamentals of business strategy (2 sessions) Introduction to Marketing (2 sessions) Overview of Accounting and Finance (2 sessions) Project Valuation and ROI (2 sessions) Course review & strategy illustration (1 session)
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Accounting/Finance
Accounting: Two types Bookkeeping and managerial
Bookkeeping: Your companys overall financial health
Balance sheets income statements and how to read them
Finance: The art and science of cash management Cash is King Treat it like its yours Time = money
End goal: Understanding your business, how you reach customers, and your firms business condition allow you to pick smart projects and sell them to management 4/5/2012
How can we tell? What should we measure? What are we not doing by starting this project?
Techniques for estimating Return on Investment
End goal: Understanding your business, how you reach customers, your firms business condition and the potential impact your of your work allow you to pick smart projects 4/5/2012 and sell them to management
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ATH Microtechnologies
Founding Period: Scepters bid:
$90M initial payment $30M if new product approved by FDA $35M if independent study proved product superiority Up to $120M in cash for sales/profit goals
Growth
What are some features of this payment system? Is there anything missing here?
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Profit
Control
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(why?) Goal: Get market share through new product development and marketing
Were bonuses linked to market share growth?
Growth
Profit
Control
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How did they do during the growth period? Did they achieve their strategic objectives?
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Growth
Profit
Control
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Was ATH successful in becoming profitable? How did they do it? What effects did this have on the rest of the business?
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Issued vision
statement Restructured bonus program Launched education initiative
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How did they do? Were the issues contained at this point? Final earn out paid at this point
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Growth
Profit
Control
Growth
business + other competitors entering market New spending focused on new product development and tech leadership Newest products withdrawn from market; corners cut to make deadlines
Profit
Control
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ATH Summary
People respond to incentives: You get what you measure! Consequently, measures need to be balanced: Reward one thing,
get one thing
Strategy is everything! In this case, did ATH focus on the short or the long term? Its difficult to balance short vs. long term goals, but: Design incentives that try to do both
How could that have been done here?
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TimeIs Money
The key to understanding financing decisions is to note that the value of money decreases over time Two factors contribute:
Inflation.
It takes more dollars to buy something tomorrow that it does today Opportunity cost. By doing x instead of y, you lost out on potential revenue.
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10%
Value, [$]
Value j ,n Value0 1 i
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Future Value:
Future value: Example
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CFj F0 1 i
CFj = Cash flow value at some jth compounding period j = The jth compounding period F0 = The initial investment i = The interest rate (Also called the discount rate) Note that this is the value of some single investment at some future date The factor (1+i)j is called the Future Value interest factor
Sometimes tabulated Handy to use in spreadsheets when doing discounted cash flow analysis
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Inflation degrades its value Other opportunities that werent pursued should be
thought of as costs
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CFj F0 1 i
Becomes
Note that the initial investment is the same as the value of that investment today, or is also the Present Value
CFj PV 1 i
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PV
1 i
CFj
Same formula, were just thinking about it differently. The factor 1/(1+i)j is called the Present Value interest factor (PVIF) Sometimes tabulated Handy to use in spreadsheets when doing discounted cash flow
analysis
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PV
PV
1 i
CFj
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PV
1 i
CFj
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$40001 0.055
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FVIF Future value 2.9178 11671.03 2.7656 11062.59 2.6215 10485.87 2.4848 9939.21 2.3553 9421.05 2.2325 8929.91 2.1161 8464.37 2.0058 8023.10 1.9012 7604.83 1.8021 7208.37 1.7081 6832.58 1.6191 6476.38 1.5347 6138.75 1.4547 5818.72 1.3788 5515.37 1.3070 5227.84 1.2388 4955.30 1.1742 4696.97 1.1130 4452.10 1.0550 4220.00 147144.30
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Period 0 (Today)
Period 1
Period 2
Period 3
Period 4
Period 5
Period n
Each of these cash flows is listed in their value at that particular time period. We then use discounting (more on this in a minute) to relate them all back to today.
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CF0 PV 1 i CF1 PV 1 i
CF2 PV 1 i
2 n 0 2 n
CFn PV 1 i
n
CF0 CF1 CF2 ... CFn PV 1 i PV 1 i PV 1 i ... PV 1 i CFn PV 1 k Divide both sides by 1 i
n n 0 n 0 n n
CFn (Total) PV n 1 n 0 i
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CFn CF0 CF3 CF1 CF2 CF4 PV n 0 1 2 3 4 1 k 1 k 1 k 1 k 1 k 1 n 0 k 0 $2,000,000 $2,000,000 $2,000,000 $2,000,000 $7.434M 0 1 2 3 4 1 3% 1 3% 1 3% 1 3% 1 3%
In other words, inflation knocks ~$565k off the value of his contract.
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Period 0 (Today)
Period 1
Period 2
Period 3
Period 4
Period 5
Period n
To visualize what happens when we perform the discounting, multiply each CF by the PVIF of that period and see
PV, CF1 PV, CF2 PV, CF3 PV, CF4 PV, CF5
PV, CFn
Period 0 (Today)
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Period 1
Period 2
Period 3
Period 4
Period 5
Period n
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PV, cont.
A good way to format this on spreadsheets is the following:
Ichiro and Spresheet-friendly formatting: Interest rate: 3% Year Payout PVIF PV, each pay: $ 0 1 2 3 4 0 $ 2,000,000 $ 2,000,000 $ 2,000,000 $ 2,000,000 * * * * * 1 0.970873786 0.942595909 0.915141659 0.888487048 $ 1,941,747.57 $ 1,885,191.82 $ 1,830,283.32 $ 1,776,974.10
What if Ichiro took this class and wanted $8M in todays dollars? How would we figure out what his payments should be?
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Back to Ichiro
What if Ichiro wanted $8M in today's dollars? Interest rate 3% Year 0 1 2 3 4 TOTAL New payout $ $ $ $ $ 2,060,000 2,121,800 2,185,454 2,251,018 8,618,272 PVIF 1 0.970874 0.942596 0.915142 0.888487 PV $ $ 2,000,000.00 $ 2,000,000.00 $ 2,000,000.00 $ 2,000,000.00 $ 8,000,000.00 Total PV $ 618,272 Difference
Notice the power of inflation to get $8M in todays dollars, he needs to be paid $618k more over the course of 4 years Why do the payments get bigger further out in time?
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A Bond Example
You want to invest in something, yet youre leery of the stock market. How about buying bonds? A bond is a promissory note from an entity obligating the payee to pay out interest over the life of the bond, and refund the principal at some later date
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Next step is to find the present value of each of the interest payments, then add those up:
CFn CF0 CF3 CF1 CF2 CF4 1 k n 1 k 0 1 k 1 1 k 2 1 k 3 1 k 4 n 0 0 $100 $100 $100 $100 $565.02 0 1 2 3 4 1 12% 1 12% 1 12% 1 12% 1 12% PV
n
Next, find the present value of $1000 at a rate of 12% in 10 years ($321.97) The sum is the price of the bond: $287.48 + $565.02 = $887.
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5.650223028
$887.00 Total
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Bonds, cont.
When a bond is first issued, you can pay the face value and realize payments at the coupon rate
Emerson Electric: 5% coupon, semi-annual $1000 face ~10 payments remaining of (5%)($1000)/2 = $25. Whats the price of this bond?
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Principal 0 0 0 0 0 0 0 0 0 0 $1,000
PVIF 1 0.987868969 0.9758851 0.964046608 0.952351728 0.94079872 0.929385862 0.918111453 0.906973815 0.895971287 0.885102232
CF $0.00 $24.70 $24.40 $24.10 $23.81 $23.52 $23.23 $22.95 $22.67 $22.40 $907.23 $1,119.01 Total
Lump sum of $50,000 now 18 monthly payments of $3,000 (for a total of $54k)
In either case, you can invest your money at 6%/year (0.5%/month)
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