Shareholder Value Analysis

Marketing's Imperative

Long-term increase in shareholder value via sustained competitive marketplace advantage and optimal customer lifetime value.

Measuring company performance at the corporate level has historically been fraught with failure.

Largely in part to Accounts being given greater importance than an organization-wide market orientation.

Earnings vs Cash

Accounts focus tends to be on EBIT (earnings before income and tax), as shown on a profit and loss statement. However, measuring performance in terms of earnings can be highly misleading to long-term performance.

As one example I have picked up as a marketer, positive earnings/profits can be blindly pursued leading to cashflow problems and subsequent bankruptcy. This happens as result of liquidity problems (when cashflow is insufficient to pay current debts). This can happen where sustained growth requires higher levels of fixed capital investment (e.g. for production), or working capital (e.g. stock or trade debtors).

Earnings also do not take into consideration the cost of capital.

Earnings can be adjusted in various ways.

The use of earnings as a performance measure encourages a short-term approach to business development.

But as a marketer I aim for: long-term sustained competitive advantage and optimal shareholder value through optimal customer lifetime value.

And whilst earnings can be positive, the reality is a company sinking into greater financial risk, debt, and cost of capital.

Cash

Cash is much more tangible than 'earnings'. Peter Doyle points out 'profits are an opinion, cash is fact". Yet that is not to say that as a Marketer I view cashflow as the best measure of company / business unit performance either.

For instance, a new startup will be cash intensive and thus produce negative cashflow, yet still quite hopefully an ultimately profitable output.

Net Present Value

For short-term marketing projects (typically 1 year or less in value forecasts), Return On Investment calculations suffice for evaluations.

However, for longer term projects, investment risk and returns must be judged against the time value of money. That is, money today is worth more than money in the future. Why?

Because of:

• The cost of capital
• Inflation

Cost of Capital

The cost of capital is the rate of interest on company debts. Capital comes mainly in the forms of:

• Equity (capital owned by the company owners) and
• Debt (money borrowed which incurs interest).

Inflation

Discounted Cashflow

Financial accounts do not take the time-based value of money into account. Therefore, income from long-term investments must be discounted to today's money value (net present value) in order to judge the added value of possible investments.

To calculate the Net Present Value of forecast cashflows, we use discounted cashflow techniques. Interest is added on to current-day values. Also, future anticipated revenues are discounted back to give a present day value.

Cashflow calculations also do not easily provide comparable measure of performance against different companies. EVA does.

Economic Value Added

Despite positive cashflow and earnings, the cost of capital is increased through greater debt (borrowing more capital), and thus reduces the added value to long-term profitability. EVA takes into account the cost of capital used. This means we we gain insight into whether value is created or not. This measure can be used to compare different businesses.

As Peter Doyle points out: 'The level of cashflow does not provide information about whether a strategy has created value; economic profit does'.

Shareholder Value Added

Shareholders evaluate investment alternatives to decide where to invest for the best return on their funds compared to the risk involved.

Shareholder value considers the discounted cashflow of the future income stream of a marketing strategy and considers its economic value by allowing the cost of capital.

As such, shareholder value can be considered a combination of the cashflow and EVA techniques.

A good market oriented strategy will therefore create value by producing returns that exceed the cost of capital.

Sustained Competitive Advantage

A sustained competitive advantage is therefore the duration by which returns are produced in the chosen marketplace that are greater than the cost of capital. This is the 'forecast period'.

When returns fall back down to approximately the cost of capital due to various competitive forces, we have reached the 'continuing value period'. And time for the equity owners to sell or innovate.

My role as a marketer is to maximise that sustained competitive advantage through optimal customer lifetime value via such things as:

• Appropriate customer targeting through product differentiation and competitive positioning
• Profitable customer satisfaction through relationship marketing and high-level customisation
• Distribution channel control through backwards and/or forwards supply chain integration
• Value chain management for economies of scale (efficient production of the same item) and economies of scope (shared production resource across the product portfolio)
• And more.

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