Strategic Management

STRATEGIC MANAGEMENT
Capt. Edmer Gatchalian, AFNI

What is business Policy Case?
What are the Objectives of
Business Policy?

 Management
Business Policy Generally Includes:
 Marketing
 Finance / Accounting
 Production / Operations
 Human Resources
 Research and Development ( R& D)
 Information Systems
 Natural Environmental Issues

Guidelines for Preparing Case Analysis
Case Content is base on
 Facts
 Data
 Develop Assumptions
Use information from charts, graphs, ratios
 Opinions / Judgments and beliefs.
Analysis of the person

The need for Practicality for solution
content
 Make reasonable assumptions
 Perform appropriate analysis
 Make decisions ( relate to
vision/mission/objectives, strategies)
The need for Justification – Case Solution
• There is no single best solution or one right
answer to a case.
• Analysis focus on justification

The need for originality
• Use information that are available
The need for Specificity – Time Frame
• Be specific by telling what, why, when, where, and
who
View Point
• The executives

We started as the first step by asking,
”What’s good and bad about the operation?”
Then we asked, “What is good and bad about
the present and the future?” What is good in
the present is Satisfactory, good in the future
is an Opportunity; bad in the present is a
Fault, and bad in the future is a Threat.
Hence S-O-F-T. This was later changed to
SWOT—don’t ask. (I’m told that Harvard
and MIT have claimed credit for SWOT…not
so!)
-Albert S. Humphrey
SRI News Letter9/7/05

SWOT
Analysis
Oppurtunity Threats
Strengths Weakness
 Technique is
credited to Albert
Humphrey who
led a research
project at Stanford
University in the
1960s and 1970s.
What is SWOT Analysis?

What is SWOT analysis?
One of the most
widely used
Strategic Planning
Tool
Provide competitive
insight into the
potential and critical
issues impact the
business
Useful tool in
assessing
situation and
arriving at decision
Evaluation
Framework to
define a strategy
Strengths,
Weaknesses,
Opportunity
Threats
SWOT
ANALYSIS

SWOT is an acronym for:
Internal
Environment
External
Environment

- Characteristics of the
business or a team that give
it an advantage over others
in the industry.
organization
- Positive tangible and
intangible attributes,
internal to an Organization
STRENGTHS
4 Elements of SWOT Analysis

- Characteristics that place
the firm at a disadvantage
relative to others.
-Detract the organization
from its ability to attain the
core goal and influence its
growth.
WEAKNESSES

- Chances to make greater
profits in the
environment
- - External attractive
factors that represent
the reason for an
organization to exist &
develop
OPPORTUNITIES

!
- Arise when conditions in
external environment jeopardize
the reliability and profitability of
the organization’s business
- External elements in the
environment that could cause
trouble for the business
- External factors, beyond an
organization’s control.
THREATS
.

INTERNAL STRENGTHS:
- Competencies in key areas
- Well conceived functional
strategies
- Proven management
- Superior technological skills
INTERNAL WEAKNESSES:
- No clear strategic direction
- Lack of management depth and talent
- Poor record in strategy implementation
-Plagued with operation problems
-Obsolete Facilities
EXTERNAL OPPORTUNITIES:
- Emerging new technologies
- Favorable political climate
- Increase in gross nation product
EXTERNAL THREATS:
- Adverse demographic changes
- Huge government deficit
- Economic depression

S W
TO
To help decision
makers share and
compare ideas.
To bring a clearer
common purpose and
understanding of
factors for success.
To organize the
important factors
linked to success and
failure in the business
world.
To provide linearity to
the decision making
process allowing
complex ideas to be
presented
systematically.
Aim of SWOT analysis

Job Holder
• When supervisor has issues with
work output
• Assigned to a new job
• New financial year – fresh targets
• Job holder seeks to improve
performance on the job
1
Business Unit
2
• When the team has not met its
targets
• Customer service can be better
• Launching a new business unit to
pursue a new business
• New team leader is appointed
Company
• When revenue, cost & expense
targets are not being achieved
• Market share is declining
• Industry conditions are unfavorable
• Launching a new business venture
3
Who needs SWOT Analysis?

Workshop Sessions
Brainstorming
Meetings
Strategic Planning
Product Evaluation
Competitor
Evaluation
Personal
Development
Planning
Decision Making
Product Launch
Changing Jobs
Who needs SWOT Analysis?
SWOT Analyis is also required for / during...
SWOT
ANALYSIS

Why Perform a SWOT Analysis?
Using Resources Efficiently
Improving Operations
Discovering Opportunities
Dealing with Risks
Competitive Positioning

The Process of Analysis
OPPORTUNITIES
THREATS
STRENGTHS
WEAKNESSESINTERNAL
OPERATING
GENERAL

How to conduct SWOT Analysis?
* Analyse Internal & External Environment
.

1. Decide on the objective of your SWOT
analysis
2. Research your business, industry and
market
3. List your business's strengths
4. List your business's weaknesses

5. List potential opportunities for your
business
6. List potential threats to your business
7. Establish priorities from the SWOT
8. Develop a strategy to address issues in
the SWOT

How can we use our strengths to take advantage
of the opportunities identified?
How can we use these strengths to overcome the
threats identified?
What do we need to do to overcome the identified
weaknesses in order to take advantage of the
opportunities?
How will we minimize our weaknesses to
overcome the identified threats?
Review your 4 prioritized lists by asking:

GENERAL
ENVIRONMENTAL
ANALYSIS

INTRODUCTION
Business decisions are influenced by two sets of
factors
Internal factors (The Internal Environment
External Factors( The External Environment)
Business Environment presents two challenges to
the enterprise
The challenge to combat the environmental threats
Exploit the business opportunities
Environmental Analysis is one of the first steps in
Strategic Management

Definition
“The process by which strategists monitor the economic,
governmental/legal, market/competitive,
supplier/technological, geographic and social settings to
determine opportunities and threats to their firms”
“Environmental diagnosis consists of managerial
decisions made by analysing the significance of data
(opportunities and threats) of the environmental
analysis”

Environmental Scanning is the monitoring, evaluating
and disseminating of information from the external and
internal environments to key people within the
corporation.
A corporation uses this tool to avoid
strategic surprise and to ensure its long-term
health.

TYPES OF ENVIRONMENT
1) INTERNAL ENVIRONMENT
2) EXTERNAL ENVIRONMENT
BUSINESS
DECISION
INTERNAL
FACTORS
EXTERNAL
FACTORS

INTERNAL ENVIRONMENT
Important internal factors are:
1) Value System
The value system of founders and those at the helm of
affairs has important bearing on the choice of business,
the mission and objectives of the organization,
business policies and practices.
2) Mission and Objectives
The business domain of the company , priorities ,
direction of development, business philosophy, business
policy etc. are guided by the mission and objectives of
the company

3) Management Structure and Nature
The organizational structure, the composition of the
Board of Directors, extent of professionalization of
management etc. are important factors influencing
business decisions.
4) Internal Power Relationship
Factors like the amount of support the top management
enjoys from lower levels and workers, share holders and
Board of Directors have important influence on the
decisions and their implementation.
The relationship between the members of Board of
Directors is also a critical factor.

5) Human Resources
The characteristics of the human resources like skill,
quality, morale, commitment, attitudes etc. could
contribute to the strength and weakness of the
organization.
The involvement, initiative etc. of the people at different
levels may vary from organization to organization.
6) Company Image and Brand Equity
The image of the company matters while raising finance,
forming joint ventures or other alliances, soliciting
market intermediaries, entering purchase or sale
contracts , launching new products etc.

OTHER FACTORS:
1. Physical Assets and Facilities
2. R&D and Technological Capabilities
3. Marketing Resources
4. Financial Factors

EXTERNAL ENVIRONMENT
Two Types:
a) Micro Environment
Consists of actors in the company’s immediate
environment, that affects the performance of the
company.
b) Macro Environment
Consists of larger societal forces that affect all the
actors in company’s micro environment.

Political & Government
Environment
 Has close relationship with the economic system and
economic policy.
 In many countries regulations to protect consumer
interests have become stronger.
 Some governments specify certain standards for the
products to be marketed in the country; some even
prohibit the marketing of certain products.
 Promotional activities are subject to various types of
controls.
 Eg: In India, Advertisement of alcoholic product is
prohibited.
 and the packages must carry “injurious to health”
warnings

Socio-cultural Environment
Major factors are:
the buying and consumption habits of people,
their language beliefs and values,
customs and traditions,
tastes and preferences,
Education
Strategy should be appropriate in the socio-
cultural environment.
Eg: nestle brews a very large variety of instant
coffee to satisfy different national tastes

Even when people of different cultures use the
same product; the mod of consumption,
conditions of use, purpose of use or the
perceptions of the product attributes may vary
so much so that the product attributes, method
of presentation, positioning or method of
promoting the product may have to be varied to
suit the characteristics of different markets.
E.g.: Vicks Vaporub, the popular pain balm is used
as mosquito repellent in some tropical countries

Language difference pose a serious problem.
e.g.
Preet-> Prestige for overseas market
In Japanese, General Motors’ “body by Fisher” means
“Corpse by fisher”
Colour
Blue: feminine and warm in Holland ; but masculine
and cold in Sweden
Green: favourite in Muslim world; but represents
illness in Malaysia
Red: popular in communist countries; but represents
disaster in Africa
White: death and mourning in China and Korea; but
it expresses happiness in some countries. Also it is the
colour of bridal dress.

International Environment
Particularly important for the industries
directly depending on imports or exports and
import-competing industries
Recession, economic boom, liberalization
Major international developments have their
spread effects on domestic business.
E.g. Oil price hikes increased the cost of production
and the prices of certain products such as fertilizers
, synthetic fibres. So usually, the demand for natural
fibres and manures increased.
Also demand for automobiles that economise energy
consumption got increased.

The oil crisis also promoted some companies
to resort to demarketing
“demarketing” refers to the process of
cutting consumer demand for a product
back to the level that can be supplied by the
firm.
E.g. The Indian Oil Corporation have
publicised tips on how to cut oil
consumption

TECHNIQUES FOR
ENVIRONMENTAL
SCANNING
Involve two phases:
Information gathering and Evaluation
1) Verbal & Written Information:
verbal information includes, information obtained by
direct talk with people, by attending seminars,
meetings, etc..
Written or documentary information includes both
published and unpublished materials

TECHNIQUES FOR
ENVIRONMENTAL SCANNING
2) Search and Scanning:
this involves research for obtaining the required
information
3) Spying:
Eve though it is not considered as ethical, spying to get
information about the competitor is not uncommon
These 3 pertains to source of
information/methods of gathering information

TECHNIQUES FOR
ENVIRONMENTAL SCANNING
4) Forecasting:
done by corporate planners or other staff
personnel or consultants
This pertains to use the information gathered by
above mentioned 3 methods for picturing the
future scenario.

OPERATING
ENVIRONMENTAL
ANALYSIS

OPERATING ENVIRONMENT
• Sometimes called as the TASK Environment.
• Refers to the specific outside stakeholders
with whom the business interacts in
conducting its business.
• Is made up of stakeholders eternal to the
business who have a direct impact on the
operation of the business.

The Five Forces Model Of Analysis
by Michael Porter
1. The Threat of Entry:
competitors can enter from any industry,
channel, function, form or marketing activity.
How best can the company take care of the
threat of new entrants?

by Michael Porter
2. Supplier Bargaining Power:
What is the power of suppliers in this industry? How
will their actions affect costs, supplies and
developments?
If there are a few suppliers, power is in their favor
and cost of switching may be prohibitive; vice versa
for a situation with lots of suppliers. There may be
too many buyers from too few suppliers.

by Michael Porter
3. Buyer Bargaining Power:
There may be few buyers for the product, which
could mean that they would drive down prices and
dictate business terms. What is their effect on the
business?
If there are many buyers, sellers could decide not to
supply to a few, because other buyers will step in.

by Michael Porter
4. Threat of Substitutes:
Can another substitute the product?
Tea for coffee; email for fax?
What is the likely possibility of this and what is its
impact?

by Michael Porter
5. Competitive Rivalry:
All the four forces may come together to produce
this force. All the resources at a company's disposal
may be put in to maintain market shares and sales.
How intense is competitive action, can it be
countered?

INTERNAL
ENVIRONMENTAL
ANALYSIS

ANALYSIS
The conditions, entities, events, and factors
within an organization that influence its
activities and choices, particularly the
behaviour of the employees. Factors that are
frequently considered part of the internal
environment include the organization's mission
statement, leadership styles, and its
organizational culture.

CRITERIA FOR DETERMINING STRENGTH
AND WEAKNESS
a. History
b. Normative
c. Competitive parity
d. Critical factor for success

EXTERNAL FACTOR
EVALUATION MATRIX
(EFE)

What is EFE?
External Factor Evaluation
Allow Strategist to:
*Summarize and Evaluate the Following:
Economic, Social, Cultural, Demographic,
Environmental, Political, Governmental, Legal,
Technological, and Competitive Information

How to use EFE ?
Key External Factors Weight Rating Weight Score
(w*r)=WS
Opportunities
Rowan Country is growing 8%
annually in population
0.05 3 0.15
TDB University is expanding 6%
annually
0.08 4 0.32
Major competitor across ton
recently ceased operations
0.08 3 0.24
Demand for going to cinema
growing 10% annually
0.07 2 0.14
Two new neighborhoods being
developed within 3 miles
0.09 1 0.09
Disposable income among citizen
grew 5% in prior year
0.06 3 0.18
Unemployment rate in country
declined to 3.1%
0.03 2 0.6

Continuation….
Key External Factors Weight Rating Weight Score
Threats
Trend toward healthy eating eroding
concession sales
0.12 4 0.48
Demand for online movie and DVDs
growing 10% annually
0.06 2 0.12
Commercial property adjacent to
cinemas for sale
0.06 3 0.18
TDB University installing an on-
campus movie theater
0.04 3 0.12
Country and city property taxes
increasing 25% this year
0.08 2 0.16
Local religious group object to R-
rated movies being shown
0.04 3 0.12
Movie rented from local Blockbuster
store up 12%
0.08 2 0.16
Movie rented last quarter from Time
Warner up 15%
0.06 1 0.06

Continuation…
Total of Weight: 1.00
Total Weight score: 2.58 / Above average
midpoint of 2.5

EFE
• We identify the key external opportunities and threats
that are affecting or might affect a company. Where do
we get these factors from?
• Easy to understand.
• Easy to use. The matrices do not require extensive
expertise, many personnel or lots of time to build.
• Focuses on the key external factors.
• Multi-purpose.

INTERNAL FACTOR
EVALUATION MATRIX
(IFE)

What is IFE Matrix?
• A summary step in conducting an internal
strategic-management audit
• It summarizes and evaluates the major
strengths & weaknesses in the functional
areas of a business

Importance of IFE Matrix
• Provides the creation of intuitive judgement
of top management
• Gives the overall overview of the performance
of each division in a multidivisional firms
• Provides important information for strategy
formulation

Benefits
• Easy to understand
• Easy to use
• Focuses on the key internal and external
factors
• Multi-purpose

Steps on how can it be developed:
1.List key internal factors as identified in the
internal audit process.
2.Assign a weight that ranges from 0.0 (not
important) to 1.0 (all important) to each factor.
3.Assign a 1-4 rating to each factor to indicate
whether that factor represents a:
– 1 = major weakness
– 2 = minor weakness
– 3 = minor strength
– 4 = major strength
4.Multiply each factor’s weight by its rating.
5.Sum the weighted score for each variable.

Total Score
• Regardless of how many factors are
included in an IFE Matrix, the total
weighted score can range from a low of
1.0 to a high of 4.0, with the average
score being 2.5

Example 1 (Retail Computer Store)
Two most important factors to be successful in this
kind of business are “revenues from repair/service
in the store” & “location of the store.”
The store is also doing best on “average customer
purchase amount” and “in-store technical
support”
The store is having major problems with its:
carpet, bathroom, paint, and checkout procedures.
The data collected are quantitative in nature and
not from vague statements

IFE Matrix for the
Retail Computer Store
Strengths
Key Internal Factors Weight Rating Weighted
Score
1. Inventory turnover increased from 5.8 to 6.7 0.05 3 0.15
2. Average customer purchase increased from $97 to $128 0.07 4 0.28
3. Employee morale is excellent 0.10 3 0.30
4. In-store promotions resulted in 20% increase in sales 0.05 3 0.15
5. Newspaper advertising expenditures increased 10% 0.02 3 0.06
6. Revenues from repair/service segment of store up 16% 0.15 3 0.45
7. In-store technical support personnel have MIS college degrees 0.05 4 0.20
8. Store’s debt-to-total assets ratio declined to 34% 0.03 3 0.09
9. Revenues per employee up 19% 0.02 3 0.06

Weakness
Key Internal Factors Weight Rating Weighted
Score
1. Revenues from software segment of store down 12% 0.10 2 0.20
2. Location of store negatively impacted by New Highway 34 0.15 2 0.30
3. Carpet and paint in store somewhat in disrepair 0.02 1 0.02
4. Bathroom in store needs refurbishing 0.02 1 0.02
5. Revenues from businesses down 8% 0.04 1 0.04
6. Store has no website 0.05 2 0.10
7. Supplier on-time delivery increased to 2.4 days 0.03 1 0.03
8. Often customers have to wait to check out 0.01 1 0.05
Total 1.00 2.50

Result
From the matrix shown, the computer
retail shop got a score of 2.5 which on a
scale of 1-4, is exactly average or
halfway, indicating that there’s definitely
room for improvement in store
operations, strategies, policies, and
procedures

Example 2 (United Parcel Services, Inc.) A company well known for its brown
trucks
 Headquartered in Sandy Springs, Georgia
UPS roughly delivers 15 million packages
daily to 220 countries
 Expansion of “Worldport” is considered
the most important factor to success
 Usage of many $’s, #’s and %’s are the
most common focus of the organization.

Strengths
Key Internal Factors Weight Rating
Weighted
Score
1. Completed 1st phase of Worldport expansion, increasing sorting
capacity 15% growing to 37%
0.09 4 0.36
2. 1st major airline to successfully operate a 100% stage 3 fleet 3 years in
advance of Federal regulations
0.07 4 0.28
3. 5 out of 6 Ups drivers come from part time ranks (promotion within) 0.07 3 0.21
4. Over 4,000 UPS drivers have driven for 25 years or more without an
avoidable accident
0.06 3 0.18
5. Dividends of $0.47 per share paid & increasing 0.06 4 0.24
6. Average daily volume for Next-Day Air & Deferred Products increased
2.8% & 4.3% respectively
0.06 3 0.18
7. Have yielded 1.71% cost & production efficiencies, improving operating
margin
0.06 4 0.24
8. Owns 80% of JV headquartered in Dubai with 20% option to purchase 0.08 3 0.24
9. Streamlining Domestic Package segment, reducing U.S. Regions from 5
to 3 and U.S. Districts from 46 to 20
0.07 3 0.21
10. Purchased 130 hybrid vehicles, adding to UPS alternative fuel vehicle
(AFV) fleet
0.07 4 0.28

Weakness
Key Internal Factors Weight Rating
Weighted
Score
11. Approximately 254,00 UPS employees are union members 0.03 1 0.03
12. Approximately 2,800 UPS Pilots 0.03 1 0.03
13. Approximately 3,400nUPS ground mechanic 0.03 1 0.03
14. Inability to identify sufficient operating cost savings to result in at least
300 furloughs for airline pilots
0.04 1 0.04
15. Top executives’ diversity percentage is low (25%) 0.03 2 0.06
16. Over 4,000 UPS drivers have driven for more than 25 years and are now
eligible for retirement
0.04 1 0.04
17. Top executives’ tenure in current position 5 years or less 0.03 2 0.06
18. 80% of all UPS U.S. small package delivery services guaranteed 0.02 2 0.04
19. With 408,000 employees, expenses relating to health and pension
benefits are high
0.03 1 0.03
20. 41.7% of top UPS executives are cross-trained 0.03 2 0.06
Total 1.00 2.84

Result
• UPS, Inc. IFE Matrix score of 2.84
indicates that the company is doing
pretty well and above average, but
there is definitely room for
improvement still to consider.

Conclusion
• Internal Factor Evaluation Matrix (IFE) along with the other
matrices (EFE, CPM) are clear statements of vision-mission
which provides information needed to successfully
formulate competitive strategies. IFE Matrix is one tool to
consider in conducting an internal audit of the company’s
operation. It gives a clear view of areas for improvement as
well as areas of strengths of a certain division or
department. It also gives emphasis on factors where no
related figures are concern such as the impact of a Logo to
clients, the overall outlook of the company premise itself
etc.. This process represents an opportunity for managers
and employees throughout the organization to participate
in determining the future of the firm. Lastly, it can energize
and mobilize both managers and employees.

COMPETITIVE PROFILE
MATRIX
(CPM)
84

Competitive Profile Matrix (CPM)
• Identifies firm’s major competitors
and their strengths & weaknesses in
relation to a sample firm’s strategic
position
85

Industry Analysis (CPM)
• Competitive profile matrix shows the clear
picture to the firm about their strong points
and weak points relative to their competitors.
• The CPM score is measured on basis of critical
success factors, each factor is measured in
same scale mean the weight remain same for
every firm only rating varies.
• The best thing about CPM that it includes your
firm and also facilitate to add other competitors
make easier the comparative analysis.
86

Critical success factors
• Critical success factors are extracted after deep
analysis of external and internal environments of
the firm.
• Obviously there are some good and some bad for
the company in the external environment and
internal environment.
• The higher rating shows that firm strategy is doing
well to support this critical success factors and
lower rating means firm strategy is lacking to
support the factor.
87

Rating
Rating in CPM represents the response of firm toward
the critical success factors. Highest the rating better the
response of the firm towards the critical success factor,
rating range from 1.0 to 4.0 and can be applied to any
factor.
– There are some important point related to rating in CPM.
– Rating is applied to each factor.
– The response is poor represented by 1.0
– The response is average is represented by 2.0
– The response is above average represented by 3.0
– The response is superior represented by 4.0
88

Weight
• Weight attribute in CPM indicates the relative
importance of factor to being successful in the
firm’s industry.
• The weight range from 0.0 means not important
and 1.0 means important, sum of all assigned
weight to factors must be equal to 1.0
otherwise the calculation would not be consider
correct.
89

Weighted Score
• Weighted score value is the result achieved
after multiplying each factor rating with the
weight.
90

• The sum of all weighted score is equal to the total
weighted score, final value of total weighted score
should be between range 1.0 (low) to 4.0(high).
• The average weighted score for CPM matrix is 2.5
any company total weighted score fall below 2.5
consider as weak.
• The company total weighted score higher than 2.5 is
considered as strong in position.
• The other dimension of CPM is the firm with higher
total weighted score considered as the winner
among the competitors.
91

Ch.3-92
(CPM)
Apple Samsung O+
2.803.253.151.00Total
0.1530.2040.0510.05Market Share
0.4020.4020.8040.20Global Expansion
0.2020.4040.4040.10Customer Loyalty
0.4530.4530.6040.15Financial Position
0.3030.3030.4040.10Management
0.4040.3030.3030.10Price Competition
0.3030.4040.4040.10Product Quality
0.6030.8040.2010.20Advertising
ScoreRatingScoreRatingScoreRatingWeightCritical Success
Factor

• Numbers reveal the relative strengths of firms.
The aim is not to arrive at a single number, but
rather to assimilate and evaluate information in
a meaningful way that aids in decision making.
93

• Competitiveness of the firm can be measured on the basis of industry
key success factors and firms strengths.
• If variation between the final score is found among the rivals; than
with the higher score getter has the greater net competitive
advantage and vice versa for lower score getter.
• The final scores showed that the Coca Cola is a strong company in
respect of its competitors. The Pepsi and Cadbury Schweppes stayed
on the second and third position with scores 3.48 and 2.88
respectively.
• Coca Cola has highest score in the industry in terms of industry key
success factors.
95

WHAT IS PROBLEM STATEMENT?
• A brief description of the issues that
need to be addressed and should be
presented before trying to solve the
problem.

A good problem statement
should answer these questions:
• What is the problem?
• Who has the problem or who is the
client/customer?
• What form can the resolution be?

STEPS IN WRITING PROBLEM
STATEMENT
1. Describe the “ideal” state of affairs.
2. Explain your problem.
3. Explain your problem’s financial costs.
4. Back-up your assertions.
5. Propose a solution.
6. Explain the benefits of the solution.
7. Conclude by summarizing the problem

POLISHING YOUR PROBLEM
STATEMENT
1. Be concise.
2. Write for your audience.
3. Don’t use jargons without defining it.
4. Stick to a narrow, defined problem.
5. Remember the “5 Ws”.
6. Use a formal voice.
7. Always proofread for errors.

ALL PROBLEMS ARE
OPPORTUNITIES IN DISGUISE

105
Introduction -
• Acronym of SWOT
• TOWS analysis is an algorithm of the strategic
analysis process, involving systematic and
comprehensive assessment of external and internal
factors.
• It helps in determining current condition and growth
potential of the company.
• Guidelines derived are company should avoid
threats, exploit opportunities, strengthen its
weaknesses and base important activities on its
strengths.

Process of Strategy Formulation -
• Step 1- Deals with some basic questions pertaining
to the internal and external environments.
• Step 2 - Concern primarily the present and future
situation in respect to the external environment.
• Step 3 - Audit of strengths and weaknesses, focuses
on the internal resources of the enterprise.
• Step 4 - Activities necessary to develop strategies,
tactics and specific actions are carried out, so as
achieve the enterprise's overall objectives.
• Step 5 - Contingency plans must be prepared
106

“Whether its broke or not, fix it- make it
better. Not just the products but the whole
company if necessary”. – Bill Saporito
108

STAGES OF TOWS ANALYSIS
• Identification of opportunities and threats
• Identification and analysis of strengths and
weaknesses
• Determination of strategic position and
direction of business development
109

TOWS Matrix - Strategies
• SO Strategy : “Maxi-Maxi”
• ST Strategy : “Maxi-Mini”
• WO Strategy : “Mini-Maxi”
• WT Strategy : “Mini-Mini”
•Weaknesses•Threats
•Opportunities•Strengths
SO
Maxi-
Maxi
WO
Mini-
Maxi
WT
Mini-
Mini
ST
Maxi-
Mini

111
• SO situation - maxi-maxi strategy : This situation applies
to the company for which dominates strengths in the
environment and opportunities within. This situation
corresponds to the maxi-maxi strategy: strong expansion
and diversified development.
• WO situation - mini-maxi strategy : In this situation
company has the more vulnerabilities - weaknesses, but its
environment gives more opportunities. The strategy should
include the use of these opportunities while reducing or
correcting weaknesses within the organization.

112
• ST situation - maxi-mini strategy : The source of
development difficulties for the company are unfavorable
external conditions (prevalence of threats). The company may
use large internal strengths in attempt to overcome threats
from environment.
• WT situation - mini-mini strategy :The company in this case
is devoid of any development opportunities. It operates in
hostile environments, and its potential for change is small. It
does not have significant strengths, which could withstand
threats. Mini-mini strategy boils down to a pessimistic version
of the liquidation or in optimistic situation - to strive for
survival, or merger with another organization.

Apple – TOWS Matrix
Internal
External
Strengths (S)
• Strong brand image
• Financial position
• Product differentiation
• Apple Retail strategy
• Manufactures Hardware and Software
• Most user friendly GUI
Weaknesses (W)
• Patent lawsuit
• Apple iOS uses Google maps
• Pricing
• Product line is short
• Protective strategy
Opportunities (O)
• Uncovered Markets
• Strong growth in smartphone
and tablet markets
• Loyal Customers
SO Strategies
• Apple’s brand recognition throughout
all its markets can strengthen by
offering less expensive version of each
product to appeal to lower income
market
• Develop product for business segment
• Improve customer Experience
WO Strategies
• Global expansion through Mexico, Portugal,
France and Australia, south east asia.
Threats (T)
• Rising popularity of Google
Android & other operating
system
• Technology Innovation
• Supply System
• Samsung has lauched its own
OS- Tizen
ST Strategies
• Purchase voice and data network to
complement the smartphone division
will help acquire stronger market
position
• Focus on supply chain.
• Focus on R&D.
WT Strategies
• Long term agreements between Apple Inc. and
the suppliers to guarantee production
commitments
• Continue investment in technology in order to
stay ahead of competitors and become a
market leader
• Develop new products

Samsung – TOWS Matrix
Internal
External
Strengths (S)
• Hardware integration with many open
source OS and softwares
• Excellence in engg and producing
hardware parts and consumer electronics
• Innovation and design
• Development of new OS (Tizen)
• Low production costs
• Largest share in mobile phones
• Ability to market the brand
Weaknesses (W)
• Patent infringement
• Too low profit margin
• Main competitors are also largest buyers
• Lack its own OS and software
• Focus on too many products
Opportunities (O)
• Growing India’s smart phone market
• Growing mobile advertising industry
• Growing demand for quality application
processors
• Growth of tablets market
• Obtaining patents through acquisitions
SO Strategies
• Tapping markets like India with low
prices
• Develop new technologies to avoid
patent issues
• Improve Brand Image
WO Strategies
• Improving Customer Service to make
them loyal to the brand
• Focus on launching Tizen OS
• Strive for margin expansion without
compromising on the volumes by
cutting costs
Threats (T)
• Saturated smart phone markets in
developed countries
• Rapid technological change
• Declining margins on hardware production
• Breached patents
• Apple’s Tie-up with Reliance(India)
• Price wars
ST Strategies
• Focus on R&D to sustain the
technological disruptions
• Penetration into the untapped third
world countries
• Scale-up development of new
technologies for hardware production
• Focusing on cost reduction
• Tie-ups with service providers
WT Strategies
• Concentrating focus on fewer products
and improve quality
• Long term agreements with Corporate
clients who are also competitors
• Bringing better designs with better
quality
• Improving Customer experience

What is IE Matrix?
• IE stands for Internal External as the name suggest that
it’s based upon internal and external factors of the
organization. The IE is an important strategic tool which
comes under the portfolio management considered
much similar to BCG Matrix. The IE matrix is used to plot
the organization divisions in nine cell diagram, each cell
have some meaning associated which suggest strategies.
• In summarized way it can be defined as the strategic
management tool which is used to analyze the current
position of the divisions and suggest the strategies for
the future for better results.

What are the terms commonly used in
understanding the IE Matrix?
• IE Matrix Cells
IE Matrix is composed of nine cells each one is numbered and associated with
some meaning.
• IFE Total Weighted Score
The total weighted score which is derived from the IFE matrix based on division
internal factors weight and rating.
• EFE Total Weighted Score
The total weighted score which is derived from the EFE matrix based on division
external factors weight and rating.
• Division
A division of a business entity is a portion of that business that operates under a
different name.

How IE Matrix Looks?
The IE matrix have two important dimensions IFE total weighted score
on x-axis and EFE total weighted score on y-axis. The number
represents the cells and circle are the divisions plotted on the basis of
IFE and EFE scores.

What are the Classification on X and
Y- Axis?

How to decide strategies for Divisions
on basis of IE Matrix Cells?
*Backward, Forward, or
Horizontal Integration
*Market Penetration
*Market Development
*Product Development
*Market Penetration
*Product Development
*Retrenchment
*Divestiture

What are the information required to
plot the Divisions in IE Matrix?
Division Sales
Percent
Sales Profits
Percent
Profits
IFE
Scores
EFE
Scores
1 $100 25 10 50 3.6 3.2
2 200 50 5 25 2.1 3.5
3 50 12.5 4 20 3.1 2.1
4 50 12.5 1 5 1.8 2.5
Total 400 100 20 100

What are the Circles in IE Matrix?
• The circle represents the divisions. The larger the
revenue/sales, the larger will be the size of the circle.
The marked or sliced area of the circle shows the
profits of the division as shown below.
• The circle represents the division with 50 percent of
profits.

IE MATRIX
IFE=2.74
EFE=2.80
Hold and Maintain

Division Sales Percent Sales Profits
Percent
Profits IFE Scores EFE Scores
1 $100 25 10 50 3.6 3.2
2 200 50 5 25 2.1 3.5
3 50 12.5 4 20 3.1 2.1
4 50 12.5 1 5 1.8 2.5
Total 400 100 20 100
Example
2
50%
(3.6,3.2)
25%
(2.1,3.5)
20%
(3.1,2.1)
5%
(1.8,2.5)
21
43

• In performing case analysis, feel free to
estimate the IFE and EFE scores for the
various divisions based upon your
research into the company and industry-
rather than preparing a separate IE
Matrix for each division.

• Quadrant 2 Quadrant 1
• QUADRANT 3 QUADRANT 4
Grand Matrix Analysis

Grand Matrix Analysis
• Quadrant I
– continued concentration on current markets (market
penetration and market development) and products
(product development) is an appropriate strategy
• Quadrant II
– unable to compete effectively
– need to determine why the firm’s current approach is
ineffective and how the company can best change to
improve its competitiveness

QUANTITATIVE STRATEGIC
PLANNING MATRIX
(QSPM)

Quantitative Strategic Planning Matrix
Quantitative Strategic
Planning Matrix
(QSPM)
Stage 3:
The Decision Stage

Formulation Framework
External Factor Evaluation
Matrix (EFE)
Competitive Profile
Matrix
Internal Factor Evaluation
Matrix (IFE)
Stage 1:
The Input Stage

SPACE Matrix
Stage 2:
The Matching Stage
TOWS Matrix
BCG Matrix
IE Matrix
Grand Strategy Matrix

Quantitative Strategic
Planning Matrix
(QSPM)
Stage 3:
The Decision Stage

QSPM
• Only technique designed to
determine the relative attractiveness
of feasible alternative actions

QSPM
• Tool for objective evaluation of alternative
strategies
• Based on identified external and internal
crucial success factors
• Requires good intuitive judgment

Step in a QSPM
1.) Make a list of the firm’s key external
opportunities/threats and internal
strengths/weaknesses in the left column of the
QSPM
2.) Assign weights to each key external and
internal factor
3.) Examine the Stage 2 (matching) matrices,
and identify alternative strategies that the
organization should consider implementing

Step in a QSPM
4.) Determine the Attractiveness Scores (AS)
5.) Compute the Total Attractiveness Scores
6.) Compute the Sum Total Attractiveness
Score

QSPM (Quantitative strategic planning matrix) for XYZ Company
Acquire competitor Expand internally
Key Factors Weight AS TAS AS TAS
STRENGTHS
1 Unique product 0.11 2 0.22 1 0.11
2Location of your business 0.09 3 0.27 2 0.18
3worker's unique skill set 0.15 1 0.15 4 0.60
4Quality product 0.11 4 0.44 4 0.44
5Increasing work productivity 0.09 0 0 3 0.27
WEAKNESSES
1Lack of quality and customer service 0.10 4 0.4 3 0.30
2Poor marketing and sales 0.15 2 0.3 1 0.15
3Undifferentiated product 0.08 3 0.24 0 0.00
4Negatively sensitive to globalization 0.12 1 0.12 1 0.12
Sum weight 100%
OPPORTUNITIES
1A new emerging or developing market 0.09 4 0.36 0 0.00
2Possible acquisition of competitor 0.14 4 0.56 2 0.28
3Membership in trade alliance 0.16 0 0 1 0.16
THREATS
1Increasing competition in the market 0.08 4 0.32 1 0.08
2Price war 0.10 3 0.3 0 0.00
3Competitor oligopoly 0.18 2 0.36 1 0.18
4Us dollar exchange rate 0.09 0 0 0 0.00
5Infavorable taxes 0.16 0 0 0 0.00
Sum weight 100%
Sum Total Attractives Score 4.04 2.87

QSPM (Quantitative strategic planning matrix) for CD-R KING
Market Penetration Market Development
Key Factors Weight AS TAS AS TAS
OPPORTUNITIES
1Technological advancement 0.40 4 1.60 3 1.2
2Location of your business 0.10 - 0.00 - -
THREATS
1 China products are less expensive 0.30 2 0.60 - -
2 Other stores are offering branded and more popular
products
0.20 3 0.60 - -
Sum weight 100%
STRENGTHS
1Many customers 0.30 - 0.00 4 1.20
2
Offers variety of products at a cheaper price
0.30 3 0.90 - -
WEAKNESSES
1Long line for waiting customers 0.10 0 0.00 4 0.40
2Poor quality of most products 0.30 3 0.90 - -
Sum weight 100%
Sum Total Attractives Score 4.6 2.8

QSPM
Limitations:
• Requires intuitive judgments and
educated assumptions
• Only as good as the prerequisite
inputs

QSPM
Positives:
• Sets of strategies examined
simultaneously or sequentially
• Requires the integration of pertinent
external and internal factors in the
decision-making process

Definition
• deciding who is going to do what and by when
and in what order for the organization to
reach its strategic goals.
• The design and implementation depend on
the nature and needs of the organization.

Developing Action Plan
1. Actions plans specify the actions needed to address each of
the top organizational issues and to reach each of the
associated goals
2. Develop an overall
3. Develop an action plan for each major function in the
organization, e.g., marketing, development, finance,
personnel, and for each program/service, etc.
4. Ensure each manager (and, ideally each employee) has an
action plan that contributes to the overall.
5. The format of the action plan depends on the nature and
needs of the organization. The plan for the organization,
each major function, each manager and each employee,
might specify:

The plan for the organization, each major function, each
manager and each employee, might specify:
a) The goal(s) that are to be accomplished
b) How each goal contributes to the organization's overall
strategic goals
c) What specific results (or objectives) much be
accomplished that, in total, reach the goal of the
organization
d) How those results will be achieved
e) When the results will be achieved (or timelines for
each objective)

Developing Objectives & Timeline
1.Objectives are specific, measurable results
produced while implementing strategies.
2.While identifying objectives, keep asking “Are you
sure you can do this?”
3.Integrate the current year’s objectives as
performance criteria in each “implementer’s” job
description and performance review.
4.Remember that objectives and their timelines are
only guidelines, not rules set in stone. They can
be deviated from, but deviations should be
understood and explained.

5.Consider the following example format for
action your plan.
Strategic
Goal
Strategy Objective
Responsibilit
y
Timeline
1. (Goal #1) 1.1 (first
strategy to
reach Goal
#1)
1.1.1 (first
objective to
reach while
implementing
Strategy #1.1)
(who’s going
to accomplish
that
objective)
(when the
implementer
is going to be
accomplish
that
objective)

Sales Forecast
The expected sales result of the
recommended specific strategies

Factors Affecting Sales Forecasting

Factors Affecting Sales Forecasting
Internal Factors
 Working capital
 Inventory requirements
 Price changes
 Distribution strategies
 Production capacity
 New product lines
* Sales is a responsibility of the Marketing Group and such
sales forecast is affected by the marketing strategy of the
group.

Forecasting Approaches
 Top-down or Break-down approach
Estimate of company market potential considering
the relevant factors affecting the forecast
 Bottom-up or Build-up approach
Combined estimate from the expectation of sales
personnel from their respective customers

Sales Forecasting Methods
Qualitative Methods Quantitative Methods
• Executive opinion • Moving averages
• Delphi method • Exponential smoothing
• Salesforce composite • Decomposition
• Survey of buyers’
intentions
• Naïve / Ratio method
• Test marketing • Regression analysis
• Econometric analysis

Definition
An income projection statement is a formal
document prepared by finance or accounting
officers within a company. Income projection
statements look at the monies the business will
gain over a specific period, normally one year,
minus anticipated expenses for that period.
Because getting a final figure for income
means looking at monies both gained and lost,
income projection statements sometimes are
called profit and loss statements.

Purpose
• The primary purpose of creating an income projection
statement is to figure out how much money the company
will generate in the future. This is important for
planning, including the company budget. By looking at
the income projection statement and comparing it to
records showing what actually happened, company
managers can identify possible problems and devise
ways to address them.
• A secondary purpose of an income projection statement
is to support loan proposals. Investors can look at the
company's projections and the related documentation
and analyze whether the projections are accurate. If the
projections are well-founded, the lender may believe the
company has a good ability to repay what it borrows.

• Revenues are the amounts that a business earns from
selling goods or providing services to its customers.
• The cost of goods sold is the cost of the merchandise that
a retailer, distributor, or manufacturer has sold.
• Gross profit is net sales minus the cost of goods sold
• Expenses may be in the form of actual cash payments
(such as wages and salaries), a computed expired portion
(depreciation) of an asset, or an amount taken out of
earnings (such as bad debts). Expenses are summarized
and charged in the income statement as deductions from
the income before assessing income tax. Whereas all
expenses are costs, not all costs (such as those incurred in
acquisition of income generating assets) are expenses.

• Earnings before tax (EBT) is an indicator of a
company's financial performance calculated as revenue
minus expenses, excluding tax.
• Net profit represents the number of sales dollars
remaining after all operating expenses, interest, taxes and
preferred stock dividends (but not common stock
dividends) have been deducted from a company's total
revenue.

Example
Company A: Sold: 1000 items, price:
50$, cost for each item: 15$,
expenses for commission : 5,000$,
marketing: 6,000$, Office expenses:
9,000$, Labor: 9,000$, Taxes: 30%

Company X
Projected Income Statement
20xx
Revenues 50,000
Cost of goods sold 15,000
Gross profit 35,000
Expenses
- Commission
- Marketing expenses
- Office expenses
- Labor
5,000
6,000
9,000
9,000
Total expenses 29,000
Earning before Taxes 6,000
Taxes ( 30%) 1,800
Net profit 4,200

Balance Sheet Contents
• The balance sheet is also known as the statement of
financial position or statement of financial
condition.
• The balance sheet discloses, at a specific point in
time,
– what an entity owns (or controls),
– what it owes, and
– what the owners’ claims are.
Assets = Liabilities + Owners’ equity
170

Balance Sheet Elements
•Assets (A): resources controlled by the company as a
result of past events and from which future economic
benefits are expected to flow to the entity.
•Liabilities (L): obligations of a company arising from
past events, the settlement of which is expected to
result in an outflow of economic benefits from the
entity.
•Equity (E): represents the owners’ residual interest in
the company’s assets after deducting its liabilities.
171

Equity
• The balance sheet provides important information about a
company’s financial condition.
• However, balance sheet amounts of equity (assets, net of
liabilities) should not be viewed as a measure of either the
market or intrinsic value of a company’s equity.
• Why?
– The balance sheet is a mixed model with respect to
measurement (some items at historical cost, some items at
current value).
– Even current value reflects a value that was current at the
end of the reporting period.
– Future cash flows, which affect value, are driven by items
excluded from the balance sheet (e.g., reputation,
management skills). 172

Balance Sheet Example
Colgate-Palmolive Company (Assets)
173

Balance Sheet: Example
Colgate-Palmolive Company
(Liabilities)
174

Balance sheet: example
Colgate-Palmolive company (equity)

Balance sheet format
• Liquidity
– For a company overall, its ability to pay for short-term
obligations
– For a particular asset or liability, its “nearness to cash”
• Balance sheet ordering according to liquidity
– Companies using U.S. GAAP (e.g., Colgate) order items
on the balance sheet from most liquid to least liquid.
– Companies using IFRS order balance sheet
information from least liquid to most liquid.
176

Henkel AG (Assets)
177

L’ORÉAL (Assets)
178

Current And Noncurrent
Assets And Liabilities
•Balance sheet must distinguish between and
present separately
–current and noncurrent assets
–current and noncurrent liabilities
•Exception to the current and noncurrent
classifications requirement, under IFRS:
–Current and noncurrent classifications are not
required if a liquidity-based presentation
provides reliable and more relevant
information. 179

Current And Noncurrent
Assets And Liabilities
–In a liquidity-based presentation, all assets
and liabilities presented in order of liquidity.
–Liquidity-based presentation are often used
by banks.
• Classified balance sheet:
Balance sheet with separately classified
and noncurrent assets and liabilities.
180

Barclays Plc (Assets)
181

Current And Noncurrent Assets And Liabilities
• Current assets: Assets expected to be sold, used up, or
otherwise realized in cash within one year or one
operating cycle of the business, whichever is greater, after
the reporting period.
• Noncurrent assets: Assets not classified as current. Also
known as long-term or long-lived assets.
• Current liabilities: Liabilities expected to be settled within
one year or within one operating cycle of the business.
• Noncurrent liabilities: All liabilities not classified as
current.
• Working capital: The excess of current assets over current
liabilities. 182

Measurement Bases Of Current Assets:
Cash And Cash Equivalents
•Cash Equivalents: Highly liquid, short-term
investments that are so close to maturity that the risk
of significant change in value from changes in interest
rates is minimal.
–Examples:
•demand deposits with banks
•highly liquid investments with original maturities of
three months or less (e.g., U.S. T- bills, commercial
paper, money market funds)
–For cash and cash equivalents, amortized cost and
fair value are likely to be immaterially different. 183

Trade Receivables
• Trade receivables: Amounts owed to a company by its
customers for products and services already delivered.
• Also referred to as accounts receivable.
• Typically reported at net realizable value, an
approximation of fair value, based on estimates of
collectability.
• Aspects of accounts receivable often relevant to an
analyst:
–overall level of accounts receivable relative to sales,
–allowance for doubtful accounts, and
–concentration of credit risk. 184

Measurement bases of receivables:
L’ORÉAL Example
Based on the note below, what percentage of its receivables did
L’Oréal estimate will be uncollectible?
185
Answer:
• For 2011, €46.2 divided by €3,042.3 = 1.52%.
• For 2010, €48.1 divided by €2,733.4 = 1.76%.
• For 2009, €50.2 divided by €2,493.5 = 2.01%.

Measurement basis of current assets: Inventory
Goods
Purchased
Beginning
Inventory
Goods
Available
for
Sale
Ending
Inventory
Cost of
Goods Sold
Balance Sheet Income Statement
Inventory Cost Flow
186

Inventory
U.S. GAAP
• Lower of cost or market (LCM):
– Market defined as replacement
cost with a floor (Net realizable
value, or NRV, less normal
profit margin) and a ceiling
(NRV).
– NRV defined as estimated
selling price less estimated
costs of completion and sale.
• Reversals of prior write-downs are
NOT allowed.
• Permits last in, first out (LIFO).
IFRS
• Lower of cost or net realizable value
(LCNRV):
– NRV defined as estimated selling
price less estimated costs of
completion and sale.
• Reversals of prior write-downs can
be made and recognized in income.
• Does not permit LIFO.
187

Measurement bases of noncurrent
assets:
Property, plant, and equipment
U.S. GAAP
• Permit only the cost model for
reporting PP&E.
• Reversals of prior impairment
losses are NOT allowed.
IFRS
• Permit either cost model or
revaluation model.
– Can use different models
for different classes of
assets.
– Must apply same model to
all assets within a particular
class.
• Reversals of impairment losses
are permitted.
188

Measurement bases of financial assets
189
Financial
Assets
Measured at Fair
Value
Changes in Value through Profit
and Loss
Trading Securities (stocks and
bonds)
Changes in Value through
IFRS: Designated Equity
Investments
U.S. GAAP: Available-for-Sale Debt
or Equity
Measured at
Amortized Cost:
- Held-to-Maturity
- Debt Instruments

Common types of Current liabilities
• Trade payables, also known as accounts payable: Amounts that a
company owes its vendors for purchases of goods and services—in
other words, the unpaid amounts of the company’s purchases on
credit as of the balance sheet date.
• Notes payable: Financial liabilities owed by a company to creditors,
including trade creditors and banks, through a formal loan
agreement.
• Accrued expenses (also called “accrued expenses payable,” “accrued
liabilities,” and other “nonfinancial liabilities”) are expenses that have
been recognized on a company’s income statement but that have not
yet been paid as of the balance sheet date.
• Deferred income (also called “deferred revenue” and “unearned
revenue”) arises when a company receives payment in advance of
delivery of the goods and services associated with the payment.
190

Common Types Of Noncurrent Liabilities
• Long-term financial liabilities: Include loans (i.e., borrowings from
banks) and notes or bonds payable (i.e., fixed-income securities
issued to investors).
• Usually reported at amortized cost on the balance sheet.
• In certain cases, liabilities, such as bonds, issued by a company
are reported at fair value.
• Deferred tax liabilities: Amount of income taxes payable in future
periods with respect of taxable temporary differences.
• Result from temporary timing differences between a company’s
income as reported for tax purposes (taxable income) and income
as reported for financial statement purposes (reported income).
191

Components Of Shareholders’ Equity
• Capital contributed by owners (or common stock
or share capital)
• Preferred shares
• Treasury shares (or treasury stock)
• Retained earnings
• Accumulated other compresensive income (or
other reserves, items recognized directly in
equity)
• Noncontrolling interest (or minority interest)
192

Balance sheet: example
L’ORÉAL (equity and liabilities)
193

Analysis of balance sheets
• Liquidity
–A company’s ability to meet its short-term financial
commitments.
–Assessment focus: The company’s ability to convert assets to
cash and to pay for operating needs.
• Solvency
–A company’s ability to meet its financial obligations over the
longer term.
–Assessment focus: The company’s financial structure and its
ability to pay long-term financing obligations.
• Analytical Tools
–Common-size analysis.
–Balance sheet ratios.
194

Common-size Balance Sheets
195
($ thousands) A B C
ASSETS
Cash, cash equivalents, marketable securities 1,900 200 3,300
Accounts receivable 500 1,050 1,500
Inventory 100 950 300
Total current assets 2,500 2,200 5,100
Property, plant, and equipment, net 750 750 4,650
Goodwill 0 300 0
Total assets 3,250 3,250 9,750
LIABILITIES AND EQUITY
Accounts payable 0 2,500 600
Total current liabilities 0 2,500 600
Long-term bonds payable 10 10 9,000
Total liabilities 10 2,510 9,600
Total shareholders’ equity 3,240 740 150
Total liabilities and shareholders’ equity 3,250 3,250 9,750

196
(percent of total assets) A B C
ASSETS
Cash, cash equivalents, marketable securities 58.46% 6.15% 33.85%
Accounts receivable 15.38% 32.31% 15.38%
Inventory 3.08% 29.23% 3.08%
Total current assets 76.92% 67.69% 52.31%
Property, plant, and equipment, net 23.08% 23.08% 47.69%
Goodwill 0.00% 9.23% 0.00%
Total assets 100.00% 100.00% 100.00%
LIABILITIES AND SHAREHOLDERS’ EQUITY
Accounts payable 0.00% 76.92% 6.15%
Total current liabilities 0.00% 76.92% 6.15%
Long-term bonds payable 0.31% 0.31% 92.31%
Total liabilities 0.31% 77.23% 98.46%
Total shareholders’ equity 99.69% 22.77% 1.54%
Total liabilities and shareholders’ equity 100.00% 100.00% 100.00%

197
(percent of total assets) A B C
ASSETS
Cash, cash equivalents, marketable securities 58% 6% 34%
Accounts receivable 15% 32% 15%
Inventory 3% 29% 3%
Total current assets 77% 68% 52%
Property, plant, and equipment, net 23% 23% 48%
Goodwill 0% 9% 0%
Total assets 100% 100% 100%
LIABILITIES AND SHAREHOLDERS’ EQUITY
Accounts payable 0% 77% 6%
Total current liabilities 0% 77% 6%
Long-term bonds payable 0% 0% 92%
Total liabilities 0% 77% 98%
Total shareholders’ equity 100% 23% 2%
Total liabilities and shareholders’ equity 100% 100% 100%

Balance sheet Ratios: liquidity ratios
Ratio Calculation
Current Current assets /Current liabilities
Quick (acid test) (Cash + Marketable securities + Receivables) / Current
liabilities
Cash (Cash + Marketable securities) /
Current liabilities
198
Liquidity ratios indicate a company’s ability
to meet current liabilities.

Balance Sheet Ratios: Solvency Ratios
Ratio Calculation
Long-term debt to equity Total long-term debt  Total equity
Debt to equity Total debt  Total equity
Total debt (also known as
debt to assets)
Total debt  Total assets
Debt to capital Total debt  (Total debt + Total equity)
Financial leverage Total assets  Total equity
199
Solvency ratios indicate financial risk and financial
leverage and a company’s ability to meet its
financial obligations over time.

SUMMARY
• Balance Sheet: what an entity owns (or controls),
what it owes, and what the owners’ claims are at a
specific point in time.
• Balance sheets usually present current and
noncurrent assets and liabilities.
• Accounting issues relate primarily to measurement
(historical cost versus fair value).
• Tools for balance sheet analysis include common-size
analysis and balance sheet ratios.
• Balance sheet ratios indicate liquidity and solvency.
200

Learning Objectives
1.Describe the cash flow activities reported in
the statement of cash flows.
2.Prepare a statement of cash flows, using the
indirect method.
3.Prepare a statement of cash flows, using the
direct method.

Learning Objective 1
1.Describe the cash flow activities reported in

Reporting Cash Flows
• The statement of cash flows reports a firm’s
major cash inflows and outflows for a period.
It provides useful information about a
company’s ability to do the following:
1. Generate cash from operations
2. Maintain and expand its operating capacity
3. Meet its financial obligations
4. Pay dividends
LO 1

LO 1
• The statement of cash flows reports cash
flows from three types of activities:
1. Cash flows from operating activities are cash
flows from transactions that affect net income.
2. Cash flows from investing activities are cash
flows from transactions that affect investments
in the noncurrent assets of the company.
(continued)

LO 1
3. Cash flows from financing activities are
cash flows from transactions that affect the
equity and debt of the company.

Cash Flows from Operating Activities
• The direct method reports operating cash
inflows (receipts) and cash outflows
(payments) as follows:
LO 1
The primary
operating cash
inflow is cash
received from
customers.

Cash Flows from Operating Activities
LO 1
• The primary operating cash outflows are cash
payments for merchandise, operating
expenses, interest, and income tax payments.

• The indirect method reports the operating cash
flows by beginning with net income and adjusting
it for revenues and expenses that do not involve
the receipt or payment of cash as follows:
LO 1

LO 1
• Whether the direct or indirect method is used,
the amount of net cash flow from operating
activities will be the same. This is illustrated in
Exhibit 2 in the next slide.

Cash Flows from Investing Activities
• Cash inflows from investing activities normally
arise from selling fixed assets, investments,
and intangible assets.
• Cash outflows from investing activities
normally include payments to acquire fixed
assets, investments, and intangible assets.
LO 1

LO 1
Cash Flows from Financing Activities
• Cash inflows from financing activities normally
arise from issuing long-term debt or equity
securities.
• Cash outflows from financing activities
normally include paying cash dividends,
repaying long-term debt, and acquiring
treasury stock.

1. Describe the cash flow activities reported in
2. Prepare a statement of cash flows, using the
indirect method.

Step 1
• Expenses that do not affect cash are added.
Such expenses decrease net income, but do
not involve cash payments and, thus, are
added to net income. Examples include
depreciation of fixed assets and amortization
of intangible assets.
LO 2

Step 2
• Losses and gains on disposal of assets are
added or deducted. The disposal (sale) of
assets is an investing activity, rather than
an operating activity. Losses on disposal
of assets are added back to net income.
Gains on disposal of assets are deducted
from net income.
LO 2

Step 3
• Changes in current operating assets and
liabilities are added or deducted as follows:
– Increases in noncash current operating assets are
deducted.
– Decreases in noncash current operating assets
are added.
– Increases in current operating liabilities are
added.
– Decreases in current operating liabilities are
deducted.
LO 2

1. Describe the cash flow activities reported in
indirect method.
direct method.

The Direct Method
LO 3
• The direct method reports cash flows from
operating activities as follows:

The Direct Method
• The final amount reported in the Cash Flows
from Operating Activities section will be the
same whether the direct or indirect method is
used. The methods differ in how the data are
obtained, analyzed, and reported.
LO 3

The Direct Method
• Depreciation expense is not adjusted or
reported as part of cash flows from operating
activities. This is because depreciation
expense does not involve a cash outflow.
LO 3

Gains and losses are also not
adjusted, because the cash flow from
operating activities is determined
directly, rather than by reconciling net
income. Proceeds from the sale of
land, which include any gains or
losses, are reported as an investing
activity.
The Direct Method
LO 3

DEFINITION
• Financial metrics that measure a
Company’s ability to pay it’s short-
term debt obligations.

Current Ratio
• That measures a
company's ability to pay its
short -term obligations.
• Current ratio = Current
assets / Current liabilities
• Current assets ( Cash,
inventory, receivables)
Current liabilities (Debts,
other payable)

1. The higher the current ratio, the stronger and
more able the company is in meeting its
obligations.
• If a company is able to pay off its debts
without any difficulty, this means that the
company enjoys good financial health.
2. Would be unable to pay off its obligations if
they came due at that point. While a current
ratio below 1 shows that the company is not in
good financial health, it does not necessarily
mean that it will go bankrupt.
• .

• Company A appears to be in a better financial position
compared to Company B, having a higher current ratio.
With a ratio below 1, Company B might face challenges
if the obligations are recalled now.
• This may imply that the management in Company A is
better at optimizing the company’s operating ability,
and as a result is more efficient than Company B.
Company B which may be facing difficulties getting
payment for their goods and services would run into
liquidity problems because they are unable to alleviate
their obligations. As each industry has its own peculiar
business operations, it is better to compare companies
within a particular industry.
• Thus, if both A and B are in the same industry,
Company A would be the preferred choice of investors.

• 3. Current ratio = 5 : 1
• Does not necessarily indicate that a company
is in a state of financial well-being either.
Depending on how the company’s assets are
allocated, a high current ratio may suggest that
that company is not using its current assets
efficiently, is not securing financing well or is
not managing its working capital well. To
better assess whether or not these issues are
present, a liquidity ratio more specific than the
current ratio is needed.

• No one ratio is a perfect gauge of a company’s
financial health or of whether or not investing
in a company is a wise decision. As such, when
using them it is important to understand their
limitations, and the same holds true for the
current ratio.

What Is The 'Quick Ratio'
• Measures the company’s ability to pay off its
short-term obligations from current assets,
excluding inventories.
• Formula:
• Quick ratio = (current assets – inventories) /
current liabilities

INTERPRETATION
• Quick ratios establish the relationship between
quick or liquid assets and liabilities. An asset is
liquid if it can be converting in to cash immediately
or reasonably soon without a loss of value. Cash is
the most liquid asset .other assets which are
consider to be relatively liquid and include in quick
assets are debtors and bills receivable and
marketable securities. The liquid ratio of 1:1 is
suppose to be standard or ideal but here ratio is
more than 1:1 over the period of time, it indicates
that the firm maintains the over liquid assets than
actual requirement of such assets.

• From quick ratio we can get a formula:
• Inventory to net working capital = Inventory /
(current assets – current liabilities)
A measure of inventory balance, measure the
extent to which the cushion of excess current
assets over current liabilities maybe
threatened by unfavorable changes in
inventory

Cash Ratio
• Measures the extend to which the company’s
capital is in cash or cash equivalents, show
how much of the current obligation can be
paid from cash or near – cash assets.

1. Cash Ratio equals to 1
- It means cash and cash equivalents are
equal to the short term liabilities.
2. Cash Ratio greater than 1
- It means more cash in the system than
required for payment of short-term
liabilities
3. Cash Ratio lower than 1
- It means cash in the system is insufficient
to pay for short-term liabilities.

CONCLUSION
• If the current assets are equal to or more
than current liabilities, the conditions of
the cash ratio of company is satisfactory.
The cash ratio of company is marginal
satisfactory although are fluctuation is
the ratio is 1:1 .

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