08. Case Frameworks Flashcards
What should you consider regarding external forces?
> Industry: Porter’s Five Forces > Competitors 1) Who are they? - Differentiation: Are they doing better than us? How do they differ? a. Lower price b. Better product c. Better delivery/service - Market share 2) Barriers to entry: Are they bigger? How are they leveraging scale? 3) Any reaction to your actions? 4) where are the comps trading?
> Customers
1) What is the unmet need?
2) Who is the customer?
- Target segments
- Demographics (age, sex, income, education, etc)
3) What motivates the customer?
- Price sensitivity
- Quality
- Service
4) What are the customer’s trends/preferences (past, present, future)?
- Current/anticipated usage
- Purchasing patterns relative to capacity
- Demand growth
5) Brand dilution
> Market Growth
1) Rate of growth and reason behind it
- Sustainability; Cyclicality
2) consolidation? - attractive exit opportunities?
> Supply/Demand
1) Capacity
2) Usage
> Uncontrollable Factors
1) Macroeconomics: inflation, GDP, unemployment
2) Socio-Cultural: trends, preferences
3) Regulatory: creating high barriers to entry
4) Technology: quick changes making inventory obsolete
5) Litigation: adverse lawsuits
6) Public perception: reactions
What should you consider regarding the company’s strategy?
> Core Competency: what does the firm do well? (SWOT Analysis)
1) Provides customer benefits
2) Hard for competitors to imitate
3) Can be leveraged widely to many products and markets
> Competitive Advantage: how does company earn above-average profits?
1) Pricing
2) Differentiation (quality, performance, reliability, durability, features, perceived quality of the brand)
3) Focus: niche/specialty
> product life cycle 1) emerging, growing, mature, declining > Strategic Options 1) Expand scope - Merge: vertical or horizontal - Acquire - JV - Enter new market - Develop and sell new products/services 2) Narrow scope - Divest - Exit market 3) Change direction - Reposition company’s brand, focus or image 4) Do nothing
> Strategic Fit
1) Does it fit with our core competency?
- Define broadly in order to allow itself to be flexible enough to adapt to market changes
- Spin off businesses that are not part of core business
2) Cost Benefit Analysis: what makes the strategic option desirable?
- Benefits/synergies:
a. Additional revenue: branding/pricing power; new markets/consumers; improved management
b. Reduced costs: SG&A, economies of scale
- Costs/risks:
a. Extra costs: initial investment/acquisition cost, cultural fit, integration risk, transaction costs, revenue cannibalization
What should you consider regarding the company’s operations?
> Profitability Analysis
1) Revenue Drivers: how much growth is projected (CAGR) and how much is attributed to growth of the industry?
- Price
a. Supply (capacity) / demand (usage)
b. Demand elasticity
c. Differentiated (value-add) vs commodity (cost-plus)
d. Customer service
e. Brand strength
f. Industry fundamentals
- Volume
a. Increase market share (organic vs acquisitions)
b. More products
c. Improve technology
d. Reputation / perceived quality
e. Key personnel with customer relationships
f. Industry fundamentals
2) Cost Drivers: outsource or in-house? how can they be controlled?
- Variable Costs
a. Labor
b. Materials: concentrate purchasing? economies of scale?
c. Marketing
d. Distribution: efficient supply chain?
e. Management:
- Fixed Costs
a. Initial investment
b. Equipment
c. Utilities / facilities
d. Rent / insurance
e. Overhead
3) Mix
- Product
a. Advantages / disadvantages
b. Differentiation
c. Substitution
- Customer
a. Who?
b. Needs? Service levels?
c. How to reach and retain?
- Distribution channel
4) FCF Generation
- EBITDA: P x V - VC - FC
- capex: growth vs maintenance
- net working capital: efficiency
> Value Chain Analysis
1) Determine company’s value-add and competitive advantage
- Primary Activities: Raw materials – inbound logistics – operations – distribution – marketing and sales – customer service
- Support Activities: IT, HR, Finance
What should you consider regarding the company’s organizational structure?
> Management Team and Culture
1) Skills: experience and competence; replaceable?
2) Incentives: equity stake in the business?
3) Relationships: industry connections (buyers/suppliers)
4) Simplify or change roles and responsibilities
> Processes
1) Quality
2) Efficiency
- Working capital management
3) Capabilities
4) Distribution
> Tools
1) Upgrade tools
2) Simplify and integrate systems
3) Automate non-value add activities
> Measure
1) Create and compare metrics
What should you consider regarding the financing of the investment?
> Entry / Exit Dynamics (public comps and precedents)
1) Valuation
2) Breakeven analysis
> Deal Structure: Sources and Uses
1) Cash
2) Debt
3) Stock
> Debt Capacity: reference point is needed
1) Leverage ratios
2) Liquidity ratios
What are the main criteria to consider when deciding to make an investment?
1) External: low reliance on uncontrollable factors (e.g. Non-cyclical product offering)
2) Strategy: limited business risk due to competitive edge and strong, defensible market position
3) Operations: strong predictable cash flows with growth potential and cost cutting opportunities
4) Organizational Structure: strong, experienced management team
5) Financing: clean B/S with high debt capacity; viable exit strategies exist
What makes an industry attractive?
1) moderate fragmentation
2) high barriers to entry
3) low reliance on customer / supplier
4) large market with growth potential
5) low reliance on uncontrollable factors
What are Porters’ five forces?
(1) Competitive rivalry
- Perfect competition, oligopoly, or monopoly
- What is the primary strategy for product competition (brand, quality, price, service)?
- What is market share / fragmentation (# of comps)?
- High fixed costs & low variable costs
- High barriers to entry
- Reactions to your actions?
(2) Threat of new entry
- Barriers to entry high or low (e.g. capital equipment, technology protection, labor unions, time, cost advantage, specialist knowledge)
- Economies of scale?
- Market fragmentation?
(3) Threat of substitutes
- Is substitution easy and viable?
- Low switching costs
(4) Supplier power
- How many suppliers are there for each key input? Size of each?
- How easy is it for suppliers to drive up prices?
- What is the uniqueness of their product or service, their strength and control over you, the cost of switching from one to another, and so on?
(5) Buyer power
- How many customers are there? Size of each order?
- Differences between services?
What factors result in high barriers to entry (low threat of new entrants)
- Economies of scale
- High capital requirements
- Differentiated products
- Hard to access distribution channels
- Existing companies have proprietary technology
- Limited access to raw materials
- Steep learning curve
What makes a buyer group powerful?
- If it is concentrated or accounts for a large % of sales
- If it buys undifferentiated products
- If many substitute products exist
- If it faces low switching costs
- Credible threat of backward integration
- Product is unimportant to quality of the buyer’s product
What makes a supplier group powerful?
-Supplier provides differentiated products
If there are high switching costs
-Few substitute products exist
-Credible threat of forward integration
Which factors make substitute products more threatening?
- If they compete in price with industry’s products
- Are produced by industries earning high profits
Which factors make competition more intense?
- Numerous competitors exist or equally balanced competitors
- Slow industry growth
- High fixed costs
- Lack of differentiation
What are the four stages of the product life cycle?
(1) Emerging
(2) Growth
(3) Maturity
(4) Declining
Common characteristics of emerging industry?
- Technological uncertainty
- No clear “right” strategy
- High initial costs
- Many new companies and spin-offs
- First-time buyers
Common characteristics of maturing industry?
- Slowing growth rates, decreasing profits
- Higher competition
- Emphasis on cost and service
- Experience, repeat buyers
Three generic strategies for companies in maturing industry
(1) Cost leadership
(2) Differentiation
(3) Focus
What are strategic options to companies in declining industries?
(1) Leadership: take leadership of market share
(2) Niche: identify attractive niche
(3) Turnaround:
(4) Harvest: cut new spending, cut costs as much as possible and take remaining cash flow out
(5) Quick divestment: exit early in the industry decline
Walk through a contribution analysis
Unit Selling Price – Variable Costs = Unit Contribution
$50.00 - $21.25 = $28.75
Fixed Costs / Unit contribution = breakeven volume
$30,000 / $28.7 = 1,043 units
Breakeven volume / total market share = break-even market share
1043 units / 14,300 units = 7% market share
Unit contribution x number of units sold for the year = total contribution to OH & Profit
$28.75 x 1,700 units = $48,875
Total contribution to OH & Profit – total overhead costs = Net Profit
$48,875 - $30,000 = $18,875
How do you determine a simplified market size?
[# of targeted customers] x [# of purchases made per year] x [units per purchase] x [price/unit] = total revenue in market
What are the three value disciplines to surpass competitors?
(1) Operational excellence (e.g. Toyota’s manufacturing process leadership)
(2) Customer intimacy (e.g. Amazon recommendations)
(3) Product Leadership (e.g. Apple)
What are the four Ps and what are they used for?
Marketing cases
1) Product
(2) Price
(3) Place (distribution
(4) Promotion
What is the 7 “S” Framework used for and what is it?
Analyzing the internals of a company (sources of competitive advantage)
Hardware
- Strategy
- Structure
- Systems
Software
- Staff
- Skills
- Style
- Shared values
What are the four C’s?
New product introductions, industry analysis
(1) Customers
(2) Competitors
(3) Cost
(4) Capabilities
What are the 5 C’s?
Alternative framework, primarily financial cases
(1) Character – dedication, track record, overall consumer perception of the company
(2) Capacity – are factories at/above/below capacity and why?
(3) Capital – cost of capital relative to competitors? Cash flow? Revenue? Debt load?
(4) Conditions – current business climate faced by company and industry? What is short-term and long-term potential in the industry? What stage is the market?
(5) Competitive Advantage – do they have any?
What are the key product growth drivers?
(1) Macro trends
(2) Awareness
(3) Availability
(4) Willingness to pay
What is a good due diligence framework?
(1) External Analysis
- Porter’s Five Forces
- Customer
- Market growth
- Uncontrollable factors
(2) Strategy
- Core Competency
- Competitive Advantage
- Strategic Options
(3) Operations
- Profitability analysis
- Value chain analysis
(4) Organizational Structure
- Management team and culture
- Processes
- Systems
(5) Financing
- Deal structure
- Debt capacity
Due diligence: what industry specific questions would you ask?
You might start off with industry questions to determine if it is an industry that the sponsor would want to be in, and then determine how well positioned the company is within that industry. Ask about market rivalry, whether the industry is growing, what the company’s and its competitors respective market shares are, what the primary strategy for product competition (brand, quality, price?) is. Ask whether there are barriers to entry or economies of scale, supplier and buyer power, threat of substitutes, etc.
Who are the customers and what are their needs and preferences?
How fast is the industry growing and how sustainable is that growth?
What are the legal and regulatory risks? Are there any HR issues like union or labor problems?
Due Diligence: What firm specific questions would you ask?
Then move onto questions about the company’s own operating performance to determine how well positioned the company is within that industry.
(1) Strategy
- What is the company exceptionally good at (strengths, core competency)?
- How does the company earn sustainable, above-average profits?
- Are there any strategic opportunities available to the firm to expand its scope? Are there any unprofitable, non-core assets or business lines?
(2) Operations
- Zero in on growth – how much growth is projected, how much is attributed to growth of the industry vs organic growth vs acquisition growth?
- What is the resilience of the company to downturns? (cyclicality, seasonality)
- What are the key revenue drivers?
- What demographics is the revenue focused in, and how will these demographics change
- What is the cost structure, how efficient are the distribution channels?
- What is the proportion of fixed vs variable costs?
- Are there any opportunities to cut costs?
- What is the proportion of growth vs maintenance capex?
(3) Organizational Structure
- How long has management been in their positions, what are their backgrounds?
- Which executives are replaceable?
- How well do you utilize assets?
- How efficient are your inventory management systems?
- How well do you collect on accounts receivable or manage accounts payable?
- Is there an opportunity for improvement or rationalization?
(4) Financing
- How much cash is available right now?
- What are the projected financials?
- What is the debt capacity of the company as it stands now?
- What is the exit strategy here? Is the industry consolidating so that a sale might be made easier?
How do you evaluate a company or investment?
(1) External Forces
- Industry: Porter’s Five Forces
- Competitor
- Customer
- Market Growth
- Supply/Demand
- Uncontrollable Factors
(2) Strategy
- Core Competency
- Competitive Advantage
- Strategic Options
(3) Operations
- Profitability Analysis
- Value Chain Analysis
(4) Organizational Structure
- Management team and culture
- Processes
- Tools
- Measurements
(5) Financing
- Initial costs vs exit
- Deal structure
- Debt capacity
(6) Investment Criteria
