Chapter 5 Flashcards
To effectively measure competitive advantage, you must be able to
(1) assess firm performance and (2) compare it to other firms
Firms can be compared on a variety of tangible and intangible
performance metrics
- Accounting profitability
- Shareholder value
- Economic value
Some of the profitability measures most commonly used in
strategic management include:
- Return on invested capital (ROIC)
- Return on equity (ROE)
- Return on assets (ROA)
- Return on revenue (ROR; better known as profit margin)
RETURN ON INVESTED CAPITAL
Indicates how effectively a company uses its invested capital or working
capital
ROIC =
New profits(less taxes)/Working Capital = (Net Profits/Revenue) x (Revenue/Working Capital)
• PROFIT MARGIN
how much of sales are converted to profits
WORKING CAPITAL TURNOVER
how effectively is capital being used to
generate revenue
Financial leverage
the financial contributions (assets) generated by money
borrowed; efficiency of generating assets from borrowed money
Financial leverage =
Total Assets / Total Equity
Higher is better
• Return on Assets
a measure that shows the profitability of a firm’s assets;
efficiency of generating net income from assets
• ROA =
Net Income / Total Assets
Higher is better
• Return on Equity
a measure that shows the profitability of a firm’s equity;
efficiency of generating net income from equity
ROE
Net Income / Total Equity
Higher is better
Tobin’s q:
ratio between market value and replacement value of the same
physical assets
• Can help a firm better understand the intangible value of the firm
• Tobin′s q =
(Market value of equity + market value of liabilities) / (Book value of equity + book value of liabilities)
Current Ratio =
Current Assets / Current Liabilites
ACID TEST
leaves out inventories
and prepaid expenses from current assets
Acid Test =
(Cash + Accounts Receivables) / Current Liabilities
CAPITAL
money they provided in return for an equity stake which cannot be
recovered if the firm goes bankrupt
Shareholder Returns =
∆ in stock price + dividends received
The idea that all available information is reflected in a firm’s stock
price is called the
EFFICIENT-MARKET HYPOTHESIS
MARKET CAPITALIZATION
captures the total dollar market value of a
companies outstanding shares
Market Cap =
of Shares Outstanding x Share Price
____ is the difference between a
buyer’s willingness to pay for a product or service and the total
cost to produce it
ECONOMIC VALUE CREATED
• EVC =
V (customer’s willingness to pay) – C (cost to produce the good)
Key differences between CONSUMER SURPLUS and
ECONOMIC VALUE CREATED
Maximizing consumer surplus increases SALES
• Maximizing EVC increases OVERALL VALUE and BUILDS COMPETITIVE
ADVANTAGES
Limitations of EVC
• Capturing value of a good through the eyes of a consumer is difficult and
tedious
• Preferences vary by goods, brands, firms, etc
• Value changes based on changes in preferences, which can be frequent
and unpredictable
• To determine FIRM-LEVEL competitive advantage, must estimate the EVC
for ALL the products and services offered by the firm
Balanced-Scorecard Approach
- How do customers view us?
- How do we create value?
- What core competencies do we need?
- How do shareholders view us?
A TRIPLE BOTTOM LINE approach
emphasizes performance in
three (3) dimensions
• Economic performance (e.g., profitability, economic value, etc)
• Social performance (e.g., employees, customers, society, etc)
• Ecological performance (e.g., environmental sustainability, etc)
___ detail a firm’s competitive tactics and
initiatives; stipulates how the firm conducts its business with
buyers, suppliers, and partners
BUSINESS MODELS
Two (2) elements of a business model
• The firm’s CUSTOMER VALUE PROPOSITION for satisfying buyer wants
and needs at a perceived good value
• The firm’s PROFIT FORMULA sets out how the firm’s cost structure will allow
for acceptable profits given the pricing tied to its customer value
proposition
• Razor-Razor Blade Model
initial product is often sold at a loss or even
given away for free in order to drive demand for COMPLEMENTARY
goods
Subscription-Based Model
users pay for access to the product or service
whether they use it
Pay-as-you-go Model
er only pays for the services he/she uses
Freemium Model
the basic features of a product or service are
provided for free, but the user must pay for premium content
