How Lean Six Sigma is used as a strategic business tool to increase shareholder value

The scientific approach to operations performance improvement

SIGMAS o l u t i o n s

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Copyright © 2006 Six Sigma Solutions LLC

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How Lean Six Sigma is used as a strategic business tool to increase shareholder value

LEAN SIX SIGMALEAN SIX SIGMA

FORFOR

INVESTORSINVESTORS



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PROBLEM

Every company is in competition for

Customers (for revenue growth)

Shareholders (to drive share price)

QUESTION

How does one reveal the potential for economic profit, revenue growth and hence value creation from different components of your business in a unified, methodical and consistent way?



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THE VALUE MOUNTAIN

Revenue Growth

EP% =

ROIC

- COC

Mar

ket

to B

oo

k V

alu

e

8

3

2

1

4

5

6

7

0

0-3% 3-9% 9-13% 13-25%(2

)-2%

2-6

% 6

-10%

>10

%

Competitor C

YOU ?

Competitor B

Competitor A

High ROIC = high

Based on data 1994 to 1998, Tom Copeland’s Valuation ex. 5.2, 2000 Edition

Low ROIC = low

Revenue Growth (X-axis)

Market to Book Value (Y-axis) - the stock market premium that will be paid for net assets (book value)

Economic Profit (Z-axis) - the difference between return on invested capital (ROIC %) and the cost of capital (COC%)



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THE VALUE MOUNTAIN cont’d

ROIC =Profit After Tax

Invested Capital

Invested capital is the total assets of the organization minus the current liabilities

Revenue Growth

EP% =

ROIC

- COC

Mar

ket

to B

oo

k V

alu

e

8

3

2

1

4

5

6

7

0

0-3% 3-9% 9-13% 13-25%(2

)-2%

2-6

% 6

-10%

>10

%

Competitor C

YOU ?

Competitor B

Competitor A

High ROIC = high

Based on data 1994 to 1998, Tom Copeland’s Valuation ex. 5.2, 2000 Edition

Low ROIC = low



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MAKING ROIC THE PRIORITY

ROIC is probably the strongest driver of high multiples of book value

Revenue growth is also a strong driver of higher market value

As ROIC% increases, the trading multiple typically increases

However if Economic Profit (EP%) = 0, then the ROIC% = Cost of Capital•i.e. Company likely to trade at around book value



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WHAT ABOUT REVENUE GROWTH?

Growth plans are often affected by uncontrollable external market forces• Rising energy costs• Increasing interest rates• Changing fashions (tastes)• Unpredictable politics• Global economic instability

And Growth without Economic Profit creates no long lasting value (e.g. many dot coms)

PROBLEM



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THE CONNECTION

Internal inefficiencies are easier to identify, measure and control

ROIC therefore is a HUGE value lever that’s easier to reach up to

However, performance improvement results MUST be tracked to the bottom line in support of strategic objectives



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EXECUTING CORPORATE STRATEGY

Identify the platforms for shareholder value creation at both corporate and business unit levels

Identify value streams within the business units that suggest the greatest potential for improving shareholder value

Identify and prioritize projects that will maximize value

THE LEAN SIX SIGMA APPROACH



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CORPORATE ANALYSIS

Strategic Issue YouCompetitor

ACompetitor

BCompetitor

CAvg

Std Dev

CEO Goal

Share Price A

Economic Profit %

Growth Rate

Market to Book

Owner Earnings/Profit

Comparing value with other companies will often indicate where the corporate opportunities are



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BUSINESS UNIT ANALYSIS – part 1

Net Assets

Economic Profit as a % of Invested Capital (spread)

A

B

C

D

0%

5%

10%

-5%

E

-10%

EP% shows where Value is being created

Creating Value

Destroying Value

302010 40 50

A comparison of each business unit will show where Value is being created or destroyed

“…some companies get a conglomerate discount, but there are others like GE who got a conglomerate premium. And guess what? It all depends on performance, and if we could get our performance up, we felt we’d be able to earn those types of premiums..…that’s how we started Value Based Six Sigma.”

- Lou Giuliano (CEO, ITT Industries), May 2000

Invested Capital



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AC

B

DE

Disadvantaged Parity Advantaged

EVA Breakeven

Economically

Profitable

COMPETITIVE POSITION

MA

RK

ET

PR

OF

ITA

BIL

ITY

Unprofitable

Profitable

Measurement of both business unit profitability and competitiveness shows relative position

The larger the circle, the greater the revenue



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Identify specific projects within a targeted value stream

Prioritize projects based on the likely benefit

Expose Lean Six Sigma opportunities through quality and time based complexities



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WHY LEAN SIX SIGMA?

Lean Six Sigma incorporates the principle of Lean’s simplified flow and speed to increase business process velocity

Lean Six Sigma incorporates Six Sigma’s approach to eliminating errors, variation and instability

The combination of Lean & Six Sigma attacks the “hidden factory” of complexity in your business



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MOVING THE VALUE LEVER

Lower material costs

LEAN Reduced waste

Lower inventories

Fewer assets

Methodology Improvement Benefit Location

SIX SIGMA Reduced variance

Reduced DSO

Lower cost of labor

Lower R&D costs

Balance

Sheet

Income

Statement



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Price

Volume

Labor

Material

Fixed Cost

Labor

Sales & Manufacturing

Non Labor

SG & A

Revenue

R&D

Cost of Goods Sold

SG & A

Operating Profit

Net Op Profit After Tax

Income Tax

Cash

Inventory

Receivables

Fixed Assets

Payables

Other Assets

Current Debt

Other Current Liabilities

Total Assets

Current Liabilities

Capital Charge

Economic Profit

CashInvested Capital

Economic profit is the income generated relative to all resources required including capital costs from the balance sheet

-

--

- =

Fewer Assets + Reduced Costs = Increased EP

ECONOMIC PROFIT

Balance Sheet

Income Statement



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WHAT IS LEAN SIX SIGMA?

WHAT DOES LEAN MEAN?

Lean is the elimination of all forms of non value added work from the customers perspective (waste) in business transactions and processes

WHAT DOES SIX SIGMA MEAN?

Six Sigma is a statistical based methodology used to eliminate defects (errors or variations) in business transactions and processes

Lean Six Sigma is the combination of two powerful operations improvement management philosophies that came out of the manufacturing sector in the 1980’s. In recent years it has been developed and successfully deployed in the service sector to include banking, retail, healthcare, staffing and financial services.



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WHAT IS WASTE?

Non value-added work is called waste

Waste is caused by inefficiencies

Inefficiencies incur costs

Any activity which absorbs resources BUT adds no value to the service or product from the customer’s perspective

CUSTOMERS ARE UNWILLING TO PAY FOR WASTE

CUSTOMERS ARE UNWILLING TO PAY FOR WASTE



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WHAT ARE DEFECTS?

Defects are variations in transactions & processes that reduce the quality of products & services

Defects require rework, consume resources, create instability, generate delays & cause scrap

Defects are frequently & mistakenly accepted as an unavoidable part of doing business

CUSTOMERS ARE UNWILLING TO PAY FOR DEFECTS

CUSTOMERS ARE UNWILLING TO PAY FOR DEFECTS



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THE COST OF WASTE & DEFECTS

Delays in transactions & processes

Lower quality products & services

Consumption of scarce resources

Customer dissatisfaction

WASTE & DEFECTS REDUCE EBITDA

WASTE & DEFECTS REDUCE EBITDA



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REWARDS FOR IMPROVEMENT

Reduced costs

Increased margins

Lower inventories

INCREASED EBITDA

INCREASED EBITDA

Reduced DSO

Better cash flow

Less debt



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REWARDS FOR IMPROVEMENT cont’d

COMPETITIVE ADVANTAGE

COMPETITIVE ADVANTAGE

Faster transactions & processes

Higher quality products & services

Satisfied customers



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ABOUT US

Six Sigma Solutions LLC is owned & managed by certified Lean Six Sigma experts.

We design, develop & execute operations improvement plans using Lean Six Sigma tools & methodologies to minimize waste (non value-added work) & defects (variations) in business transactions & processes.

Our clients benefit from:

Reduced costs

Better quality products & services

Satisfied customers



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CONTACT US

PARTNERS

Carl E. Watson Jr. BSc, Master Lean, Six Sigma Master Black Belt

Cell: 256-337-9811

[email protected]

OFFICE

PO Box 3375

Huntsville

AL 35810

[email protected]

http://www.sixsigmasolutionsllc.com

How Lean Six Sigma is used as a strategic business tool to increase shareholder value

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