Straight Talk About Enterprise Value Final

8/2/2019 Straight Talk About Enterprise Value Final

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Straight talk...

Enterprise Value

Why do companies get stuck when it comes to creating value?

How can they align their vision for success with what theyre actually doing?

The topic of shareholder value seems to dominate most discussions about value. Why is that?

Because shareholders are so important to providing capital to corporations... But shareholder value is, in

fact, part of a larger stakeholder management issue that includes managing relationships with customers,

employees, suppliers and shareholders. The shareholder component is becoming increasingly important

for a range of reasons, including shareholder activism and the demands placed on companies as a result

of increased regulatory scrutiny.

But shareholder value has been a hot issue for a long time. Whats really new about it?

Youre right; the idea of shareholder value has been around since Adam Smith. But many organisations

continue to struggle with making it real. Often the issue is how to create alignment across an entire

organisation and execute consistently. We find that there tend to be some common behaviour that gets in

the way, and that there are some good solutions to avoiding this behaviour. The solutions or value-

creating behaviour make up what we call The Value Habit.

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Lets go back a second. What does shareholder value really mean?

In financial terms shareholder value can be thought of as market capitalisation(current share price times

the number of shares outstanding), an important measure for categorising companies, but one that looks

at value at a single point in time. For a publicly traded company, investors tend to look at totalshareholder returnas the ultimate measure of success. This is the change in share price from the date of

purchase, plus any dividends received, divided by the original cost of the shares. For publicly traded

companies its black and white. For other types of companies, such as the public sector, the notion of

value is somewhat different. It really comes down to the overall governing objective of the organisation

and how that organisation defines success.

So where does value-based management fit in?

This term describes a management orientation explicitly toward value. Its about aligning the people,

processes and systems of an organisation to continuously increase shareholder value. Because value

as represented by the share price is set by the market, and because the market is more concerned with

the future than the past, value-based management has to deal with perception as well as reality. It has

two distinct tasks: to actually improve performance by being more effective and efficient; and to convince

the market of the promise of this activity in terms the market will understand and believe. Market prices

tend to be tied more to future expectations than to past accomplishments. And therein lies the difference

between performance which is always historicaland valuation, which is about the markets

expectation of future performance.

If market prices are based on whats to come, why do investors obsess over short-term results?

Thats a good question, because it gets to an important and widespread disconnect: between what

investors want to know and what companies thinkthey want to know. Buy-side investors (who actually

drive share prices) typically value companies the same way youd value a bond on the basis of

expected future cash flows. But unlike most bonds, the expected cash flows from a business are much

more difficult to predict. Estimates have to start with the value of existing assets and current, actualfinancial results. Then you have to forecast the level of future investments and make assumptions about

the companys ability to maintain or increase the return on those investments. Investors are interested in

short-term results because they inform the forecast and, along with other criteria, theyre a quantified

benchmark for measuring a companys progress toward stated goals. But thestory doesnt end with the

quarter: Serious investors continually hone their forecasts, and to do this they want to hear details about

what the company is actually doing to grow returns and the capabilities that they are building to allow

them to sustain their business models. Positive guidance based on clear alignment of business strategy

and specific actions points the way forward. If you dont give investors areason to believe, they wont.

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For a publicly traded company, investors

tend to look at total shareholder return a

the ultimate measure of success. This is t

change in share price from the date of

purchase, plus any dividends received,

divided by the original cost of the shares.

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That sounds like the transparency of reporting everybody is talking about.

It is. Transparency is really about providing enough information so investors can decide ifthey want to

invest and, if so, at what price. A lack of transparency in historical results or in what the company is

saying about the future raises a red flag: investors are likely to respond by lowering their forecasts (and,

therefore, what theyre willing to pay for the stock today). Its simple: the better the available information,

the lower the transparency discount. Viewed this way, transparency is less a burden imposed by

regulators and more an opportunity to increase share price.

Sounds easier said than done. How does a company create the kind of connections youre talking

about?

Connecting strategy (good intentions) with daily operations (the pragmatic reality that will drive returns) is

managements criticaltask. At Deloitte, weve created a tool to make this easier by showing tangible

connections. Its called the Enterprise Value Map. The value map is a graphical representation of the

connections between key drivers of value (such as revenue growth, margins and asset turns) and the

processes and tactics that affect those value drivers. This unified display allows us together with our

clients to analyse what the company cando, which initiatives may be most important, and how quite

specifically value is created. From the top down, and from the bottom up. While specific tactics will vary

across the organisation, the value map has proven particularly useful at aligning corporate efforts toincrease enterprise value. And helping companies understand not only whatthey do but why.

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The value map is a graphical

representation of the connections

between key drivers of value (such

as revenue growth, margins and asset

turns) and the processes and tactics

that affect those value drivers.

The Deloitte Enterprise Value Map


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That all makes sense, but why is this an issue again?

Many organisations experience difficulties in aligning their strategies, initiatives, performance measuresand compensation plans in other words, their performance management framework. While some of this

is due to the complexity of todays organisations, much more of it is about a lack of integration and

common processes. The elements of performance management tend to be very fragmented and

represent a significant barrier to achieving a commonality of purpose. Again, doing this well is one of the

value-creating behaviours of successful companies mentioned earlier.

What are some other value-creating behaviours you have identified?

They run the gamut from taking a hard look at all the old accepted processes, to being more flexible in

strategic planning, to taking great care in how you talk about value. But the common theme is alignment.

And the focus is on action doing specific things that lead to enterprise value. One of the best examples

in The Value Habit[the sixth book in Deloittes Straight Talkseries] is how some companies create a clear

path between vision and business strategy. Its not enough to just talk about value. You have to make it

easy for employees to do the right thing and help people translate strategy in terms of what they do every

day.

How do you apply these ideas in your work?

Our assignments tend to begin at the strategic level working with executives to identify specific

problems and opportunities within the organisation that relate directly to shareholder value. But our

primary focus is to apply our value framework in everything we do, across all levels of the company. For

example, if were hired to implement a new financial system or improve the supply chain, we first step

back and take a broad view. How could possible changes in these areas affect the drivers of enterprise

value? How will we and our clients know if the changes are really working? And how should business

cases best be structured to address the most important issuesmonitorresultsand overcomeobstacles to value creation? Our approach is more than an orientationtoward value; we make increasing

value the reason and the context underlying the clients business as a whole. Our clients job is to

increase value for all their stakeholders; our job is to help them do that in the best, most practical ways

possible. The Enterprise Value Map and our value tool set allow us to analyse what our clients couldbe

doing and to suggest actions that tangibly contribute to greater value. This approach is designed to help

clients identify whats most important to them, and then take action to get those things done.

Our clients job is to increase value

for all their stakeholders; our job is

to help them do that in the best,

most practical ways possible. The

Enterprise Value Map and our valuetool set allow us to analyse what our

clients couldbe doing and to suggest

actions that tangibly contribute to

greater value.

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If you could recommend one thing to help companies create more enterprise value, what would it

be?

We have found that a frequent barrier to creating value is the plethora of different, and often unrelated,

measures of corporate performance: one version for reporting to boards and investors; a different set for

internal executives and line managers; and a third for evaluating the performance of individual

employees. Such misalignment fragments purpose, confuses operational purpose, and jeopardises the

payoff from project investments. Worst of all, it makes achieving a common goal any common goal

almost impossible. Our recommendation? Create a common, unified performance measurement

framework that provides the basis for managing all key stakeholders and points the organisation in the

same direction. And clearly define that direction for every project, process, strategy, tactic and task as

the pragmatic drive to create value for all stakeholders.

To find out more about Deloittes unique Enterprise Value Map, contact:

Prof. Rodger George

Shareholder Value expert

Deloitte Consulting, South Africa

Tel: +27 (0)11 209 6419

Mobile: +27 (0)83 226 4966

Email: [email protected]

Rodger is a seasoned consultant and has strategically

advised numerous South African and foreign clients in the

mining, financial services, consumer business, energy and

government sectors for over 10 years on the mechanisms to

maximise shareholder value through the implementation of

high growth strategies. Rodger is also currently a visiting

professor at Cape Town Universitys Graduate School of

Business, where he teaches MBA students.

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each of which is a legally separate and independent entity. Please see www.deloitte.com/za/aboutus for a

detailed description of the legal structure of Deloitte Touche Tohmatsu and its member firms.

Deloitte provides audit, tax, consulting, and financial advisory services to public and private clients spanning

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Straight Talk About Enterprise Value Final

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