S I M U L A T I O N M A N A G E M E N T Performance Assessment

S I M U L A T I O N M A N A G E M E N T The Big Picture C ompanyC ompany C onsumersC onsumers C ompetitorsC ompetitors C onditionsC onditions PEST PEST Growth & Competitive Strategies Finance HR Production R&D Marketing Functional Integration  Profits  Mrkt Share  ROA  ROS  ROE  Asset T/O  Stock  Mrkt Cap Situation/SWOT Analysis Strategic Planning Functional Integration Performance Assessment

S I M U L A T I O N M A N A G E M E N T Cumulative Profits Ending Market Share ROS Asset Turnover ROA ROE Ending Stock Price Market Cap. Success Measures Performance Measures- Defined Performance Measures-Dynamics

S I M U L A T I O N M A N A G E M E N T Usually First & Foremost

PROFITS Profitability Ratios: ROS ---Return on Sales ROA —Return on Assets ROE -- Return on Equity  Net Profits  Cum Profits

NET PROFITS $$ Year 1 $6 million Year 2 $8 million Year 3 $10 million Year 4 $12 million Year 5 $16 million Year 6 $21 million Year 7 $27 million Year 8 $35 million NET PROFITS $$ Year 1 $6 million Year 2 $8 million Year 3 $10 million Year 4 $12 million Year 5 $16 million Year 6 $21 million Year 7 $27 million Year 8 $35 million CUM PROFIT Typical Range: $20 to $100 M CUM PROFIT Typical Range: $20 to $100 M

“ROS indicates percentage of each sales dollar that results in net income.” Main ratio of Profitability Return on Sales Return on Sales = net profit net sales

Financial Guidelines: Profitability- ROS & Margins

How Profitable is your Firm? ROS Contribution Margin

Contribution Margin below 30%, Contribution Margin below 30%, Problem = Marketing (customers hate your products), Production (your labor & material costs too high), or Pricing (you cut price too much). Contribution Margin is above 30%…but Net Margin Percentage is below 20% … Contribution Margin is above 30%… but Net Margin Percentage is below 20% … Problem = heavy expenditures on Depreciation (perhaps you have idle plant) or on SGA (perhaps you’re pushing into diminishing returns on Promo & Sales Budgets). Net Margin above 20%,ROS below 5%.. -- Net Margin above 20%, but ROS below 5%.. -- you either experienced some extraordinary "Other" expense like a write- off on plant you sold, or you are paying too much Interest (If TQM is enabled, you may also have spent heavily on TQM initiatives ). IF:

“Generically, profits are driven by the company’s asset base and by its efficiency working those assets”

How effective/aggressive are you in building your Co’s asset base? Use leverage: optimal / 3=poor Fully fund plant purchase thru depreciation + stock + long term debt At outset should be spending ~$10-25M / round on plant improvement By end should expand asset base to min $140M to $160M +

Assets/Equity – simulation takes owner's perspective. A Leverage of 3.0 says, "For every $3 of Assets there is $1 of Equity Leverage Assets Debt Equity 1.0 $1 $0 $1 2.0 $2 $1 3.0 $3 $2 $1 4.0 $4 $3 $1 LEVERAGE: 1.8to2.8 Optimal Corp assets fin.w/ debt

AAA/AA/A/BBB/ … BB & beyond is Junk… B/CCC /CC/C/D = default As your debt-to-assets ratio increases… Your short term interest rate increases… For each additional.5% increase in interest -You drop one category Leverage from lenders’ perspective impacts bond ratings:

“Generically, profits are driven by the company’s asset base and by its efficiency working those assets”

Return on Assets = Return on Assets = net profit assets net profit assets “ “ROA measures company’s ability to use all its assets to generate earnings.” ROA 100%+ 50%+~10%<10% Ratio World Class Top 10 cut MeanPoor

Asset Turnover Reveals how effective assets are at generating sales revenue. The higher the better = more efficient use of assets Asset Turnover = sales assets sales assets You are generating $1.05 in sales for every $1 assets

ERGO: …if you effectively build your asset base & efficiency work those assets Stocks Market Share Profit $

Return on Equity = net profit equity Profitability * Asset Mgt * Leverage As measured by ROE Encompasses the 3 main levers used by mgt to generate return on investors equity

net profit salessalesassetsassetsequityxxxx Value Chain Profitability * Asset Mgt * Leverage Return on Equity = net profit equity

Du Pont Formula Return on Equity = net profit equity salessalesassetsassetsequity xxxx Value Chain

Du Pont Formula Return on Equity = net profit equity salessalesassetsassetsequity xxxx Value Chain

Ratio World C lass Top 10 cut MeanPoor ROE* 600%+100%+ ~20%<15%

net profit salessalesassetsassetsequityxxxx Value Chain Profitability * Asset Mgt * Leverage Improve ROE by: Increase sales &/or reduce &/or eff. work assets Improving Margins Increasing Leverage

ERGO: …if you effectively build your asset base & efficiency work those assets Stocks Market Share Profit $

STOCK PRICE Function of: 1. Earnings per Share Net Profit / # Shares 2. Book Value Equity / # Shares 3. Dividend Policy Good Dividend Policy Good Dividend Policy

Let’s Examine: 1. Ways to plan & evaluate your financial performance 2. Some Financial Planning guidelines

Financial Proformas & Reports BalanceSheetFinancialRatios CashFlow IncomeStatement

Shows cash movement in & out of organization & how much cash is available Shows cash movement in & out of organization & how much cash is available

Shows revenues & expenses for the period Indicates profitability

What Co. Owns What Co. Owes Who Owns Co.

Financial Guidelines Re: Liquidity

You’ll be left w/less revenue than anticipated PLUS production & inventory carrying costs that must be paid.. IF You Produce a crappy product &/or Your Competitors produce a better product &/or You produce too much product Then

You’re left w/less revenue than anticipated and did not plan & allocate enough cash to cover your production & inventory carrying costs.... IF Then Big Al arrives -- pays your bills, and leaves you with a loan & a stiff interest payment

Maintain Adequate working capital & cash reserves In order to: Have realistic/ accurate sales forecasts Avoid “Big AL” & a Liquidity Crisis- Need to:

Sales Forecasting 1. Quick N’ Dirty 2. Consumer Pref’s 3. Best / Worst Case

Estimate Your FAIR SHARE Answer 2 Q’s: 1.What will average product sell in this segment next round? 2.To what degree is your product above or below average- on consumers'’ buying criteria?

Fair Share - Sales Forecast Determine industry demand next round. Take last year’s total demand -- multiply by (1 + Growth Rate). Estimate # products that will be in segment. Divide total industry demand by the number of products. Your product’s demand will typically be between one half and twice the average product’s demand. Compare your product with competing products. Factors include design, awareness, accessibility, and planned mid-year revisions. Examine industry capacities, and the capacities of the “best” products. Can products meet the demand they generate?

#2 Forecast by Consumer Pref’s

Forecast off Customer Survey Scores

For Example-in Traditional segment everyone begins w/ 13% market share Opening rounds crucial- can establish competitive advantage (that can be sustained for many years- even thru-out entire sim.) Initial round demand can vary +/ - 25% Later rounds best case/worst case vary ~~~~ 10-15%

After 1 st Year/Round- Can see demand spread

Total=223 R#1 Dec Survey score % of 223Predicted sales R#2 Actual Sales R#2 Baker 43 19%1827 units 1758 units Able 40 18% Fast 36 16% Eat 36 16% Cake 42 19% Daze 26 12%

R#1 Survey score R#2 12

CA SE

Worst Case: BIG INVENTORY / little cash Best case: Lots of CASH / little Inventory

Enter WORSE case- in “your sales forecast” on marketing spreadsheet Enter BEST case- in “production schedule” on production spreadsheet Spread show up as inventory on proforma BALANCE SHEET

$0.00 In WORSE CASE: You have lots of Inventory & little or no Cash. In WORSE CASE: You have lots of Inventory & little or no Cash.

$0.00 In WORSE CASE: You have lots of Inventory & thus need to drive your cash position to the black… In WORSE CASE: You have lots of Inventory & thus need to drive your cash position to the black…

If you are cash poor, issue Stock /Bonds - or consider a short term loan If you are cash rich, pay dividends and/or buy back stock. If you are cash poor, issue Stock /Bonds - or consider a short term loan If you are cash rich, pay dividends and/or buy back stock. To adjust your cash position --

Important Considerations re: BEST-WORST Scenario Analyses By adjusting your CASH POSITION according to your WORST CASE estimate– will avoid … BiG AL By adjusting your CASH POSITION according to your WORST CASE estimate– will avoid … BiG AL

Important Considerations re: BEST-WORST Scenario Analyses By adjusting production according to BEST CASE estimate– will minimize loss of profit due to Stock-outs Fixed costs (marketing, R&D, interest or depreciation) already covered Thus, any additional sales would only incur variable ( production ) costs By adjusting production according to BEST CASE estimate– will minimize loss of profit due to Stock-outs Fixed costs (marketing, R&D, interest or depreciation) already covered Thus, any additional sales would only incur variable ( production ) costs

For example, 1. If your annual sales were $120M, in one month you’d sell $10M. 2. If a months material & labor costs = $7M, you missed contributing $3M to Net Margin. 3. This would be taxed in the simulation at 35%, so your opportunity cost is a missed $2M in profit.

Worst Case: BIG INVENTORY / no cash – risk seeing Big Al Best case: Lots of CASH / no Inventory -you risk stockout How Big is your Slinky?

Determining A Reasonable Spread Want to avoid generating an ultra Conservative Worst case scenario …matched w/ an ultra Optimistic Best case scenario Should be able to sell excess inventory in ~betw. 6 & 16 weeks Any less or less: risk a visit from Big Al would require major screw-up from competition

Take your total inventory costs $23,900M Take your total inventory costs $23,900M How to measure your slinky slack--

& Divide by total variable costs of inventory sold: $23,900M/$131,119M =.18 52weeks *.18 = 9 Risk ~9weeks of Inventory to avoid stockout & Divide by total variable costs of inventory sold: $23,900M/$131,119M =.18 52weeks *.18 = 9 Risk ~9weeks of Inventory to avoid stockout

1. The Relationship between Your Strategy & Success Measures Two more things to think about: 2. Other measures of success- besides $$$$

Diff Strategies Play into Different Success Measures ProfitMSSP & MCROE pf/e ROS pf/s AT s/a ROA pf/a BCL L=2-3 XXXX Cost- Niche & PLC XXX B-Diff L=1.5-2 XXXX Niche- PLCDiff XXXX Cost Strategy = higher leverage/more investment/ more assets/more debt/ less equity Differentiation Strategy =lower leverage/less investment/ less assets All Segments= more sales & thus enable greater Cum. profit & overall market share Focused Strategies should operate more effectively & have overall less sales

It is important to look at the means used to achieve outcomes …. not just focus on the outcomes themselves To only focus on traditional financial accounting measures (such as ROI, ROE, EPS) ….. does not give mgt the whole picture….

M A R K E T I N G M A N A G E M E N T Performance needs to be judged thru mix of both financial & non-financial measures…. non- financial drivers As - non- financial measures are drivers of financial outcomes Performance needs to be judged thru mix of both financial & non-financial measures…. non- financial drivers As - non- financial measures are drivers of financial outcomes Will Make $$$ - if sell product Will sell product if consumer wants, knows about, can get, & LIKES product To achieve “above’ everyone must effectively do their job To effectively do job must know what to do

M A R K E T I N G M A N A G E M E N T Balanced Scorecard Puts Strategy At Top Of Measurement Systems Management benefits from a multi-dimensional perspective Includes not only financial but customer, internal & organizational learning/improvement perspectives as well…

M A R K E T I N G M A N A G E M E N T The Logic "If we succeed, how will we look to our shareholders?” Financial Perspective "To achieve my vision, how must I look to my customers?” Customer Perspective "To satisfy my customers, at which processes must excel?” Internal Perspective "To achieve my vision, how must my organization learn and improve?” Organization Learning STRATEGY

M A R K E T I N G M A N A G E M E N T For Each Perspective: Financial Objectives Measures Targets Initiatives Responsibility Budget Customer… Business processes… Learning Objectives Measures Targets Initiatives Responsibility Budget Financial Objectives Measures Targets Initiatives Responsibility Budget Customer… Business processes… Learning Objectives Measures Targets Initiatives Responsibility Budget

M A R K E T I N G M A N A G E M E N T

M A R K E T I N G M A N A G E M E N T What is measured gets noticed What is noticed gets acted on What is acted on gets improved Today … Balanced Scorecard ~ 70% of Fortune 1,000 companies utilize a Balanced Scorecard to help manage performance— because ….. Today … Balanced Scorecard ~ 70% of Fortune 1,000 companies utilize a Balanced Scorecard to help manage performance— because …..

M A R K E T I N G M A N A G E M E N T Basic Scorecard Terminology ( Southwest Airlines Example ) Objectives Fast ground turnaround Objectives: What the strategy is trying to achieve Targets 30 Minutes 90% Targets The level of performance or rate of improvemen t needed Cycle time optimization Initiatives Key action programs required to achieve targets InitiativesMeasures On Ground Time On-Time Departure Measures How performance is measured against objectives Strategic Theme: Operating Efficiency Profits and RONA Financial Learning Ground crew alignment Lowest prices Fewer planes Customer Internal Fast ground turnaround Strategy Map On-time Service Attract & Retain More Customers Grow Revenues

M A R K E T I N G M A N A G E M E N T % Ground crew trained % Ground crew stockholders A Complete Scorecard is a Program for Action ObjectivesMeasures # Customers FAA On Time Arrival Rating Market Survey On Ground Time On-Time Departure Strategic Theme: Operating Efficiency Initiatives Cycle time optimization Ground crew training ESOP Customer loyalty program Quality management Targets 30% +/yr 20% 5% 12% growth Ranked #1 30 Minutes 90% yr. 1 70% yr. 3 90% yr % Profitability Grow Revenues Fewer planes More Customers Flight is on - time Lowest prices Fast ground turnaround Ground crew alignment Strategic Theme : Operations Excellence Profits and RONA Financial Learning Ground crew alignment Fewer planes Customer Internal Fast ground turnaround Attract & Retain More Customers Grow Revenues Lowest prices On-time Service

M A R K E T I N G M A N A G E M E N T Capstone's Balanced Scorecard

M A R K E T I N G M A N A G E M E N T Select Success Measures & Determine Relative Weightings Need to enter weightings – prior to round-1 Select Success Measures & Determine Relative Weightings Need to enter weightings – prior to round-1