Linking financial strategy with corporate strategy03/09/2022 0 By indiafreenotes
Strategic planning is the process of identifying where you want your company to be in the future and then charting steps to get there. However, you can’t get where you want to go unless you have the financial resources to execute your vision. Financial planning is the process of connecting your financial operations with your big picture strategy.
Strategic financial management is about creating profit for the business and ensuring an acceptable return on investment (ROI). Financial management is accomplished through business financial plans, setting up financial controls, and financial decision-making.
Before a company can manage itself strategically, it first needs to define its objectives precisely, identify and quantify its available and potential resources, and devise a specific plan to use its finances and other capital resources toward achieving its goals.
Strategic management also involves understanding and properly controlling, allocating, and obtaining a company’s assets and liabilities, including monitoring operational financing items like expenditures, revenues, accounts receivable and payable, cash flow, and profitability.
Strategic financial management encompasses furthermore involves continuous evaluating, planning, and adjusting to keep the company focused and on track toward long-term goals. When a company is managing strategically, it deals with short-term issues on an ad hoc basis in ways that do not derail its long-term vision.
1) Managing for value
Managing for value is the one of the elements of value based management. Value based management is a management approach which ensures that the organisation is structured and managed on the basis of shareholder’s value.
Managing for value is one of the key elements of a manager’s task in an organisation for the success of a strategy. Managing for value relates to maximising the long-term cash generating capacity of an organisation. Long-term cash generating capacity refers to the ability of an organisation to earn increased funds for use in the future.
Creating value is the most important phase in value based management process. Any strategy which creates value for its stakeholders is considered successful. One of the major stakeholders of any organisation is its shareholders. The value is created for shareholders by ensuring large returns to them. The returns to the shareholders are in the form of timely dividends. Value creation is crucial because an organisation has to retain its status in a developing market. The organisation has to gain competitive advantages over other market players and it could add certain value to its business to support itself in the market.
There are various factors of value creation in an organisation, such as operations, financing and investments
a) Value creation from operations
Operations refer to functioning of the organisation. There are two aspects to operations as revenue and cost. Revenue leads increased shareholder value and cost leads to a reduction in shareholder value. Funds are generated from sales revenue, which depends on the volume of sales and the selling price. Operational cost include various costs such as production, selling and distribution costs, administration costs, overhead and other indirect costs. The management must do its best to increase revenues and decrease costs and overheads to get value creation from operations.
b) Value creation from financing
Financing cost is the cost of capital. Cost of capital is composed of two main elements; equity and debt. In external financing sources, the organisation must pay interest which would lead to a reduction in funds and ultimately a reduction in shareholder value.
The management must try to find optimal cost in different financing sources. The choosing of optimal capital cost increases the value from financing.
c) Value creation from investments
Organisations block their funds in assets. If the investment leads to a generation of funds, it creates value for the shareholder. On the other hand, if the investment is such that it reduces funds, then it leads to reduction in the value creation for the shareholder.
The increase and reduction in shareholder value can also be termed value drivers (increase) or cost drivers (reduction). These drivers and the main source of value creation for an organisation. The management must invest the organisation’s funds to optimal investment choices to get highest value from investments.
2) Financial expectations of stakeholders
All stakeholders are keen to know whether they will receive financial returns from the implementation of a strategy. They are also interested in whether they will receive regular returns such as dividends for shares held. Management has to develop and sustain stakeholder relationships while it tries to meet its objectives of maximising shareholders wealth. This can be difficult in the event of conflicting objectives among stakeholder groups. Consensus theory recognises that each organisation represents a coalition of shareholders, directors, employees, customers etc. each having different and sometimes opposing goals. Since it is difficult to meet the objectives of each group completely, political compromise results from each party settling for less than their ideal. In the case, shareholder wealth is not miximised, other stakeholder groups will also settle for less.
Organisations have various stakeholders such as suppliers, employees, bankers, shareholders, customers and community. Different stakeholders have different financial expectations from organisations. It depends on their circumstances. While implementing strategies, management should pay attention to the financial effects of the strategy on all stakeholders.
The management must consider the financial expectations of stakeholders in the financial formulation of strategy. The financial expectations of stakeholders are;
a) Suppliers and employees
These stakeholders expect timely payment from organisation and they focus on liquidity position of the organisation. Liquidity means the capability of an organisation to pay for its short-term financial obligations.
Banks are the institutions which lend money or funds to organisations to enable them to accomplish their goals. They focus on organisation’s ability to repay the loan with the interest. Banks may consider the organisation’s capital gearing ratio because it provides the relationship between the debt and equity in an organisation. Moreover, the interest cover ratio also indicates the capacity of the organisation to pay interest.
Shareholders are the most important stakeholders for organisations. They expect the organisational strategy to be such that it gives them regular dividends and that organisation has sufficient funds for its long-term commitments. The shareholders of the organisation also desire capital growth in their shareholdings. If the organisation intends to reorganise its business through mergers or acquisitions, the strategy adopted or to be adopted by the organisation should safeguard the interest of the shareholders.
Customers expect the organisation to provide value for the money they pay. They also expect high quality goods and services. The organisation should implement the strategy which satisfies customer’s demands so that it leads to the strategic success of the organisation.
The community expects the implemented strategy to benefit the community as a whole. The organisation’s strategy should be capable of providing employment for the community; concern should be given to controlling pollution and other potentially harmful effects on the environment; it should also take care of ethical considerations in the community such as abiding by the law and order of society.
3) Funding strategies
The organisation’s funding strategies depend on factors such as whether or not the organisations are owned privately or publicly and the goals of the organisation. The organisation’s goals provide how much funding is required. Managers develop a strategy of obtaining funds from different sources depending upon the company’s goals such as investments, new projects, acquisition, mergers or improvement in the product features.
The type of funding strategy to be implemented by organisation depends on the risk and return factors. It is a general principle that higher the risk, the higher the return. Moreover, the organisation’s plan to obtain funds through loans from outside agencies will also incur interest charges to be paid to the money lenders. So, debts create more risks.
The market growth rate and the organisation’s market share also effect the organisation’s funding strategies. The different business development phases need different funding strategies. For example if the organisation has high market share but the market has low growth rate the organisation requires less investment and organisation could control its cost better than its competitors. But if the organisation has high market share but the market has also high growth rate the organisation requires more money for investments and expenditures to retain its market rate.
A corporate strategy is an organizational blueprint that outlines the activities to be undertaken for the achievement of its goals, all while minimizing the risks along. It is a fundamental path that assists you in launching the right projects and managing your resources wisely which acts as a foundation for achieving the Company’s strategic goals.
It helps in answering the key aspects of your business like your product portfolio, your organization structure, and design, resource allocation across departments and projects, and the pairing of risk and returns in the right proportion. These are the prime decisions for any business and are known as the “four pillars” of corporate strategy.
- In Portfolio Management you decide what products or services you want to develop and offer. A complete SWOT analysis and competitor analysis can help you determine the market response to the product and the growth potential.
- An Organizational Design will ensure the right authority, responsibility, and reporting structure is established. Identifying functions, departmentalization, resource allocation, assignment of authority, responsibility, inter-departmental coordination, and extent of the delegation are the main elements of this pillar.
- Resource Allocation, both financial and human is significant to the success of the strategies. Identifying and capturing the right set of skills of an individual and making sure there is a sufficient supply of manpower in the future is important. Ask yourself if you have high-performing assets and whether your investment is gaining returns.
Strategic trade-offs can be challenging especially when a business chooses to diversify into new areas. It could make you or break you into a disaster; hence an in-depth analysis of a business’s capabilities and endurance will help ascertain the level of risk you are willing to take.