Case Study Analysis

What Is Case Study Analysis?

A case study presents an account of what happened to a business or industry
over a number of years. It chronicles the events that managers had to deal
with, such as changes in the competitive environment, and charts the
managers' response, which usually involved changing the business- or
corporate-level strategy.
Cases prove valuable in a course for several reasons. First, cases provide
you, the student, with experience of organiational problems that you
probably have not had the opportunity to experience firsthand. In a relatively
short period of time, you will have the chance to appreciate and analye the
problems faced by many different companies and to understand how
managers tried to deal with them.
!econd, cases illustrate what you have learned. "he meaning and implication
of this information are made clearer when they are applied to case studies.
"he theory and concepts help reveal what is going on in the companies
studied and allow you to evaluate the solutions that specify companies
adopted to deal with their problems. Conse#uently, when you analye cases,
you will be li$e a detective who, with a set of conceptual tools, probes what
happened and what or who was responsible and then marshals the evidence
that provides the solution. "op managers en%oy the thrill of testing their
problem-solving abilities in the real world. It is important to remember, after
all, that no one $nows what the right answer is. All that managers can do is
to ma$e the best guess. In fact, managers say repeatedly that they are
happy if they are right only half the time in solving strategic problems.
&anagement is an uncertain game, and using cases to see how theory can be
put into practice is one way of improving your s$ills of diagnostic
investigation.
"hird, case studies provide you with the opportunity to participate in class
and to gain experience in presenting your ideas to others. Instructors may
sometimes call on students as a group to identify what is going on in a case,
and through classroom discussion the issues in and solutions to the case
problem will reveal themselves. In such a situation, you will have to organie
your views and conclusions so that you can present them to the class. 'our
classmates may have analyed the issues differently from you, and they will
want you to argue your points before they will accept your conclusions( so be
prepared for debate. "his is how decisions are made in the actual business
world.
Instructors also may assign an individual, but more commonly a group, to
analye the case before the whole class. "he individual or group probably will
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be responsible for a thirty- to forty-minute presentation of the case to the
class. "hat presentation must cover the issues involved, the problems facing
the company, and a series of recommendations for resolving the problems.
"he discussion then will be thrown open to the class, and you will have to
defend your ideas. "hrough such discussions and presentations, you will
experience how to convey your ideas effectively to others. )emember that a
great deal of managers' time is spent in these $inds of situations, presenting
their ideas and engaging in discussion with other managers, who have their
own views about what is going on. "hus, you will experience in the classroom
the actual process of what goes on in a business setting, and this will serve
you well in your future career.
If you wor$ in groups to analye case studies, you also will learn about the
group process involved in wor$ing as a team. *hen people wor$ in groups, it
is often difficult to schedule time and allocate responsibility for the case
analysis. "here are always group members who shir$ their responsibilities
and group members who are so sure of their own ideas that they try to
dominate the group's analysis. &ost business negotiations ta$e place in
groups, however, and it is best if you learn about these problems now.
Analyzing a Case Study
As %ust mentioned, the purpose of the case study is to let you apply the
concepts you've learned when you analye the issues facing a specific
company. "o analye a case study, therefore, you must examine closely the
issues with which the company is confronted. &ost often you will need to
read the case several times - once to grasp the overall picture of what is
happening to the company and then several times more to discover and
grasp the specific problems.
+enerally, detailed analysis of a case study should include eight areas,
-. "he history, development, and growth of the company over time
.. "he identification of the company's internal strengths and wea$nesses
/. "he nature of the external environment surrounding the company
0. A !*1" analysis
2. "he $ind of corporate-level strategy pursued by the company
3. "he nature of the company's business-level strategy
4. "he company's structure and control systems and how they match its
strategy
5. )ecommendations
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"o analye a case, you need to apply what you've learned to each of these
areas. *e offer a summary of the steps you can ta$e to analye the case
material for each of the eight points we %ust noted.
-. Analyze the company's history, development, and growth. A
convenient way to investigate how a company's past strategy and
structure affect it in the present is to chart the critical incidents in its
history - that is, the events that were the most unusual or the most
essential for its development into the company it is today. !ome of the
events have to do with its founding, its initial products, how it ma$es
new-product mar$et decisions, and how it developed and chose
functional competencies to pursue. Its entry into new businesses and
shifts in its main lines of business are also important milestones to
consider.
.. Identify the company's internal strengths and weanesses.
1nce the historical profile is completed, you can begin the !*1"
analysis. 6se all the incidents you have charted to develop an account
of the company's strengths and wea$nesses as they have emerged
historically. 7xamine each of the value creation functions of the
company, and identify the functions in which the company is currently
strong and currently wea$. !ome companies might be wea$ in
mar$eting( some might be strong in research and development. &a$e
lists of these strengths and wea$nesses. "he !*1" chec$list gives
examples of what might go in these lists.
/. Analyze the e!ternal environment. "he next step is to identify
environmental opportunities and threats. 8ere you should apply all
information you have learned on industry and macroenvironments, to
analye the environment the company is confronting. 1f particular
importance at the industry level is 9orter's five forces model and the
stage of the life cycle model. *hich factors in the macroenvironment
will appear salient depends on the specific company being analyed.
8owever, use each factor in turn :for instance, demographic factors; to
see whether it is relevant for the company in #uestion.
8aving done this analysis, you will have generated both an analysis of
the company's environment and a list of opportunities and threats. "he
!*1" chec$list lists some common environmental opportunities and
threats that you may loo$ for, but the list you generate will be specific
to your company.
0. "valuate the SW#$ analysis. 8aving identified the company's
external opportunities and threats as well as its internal strengths and
wea$nesses, you need to consider what your findings mean. "hat is,
you need to balance strengths and wea$nesses against opportunities
and threats. Is the company in an overall strong competitive position<
Can it continue to pursue its current business- or corporate-level
strategy profitably< *hat can the company do to turn wea$nesses into
strengths and threats into opportunities< Can it develop new
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functional, business, or corporate strategies to accomplish this
change< =ever merely generate the !*1" analysis and then put it
aside. >ecause it provides a succinct summary of the company's
condition, a good !*1" analysis is the $ey to all the analyses that
follow.
2. Analyze corporate%level strategy. "o analye a company's
corporate-level strategy, you first need to define the company's
mission and goals. !ometimes the mission and goals are stated
explicitly in the case( at other times you will have to infer them from
available information. "he information you need to collect to find out
the company's corporate strategy includes such factors as its line:s; of
business and the nature of its subsidiaries and ac#uisitions. It is
important to analye the relationship among the company's
businesses. ?o they trade or exchange resources< Are there gains to
be achieved from synergy< Alternatively, is the company %ust running a
portfolio of investments< "his analysis should enable you to define the
corporate strategy that the company is pursuing :for example, related
or unrelated diversification, or a combination of both; and to conclude
whether the company operates in %ust one core business. "hen, using
your !*1" analysis, debate the merits of this strategy. Is it
appropriate, given the environment the company is in< Could a change
in corporate strategy provide the company with new opportunities or
transform a wea$ness into a strength< For example, should the
company diversify from its core business into new businesses<
1ther issues should be considered as well. 8ow and why has the
company's strategy changed over time< *hat is the claimed rationale
for any changes< 1ften it is a good idea to analye the company's
businesses or products to assess its situation and identify which
divisions contribute the most to or detract from its competitive
advantage. It is also useful to explore how the company has built its
portfolio over time. ?id it ac#uire new businesses, or did it internally
venture its own< All these factors provide clues about the company
and indicate ways of improving its future performance.
3. Analyze &usiness%level strategy. 1nce you $now the company's
corporate-level strategy and have done the !*1" analysis, the next
step is to identify the company's business-level strategy. If the
company is a single-business company, its business-level strategy is
identical to its corporate-level strategy. If the company is in many
businesses, each business will have its own business-level strategy.
'ou will need to identify the company's generic competitive strategy -
differentiation, low cost, or focus - and its investment strategy, given
the company's relative competitive position and the stage of the life
cycle. "he company also may mar$et different products using different
business-level strategies. For example, it may offer a low-cost product
range and a line of differentiated products. >e sure to give a full
account of a company's business-level strategy to show how it
competes.
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Identifying the functional strategies that a company pursues to build
competitive advantage through superior efficiency, #uality, innovation,
and customer responsiveness and to achieve its business-level
strategy is very important. "he !*1" analysis will have provided you
with information on the company's functional competencies. 'ou
should further investigate its production, mar$eting, or research and
development strategy to gain a picture of where the company is going.
For example, pursuing a low-cost or a differentiation strategy
successfully re#uires a very different set of competencies. 8as the
company developed the right ones< If it has, how can it exploit them
further< Can it pursue both a low-cost and a differentiation strategy
simultaneously<
"he !*1" analysis is especially important at this point if the industry
analysis, particularly 9orter's model, has revealed the threats to the
company from the environment. Can the company deal with these
threats< 8ow should it change its business-level strategy to counter
them< "o evaluate the potential of a company's business-level
strategy, you must first perform a thorough !*1" analysis that
captures the essence of its problems.
1nce you complete this analysis, you will have a full picture of the way
the company is operating and be in a position to evaluate the potential
of its strategy. "hus, you will be able to ma$e recommendations
concerning the pattern of its future actions. 8owever, first you need to
consider strategy implementation, or the way the company tries to
achieve its strategy.
4. Analyze structure and control systems. "he aim of this analysis is
to identify what structure and control systems the company is using to
implement its strategy and to evaluate whether that structure is the
appropriate one for the company. ?ifferent corporate and business
strategies re#uire different structures. For example, does the company
have the right level of vertical differentiation :for instance, does it
have the appropriate number of levels in the hierarchy or decentralied
control<; or horiontal differentiation :does it use a functional structure
when it should be using a product structure<;< !imilarly, is the
company using the right integration or control systems to manage its
operations< Are managers being appropriately rewarded< Are the right
rewards in place for encouraging cooperation among divisions< "hese
are all issues that should be considered.
In some cases there will be little information on these issues, whereas
in others there will be a lot. 1bviously, in analying each case you
should gear the analysis toward its most salient issues. For example,
organiational conflict, power, and politics will be important issues for
some companies. "ry to analye why problems in these areas are
occurring. ?o they occur because of bad strategy formulation or
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because of bad strategy implementation<
1rganiational change is an issue in many cases because the
companies are attempting to alter their strategies or structures to
solve strategic problems. "hus, as a part of the analysis, you might
suggest an action plan that the company in #uestion could use to
achieve its goals. For example, you might list in a logical se#uence the
steps the company would need to follow to alter its business-level
strategy from differentiation to focus.
5. 'ae recommendations. "he last part of the case analysis process
involves ma$ing recommendations based on your analysis. 1bviously,
the #uality of your recommendations is a direct result of the
thoroughness with which you prepared the case analysis. "he wor$
you put into the case analysis will be obvious to the professor from the
nature of your recommendations. )ecommendations are directed at
solving whatever strategic problem the company is facing and at
increasing its future profitability. 'our recommendations should be in
line with your analysis( that is, they should follow logically from the
previous discussion. For example, your recommendation generally will
center on the specific ways of changing functional, business, and
corporate strategy and organiational structure and control to improve
business performance. "he set of recommendations will be specific to
each case, and so it is difficult to discuss these recommendations here.
!uch recommendations might include an increase in spending on
specific research and development pro%ects, the divesting of certain
businesses, a change from a strategy of unrelated to related
diversification, an increase in the level of integration among divisions
by using tas$ forces and teams, or a move to a different $ind of
structure to implement a new business-level strategy. Again, ma$e
sure your recommendations are mutually consistent and are written in
the form of an action plan. "he plan might contain a timetable that
se#uences the actions for changing the company's strategy and a
description of how changes at the corporate level will necessitate
changes at the business level and subse#uently at the functional level.
After following all these stages, you will have performed a thorough
analysis of the case and will be in a position to %oin in class discussion
or present your ideas to the class, depending on the format used by
your professor. )emember that you must tailor your analysis to suit
the specific issue discussed in your case. In some cases, you might
completely omit one of the steps in the analysis because it is not
relevant to the situation you are considering. 'ou must be sensitive to
the needs of the case and not apply the framewor$ we have discussed
in this section blindly. "he framewor$ is meant only as a guide and not
as an outline that you must use to do a successful analysis.
Writing a Case Study Analysis
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1ften, as part of your course re#uirements, you will need to present your
instructor with a written case analysis. "his may be an individual or a group
report. *hatever the situation, there are certain guidelines to follow in
writing a case analysis that will improve the evaluation your wor$ will receive
from your instructor. >efore we discuss these guidelines and before you use
them, ma$e sure that they do not conflict with any directions your instructor
has given you.
"he structure of your written report is critical. +enerally, if you follow the
steps for analysis discussed in the previous section, you already will have a
good structure for your written discussion. All reports begin with an
introduction to the case. In it you outline briefly what the company does,
how it developed historically, what problems it is experiencing, and how you
are going to approach the issues in the case write-up. ?o this se#uentially by
writing, for example, @First, we discuss the environment of Company
A..."hird, we discuss Company ABs business-level strategy... Cast, we provide
recommendations for turning around Company ABs business.@
In the second part of the case write-up, the strategic-analysis section, do the
!*1" analysis, analye and discuss the nature and problems of the
companyBs business-level and corporate strategy, and then analye its
structure and control systems. &a$e sure you use plenty of headings and
subheadings to structure your analysis. For example, have separate sections
on any important conceptual tool you use. "hus, you might have a section on
9orterBs five forces model as part of your analysis of the environment. 'ou
might offer a separate section on portfolio techni#ues when analying a
companyBs corporate strategy. "ailor the sections and subsections to the
specific issues of importance in the case.
In the third part of the case write-up, present your solutions and
recommendations. >e comprehensive, and ma$e sure they are in line with
the previous analysis so that the recommendations fit together and move
logically from one to the next. "he recommedations section is very revealing
because, as mentioned earlier, your instructor will have a good idea of how
much wor$ you put into the case from the #uality of your recommendations.
Following this framewor$ will provide a good structure for most written
reports, though obviously it must be shaped to fit the individual case being
considered. !ome cases are about excellent companies experiencing no
problems. In such instances, it is hard to write recommendations. Instead,
you can focus on analying why the company is doing so well, using that
analysis to structure the discussion. Following are some minor suggestions
that can help ma$e a good analysis even better.
(. ?o not repeat in summary form large pieces of factual information from
the case. "he instructor has read the case and $nows what is going on.
)ather, use the information in the case to illustrate your statements, to
defend your arguments, or to ma$e salient points. >eyond the brief
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introduction to the company, you must avoid being descriptive( instead, you
must be analytical.
). &a$e sure the sections and subsections of your discussion flow logically
and smoothly from one to the next. "hat is, try to build on what has gone
before so that the analysis of the case study moves toward a climax. "his is
particularly important for group analysis, because there is a tendency for
people in a group to split up the wor$ and say, @IBll do the beginning, you
ta$e the middle, and IBll do the end.@ "he result is a choppy, stilted analysis
because the parts do not flow from one to the next, and it is obvious to the
instructor that no real group wor$ has been done.
*. Avoid grammatical and spelling errors. "hey ma$e the paper sloppy.
+. In some instances, cases dealing with well-$nown companies donBt include
up-to-date research because it was not available at the time the case was
written. If possible, do a search for more information on what has happened
to the company in subse#uent years. Following are sources of information for
performing this search,
"he World Wide Web is the place to start your research. Dery often you can
download copies of a companyBs annual report from its *eb site, and many
companies also $eep lists of press releases and articles that have been
written about them. "horoughly search the companyBs *eb site for
information such as the companyBs history and performance, and download
all relevant information at the beginning of your pro%ect.
Compact disk sources such as Lotus One Source and InfoTrac provide an
amaing amount of good information, including summaries of recent articles
written on specific companies that you can then access in the library.
FS !redicasts provide a listing on a yearly basis of all the articles written
about a particular company. !imply reading the titles gives an indication of
what has been happening in the company.
"nnual reports on a Form #$%& often provide an organiation chart.
Companies themselves provide information if you write and as$ for it.
Fortune' (usinessWeek' and Forbes have many articles on companies
featured in most cases.
Standard !oor)s industry reports provide detailed information about the
competitive conditions facing the company's industry. >e sure to loo$ at this
%ournal.
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,. !ometimes instructors hand out #uestions for each case to help you in
your analysis. 6se these as a guide for writing the case analysis. "hey often
illuminate the important issues that have to be covered in the discussion.
If you follow the guidelines in this section, you should be able to write a
thorough and effective evaluation.
$he -ole of .inancial Analysis
Another important aspect of analying a case study and writing a case study
analysis is the role and use of financial information. A careful analysis of the
company's financial condition immensely improves a case write-up. After all,
financial data represent the concrete results of the company's strategy and
structure. Although analying financial statements can be #uite complex, a
general idea of a company's financial position can be determined through the
use of ratio analysis. Financial performance ratios can be calculated from the
balance sheet and income statement. "hese ratios can be classified into five
different subgroups, profit ratios, li#uidity ratios, activity ratios, leverage
ratios, and shareholder-return ratios. "hese ratios should be compared with
the industry average or the company's prior years of performance. It should
be noted, however, that deviation from the average is not necessarily bad( it
simply warrants further investigation. For example, young companies will
have purchased assets at a different price and will li$ely have a different
capital structure than older companies. In addition to ratio analysis, a
company's cash flow position is of critical importance and should be
assessed. Cash flow shows how much actual cash a company possesses.
/rofit -atios
9rofit ratios measure the efficiency with which the company uses its
resources. "he more efficient the company, the greater is its profitability. It is
useful to compare a company's profitability against that of its ma%or
competitors in its industry. !uch a comparison tells whether the company is
operating more or less efficiently than its rivals. In addition, the change in a
company's profit ratios over time tells whether its performance is improving
or declining. A number of different profit ratios can be used, and each of
them measures a different aspect of a company's performance. "he most
commonly used profit ratios are gross profit margin, net profit margin, return
on total assets, and return on stoc$holders' e#uity.
-. *ross profit margin. "he gross profit margin simply gives the
percentage of sales available to cover general and administrative
expenses and other operating costs. It is defined as follows,
+ross 9rofit &arginE !ales )evenue - Cost of +oods !old
9
!ales )evenue
.. +et profit margin. =et profit margin is the percentage of profit earned
on sales. "his ratio is important because businesses need to ma$e a
profit to survive in the long run. It is defined as follows,
=et 9rofit &arginE
=et Income
!ales )evenue
/. ,eturn on total assets. "his ratio measures the profit earned on the
employment of assets. It is defined as follows,
)eturn on
"otal Assets
E
=et Income Available to
Common !toc$holders
"otal Assets
0.
=et income is the profit after preferred dividends :those set by
contract; have been paid. "otal assets include both current and
noncurrent assets.
2. ,eturn on stockholders) e-uity. "his ratio measures the percentage of
profit earned on common stoc$holders' investment in the company. In
theory, a company attempting to maximie the wealth of it
stoc$holders should be trying to maximie this ratio. It is defined as
follows,
)eturn on
!toc$holders' 7#uity
E
=et Income Available to Common
!toc$holders
!toc$holders' 7#uity
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0i1uidity -atios
A company's li#uidity is a measure of its ability to meet short-term
obligations. An asset is deemed li#uid if it can be readily converted into cash.
Ci#uid assets are current assets such as cash, mar$etable securities,
accounts receivable, and so on. "wo commonly used li#uidity ratios are
current ratio and #uic$ ratio.
-. Current ratio. "he current ratio measures the extent to which the
claims of short-term creditors are covered by assets that can be
#uic$ly converted into cash. &ost companies should have a ratio of at
least -, because failure to meet these commitments can lead to
ban$ruptcy. "he ratio is defined as follows,
Current )atioE
Current Assets
Current Ciabilities
.. .uick ratio. "he #uic$ ratio measures a company's ability to pay off
the claims of short-term creditors without relying on the sale of its
inventories. "his is a valuable measure since in practice the sale of
inventories is often difficult. It is defined as follows,
Fuic$ )atioE
Current Assets - Inventory
Current Ciabilities
Activity -atios
Activity ratios indicate how effectively a company is managing its assets.
Inventory turnover and days sales outstanding :?!1; are particularly useful,
-. Inventory turnover. "his measures the number of times inventory is
turned over. It is useful in determining whether a firm is carrying
excess stoc$ in inventory. It is defined as follows,
Inventory "urnover E
Cost of +oods !old
Inventory
..
Cost of goods sold is a better measure of turnover than sales, since it
is the cost of the inventory items. Inventory is ta$en at the balance
sheet date. !ome companies choose to compute an average inventory,
beginning inventory, plus ending inventory, but for simplicity use the
inventory at the balance sheet date.
/. /ays sales outstanding 0/SO1' or average collection period. "his ratio
is the average time a company has to wait to receive its cash after
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ma$ing a sale. It measures how effective the company's credit, billing,
and collection procedures are. It is defined as follows,
?!1 E
Accounts )eceivable
"otal !alesG/3H
0. Accounts receivable is divided by average daily sales. "he use of /3H is
standard number of days for most financial analysis.
0everage -atios
A company is said to be highly leveraged if it uses more debt than e#uity,
including stoc$ and retained earnings. "he balance between debt and e#uity
is called the capital structure. "he optimal capital structure is determined by
the individual company. ?ebt has a lower cost because creditors ta$e less
ris$( they $now they will get their interest and principal. 8owever, debt can
be ris$y to the firm because if enough profit is not made to cover the interest
and principal payments, ban$ruptcy can occur.
"hree commonly used leverage ratios are debt-to-assets ratio, debt-to-e#uity
ratio, and times-covered ratio.
-. /ebt%to%assets ratio. "he debt-to-asset ratio is the most direct
measure of the extent to which borrowed funds have been used to
finance a company's investments. It is defined as follows,
?ebt-to-Assets )atioE
"otal ?ebt
"otal Assets
..
"otal debt is the sum of a company's current liabilities and its long-
term debt, and total assets are the sum of fixed assets and current
assets.
/. /ebt%to%e-uity ratio. "he debt-to-e#uity ratio indicates the balance
between debt and e#uity in a company's capital structure. "his is
perhaps the most widely used measure of a company's leverage. It is
defined as follows,
?ebt-to-7#uity )atioE
"otal ?ebt
"otal 7#uity
0. Times%covered ratio. "he times-covered ratio measures the extent to
which a company's gross profit covers its annual interest payments. If
the times-covered ratio declines to less than -, then the company is
unable to meet its interest costs and is technically insolvent. "he ratio
is defined as follows,
"imes-Covered )atioE 9rofit >efore Interest and "ax
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"otal Interest Charges
Shareholder%-eturn -atios
!hareholder-return ratios measure the return earned by shareholders from
holding stoc$ in the company. +iven the goal of maximiing stoc$holders'
wealth, providing shareholders with an ade#uate rate of return is a primary
ob%ective of most companies. As with profit ratios, it can be helpful to
compare a company's shareholder returns against those of similar
companies. "his provides a yardstic$ for determining how well the company
is satisfying the demands of this particularly important group of
organiational constituents. Four commonly used ratios are total shareholder
returns, price-earnings ratio, mar$et to boo$ value, and dividend yield.
-. Total shareholder returns. "otal shareholder returns measure the
returns earned by time t I - on an investment in a company's stoc$
made at time t. :"ime t is the time at which the initial investment is
made.; "otal shareholder returns include both dividend payments and
appreciation in the value of the stoc$ :ad%usted for stoc$ splits; and
are defined as follows,
"otal !hareholder
)eturns
E
!toc$ 9rice :t I -; -
!toc$ 9rice :t; I !um of Annual ?ividends
per !hare
!toc$ 9rice :t;
..
"hus, if a shareholder invests J. at time t, and at time t I - the share
is worth J/, while the sum of annual dividends for the period t to t I -
has amounted to JH.., total shareholder returns are e#ual to :/ - . I
H..;G. E H.3, which is a 3H percent return on an initial investment of
J. made at time t.
/. !rice%earnings ratio. "he price-earnings ratio measures the amount
investors are willing to pay per dollar of profit. It is defined as follows,
9rice-7arnings )atioE
&ar$et 9rice per !hare
7arnings per !hare
0. 2arket to book value. Another useful ratio is mar$et to boo$ value.
"his measures a company's expected future growth prospects. It is
defined as follows,
&ar$et to >oo$ DalueE
&ar$et 9rice per !hare
7arnings per !hare
2. /ividend yield. "he dividend yield measures the return to shareholders
received in the form of dividends. It is defined as follows,
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?ividend 'ieldE
?ividend per !hare
&ar$et 9rice per !hare
3. &ar$et price per share can be calculated for the first of the year, in
which case the dividend yield refers to the return on an investment
made at the beginning of the year. Alternatively, the average share
price over the year may be used. A company must decide how much of
its profits to pay to stoc$holders and how much to reinvest in the
company. Companies with strong growth prospects should have a
lower dividend payout ratio than mature companies. "he rationale is
that shareholders can invest the money elsewhere if the company is
not growing. "he optimal ratio depends on the individual firm, but the
$ey decider is whether the company can produce better returns than
the investor can earn elsewhere.
Cash .low
Cash flow position is simply cash received minus cash distributed. "he net
cash flow can be ta$en from a company's statement of cash flows. Cash flow
is important for what it tells us about a company's financing needs. A strong
positive cash flow enables a company to fund future investments without
having to borrow money from ban$ers or investors. "his is desirable because
the company avoids the need to pay out interest or dividends. A wea$ or
negative cash flow means that a company has to turn to external sources to
fund future investments. +enerally, companies in strong-growth industries
often find themselves in a poor cash flow position :because their investment
needs are substantial;, whereas successful companies based in mature
industries generally find themselves in a strong cash flow position.
A company's internally generated cash flow is calculated by adding bac$ its
depreciation provision to profits after interest, taxes, and dividend payments.
If this figure is insufficient to cover proposed new-investment expenditures,
the company has little choice but to borrow funds to ma$e up the shortfall or
to curtail investments. If this figure exceeds proposed new investments, the
company can use the excess to build up its li#uidity :that is, through
investments in financial assets; or to repay existing loans ahead of schedule.
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Conclusion
*hen evaluating a case, it is important to be systematic. Analye the case in
a logical fashion, beginning with the identification of operating and financial
strengths and wea$nesses and environmental opportunities and threats.
&ove on to assess the value of a company's current strategies only when you
are fully conversant with the !*1" analysis of the company. As$ yourself
whether the company's current strategies ma$e sense, given its !*1"
analysis. If they do not, what changes need to be made< *hat are your
recommendations< Above all, lin$ any strategic recommendations you may
ma$e to the !*1" analysis. !tate explicitly how the strategies you identify
ta$e advantage of the company's strengths to exploit environmental
opportunities, how they rectify the company's wea$nesses, and how they
counter environmental threats. Also, do not forget to outline what needs to
be done to implement your recommendations.
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