Chapter 1 Review

1
Chapter 1 - Review

• What four factors influence the financial
  statements of a firm?
• What organization is responsible for accounting
  rules?
• How does SFAS No. 131 define a reportable
  segment?
• Who certifies financial statements?
• Where are a firms accounting policies presented
  in its financial statements?

2
Strategy Analysis

• Strategy Analysis is concerned with
• How does the company make money?
• What determines a companys profits?
• What are the companys key risks?
• Given the profit drivers and risks
• Can growth be sustained?
• What will happen to the companys efficiency,
  profitability, leverage and liquidity?

3
Industry Analysis

• Industry Analysis attempts to answer the
  following question
• What portion of a companys profitability is a
  function of its industry membership?

4
Understanding the economic and business
environment
General Environment
Threat of Entry
Industry Environment
Bargaining Power of Suppliers
Bargaining Power of Buyers
Threat of Substitution
5
General Environment

• One step back
• Economic Budget deficits, personal savings
  rates, etc
• Credit environment term structure
• Demographic population, age, ethnicity
• Political and Legal tax laws, anti-trust
• Socio-Cultural diversity, environment, consumer
  preferences
• Technological adoption of new technologies,
  obsolescence
• Global currency issues, security issues
• Can the manager control these issues?

6
General Environment

• Since the manager can not control these issues
  what should he or she do?
• Scan the general environment SWOT analysis
  (strengths, weaknesses, opportunities, and
  threats)
• Monitor the general environment
• Forecast with sensitivity analysis
• Assess and re-evaluate

7
Business Strategy

• Types of Industries
• Perfect Competition - large of buyers/sellers
• Firms demand curve is horizontal
• No economic profits in the long run
• No product differentiation
• No new innovation, only better efficiency

8
Business Strategy

• Types of Industries
• Pure monopoly - one seller
• WHY EXIST?
• Monopolistic competition

9
Business Strategy

• Types of Industries
• Oligopoly - High barriers to entry
• competition is nonprice based

10
Business Strategy

• Industry environment in which a firm operates is
  affected by numerous factors Porters 5 Forces
  provides one method of analyzing the forces
  affecting the firm
• Supplier Power
• Buyer Power
• Threat of new Entrants
• Threat of Substitutes
• Rivalry

11
Industry Environment

• Buyer Power What factors determine the strength
  of the industry's customers?
• Bargaining Leverage
• Buyer Information
• Switching Costs
• Substitute Products
• Buyer concentration vs. Seller concentration
• Buyer volume

12
Industry Environment

• Buyer Power What factors determine the strength
  of the industry's customers?
• Price Sensitivity
• Price with respect to total budget
• Product differentiation
• Brand Identity
• Quality / Performance Issues

13
Industry Environment

• Supplier Power What factors determine the
  bargaining power of the industry's suppliers?
• Factors
• Presence of substitutes
• Importance of value to supplier
• Supplier concentration
• Cost relative to total purchase in industry

14
Industry Environment

• Rivalry determinants Level of competition is
  determined by
• Industry growth
• Informational Complexity
• Product differences
• Current level of capacity
• Exit barriers

15
Industry Environment

• Threat of new entrants factors affecting the
  ability of new firms to enter the industry
• Brand identity
• Economies of scale
• Switching costs
• Capital requirements
• Government policy

16
Industry Analysis

• Competitor analysis Examine the industry leader
  and determine
• What is the industry leaders objective?
• Price leadership?
• Product differentiation?
• New markets?
• How is the industry leader performing based on
  its current strategy?
• What are the strengths/weaknesses of competitors?

17
Industry Analysis

• Examine Price Elasticity of Demand
• Measures the responsiveness of demand to changes
  in price.

• Its value is always negative, but elasticity is
  stated in absolute terms.

18
Interpreting the Value of Elasticity
Here is how to interpret two different values of
elasticity

• When e 0.2, a 10 increase in price leads to a
  2 decrease in quantity demanded.
• When e 2.0, a 10 increase in price leads to a
  20 decrease in quantity demanded.

19
Demand Elasticity
Response to Price Changes Responsive Unresponsive
Proportional
Value of Elasticity ? gt 1 ? lt 1 ? 1
Type of Demand Elastic Inelastic Unitary elastic
Magnitudes of Change ?Qd gt ?P ?Qd lt ?P ?Qd
?P
20
Demand Elasticity
Type of Elasticity Elastic Inelastic
Pass on price increases to consumers NO YES
Substitutes Available Many Few
21
Elasticity and Total Revenue

• When demand is inelastic, price and total
  revenues are directly related. Price increases
  generate higher revenues.
• When demand is elastic, price and total revenues
  are indirectly related. Price increases generate
  lower revenues.

22
Determinants of Demand Elasticity

• Availability of substitutes -- demand is more
  elastic when there are more substitutes for the
  product.
• Importance of the item in the budget -- demand is
  more elastic when the item is a more significant
  portion of the consumers budget.
• Time frame -- demand becomes more elastic over
  time.

23
Industry Analysis

• Target Market Analysis
• Who are the firms customers?
• What else do customers buy?
• Why do customers need the product?

24
Industry Analysis

• SWOT ANALYSIS
• How to gain market share
• Product differentiation - Be more ________
• Cost Leadership - Be more ________

25
AOL Case

• Pre-1995 why was AOL successful?
• Circa 1995 what changes are occurring in the
  industry, what is the outlook for AOL?

26
AOL Case

• Capitalization policy for Subscriber Acquisition
  Costs
• Reasonable before 1995?
• Post 1995 is the policy justified?

27
AOL Case

• Balance Sheet and income statement effects
• Balance sheet think about note 9
• Income statement need to make an assumption
  about the tax rate