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VALUE CREATION - Coggle Diagram
VALUE CREATION
FLAWED MEASURES OF VC
FLAWS
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Accounting measurement rules are conservatively biased. Slow to recognise gains and revenues but quick to recognise expenses and loss
Some economic values and value changes are ignored as cannot be measured accurately. Such as 'intangible' assets.
Accounting profit measures ignore the cost of equity capital, which is usually more than the cost of debt capital.
Accounting profit measures ignore risk and changes to risk. - Companies that have not changed the pattern or timing of their expected future cash flows but have made future cash flows more certain (less risky) have increased their economic value. This change is not reflected in accounting profits
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VALUE OF ASSETS
FAIR VALUE ACCOUNTING
Identifies actual market value of an asset or liability at the measurement date
HISTORICAL COST ACCOUNTING (HCA) - Favoured by most accountants
Records value of asset at purchase
Inflation alters things going forward
Could be manipulated - If an asset which was bought 20 years ago was sold, and then instantly rebought, the value of the asset,k using HCA would increase, a lot!. This would look like more profit
SHAREHOLDER VALUE
PRINCIPLE
2 Make strategic decisions that maximise expected value, even at the expense of lowering near-term earnings
3 Make acquisitions that maximise expected value, even at the expense of near-term earnings.
4 Carry only assets that maximise value. Like keeping high value-added activities, such as R&D and Marketing, and out=-sourcing low value-added activities, like manufacturing.
5 Return cash to shareholders when there is no credible value-creating opportunities in invest in the business
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8 Reward middle managers and frontline employees for delivering superior performance on the key value drivers that they influence directly
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1 Focusing on Earnings - Doesn't approximate a company's value of change in value over the reporting period. Also value is compromised when they invest at a rate below the cost of capital or forgo investment in value-creating opportunities. Lastly, forever reporting good earnings, when value-creation is destroying companies catches up on companies.
80% would decrease value-creating spending in order to meet earnings target