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CORPORATE STRATEGY AND FORMULATION

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BY: SURESH .V. MENON-CHIEF CONSULTANT & BUSINESS ADVISORY ON SIX SIGMA, ISO-SOC 2 AUDITING, PROCESS EXCELLENCE

Corporate strategy addresses three key issues facing the corporation as a whole:

  • The firm’s overall orientation toward growth, stability or retrenchment (Directional strategy)
  • The industries or markets in which the firm competes through its products and business units (portfolio analysis)
  • The manner in which management coordinates activities, transfers resources and cultivates capabilities among product lines and business unit (parenting strategy)

Corporate strategy, therefore includes decisions regarding the flow of financial and other resources to form a company’s product lines and business units. Through a series of coordinating devices, a company transfers skills and capabilities developed in one unit to other unit that need such resources.

A corporation’s directional strategy is composed of three general orientations

  • Growth strategies to expand the company’s activities
  • Stability strategies to make no change to the company’s current activities.
  • Retrenchment strategies reduce the company’s level of activities.

Growth Strategies

By far the most widely pursued corporate directional strategies are those designed to achieve growth in sales, assets, profits or some combination of these. A corporation can grow internally by expanding its operations both globally and domestically or it can grow externally through mergers, acquisitions and strategic alliances.

Controversies in Directional strategies

Although the research is not in complete agreement, growth into areas related to company’s current product line is generally more successful than is growth into completely unrelated areas but the research in this area has been limited.

Stability strategies can be very useful in the short run but they can be dangerous if followed for too long.

Portfolio analysis encourages top management to evaluate each of the corporations’ businesses individually and set to objectives and allocate resources to each. It also raises the issue of cash-flow availability for use in expansion and growth.

Analyzing financial statements

A typical financial analysis of a firm would include a study of the operating statements for five or so years, including a trend analysis of sales, profits, earnings per share, debt-to-equity ratio, return on investment, plus a ratio study like liquidity ratios, profitability ratios, leverage ratios and activity ratios.

Index of sustainable growth

If the corporation to be consulted appears to be in poor financial condition, use Altman’s Z-Value Bankruptcy formula to calculate its likelihood of going bankrupt. The Z Value formula combines five ratios’ by weighing them according to their importance to a corporation’s financial strength.

The formula is Z = 1.2 x1 + 1.4 x2 + 3.3 x3 + 0.6 x4 + 1.0 x5 where:

x1= Working capital/ total assets (%)

x2= Retained earnings/ total assets (%)

x3= Earnings before interest and taxes/ total assets (%)

x4= Market value of equity/ Total liabilities (%)

x5= Sales/Total assets (Number of times)

A score below 1.81 indicates significant credit problems, whereas above 3.0 indicates a healthy firm. Scores between 1.81 and 3.0 indicates question mark. The Altman Z model has achieved a remarkable 94% accuracy in predicting corporate bankruptcies. Its accuracy is excellent in the two years before financial distress, but diminishes as the lead time increases. It has also been found to be the strongest predictor of bankruptcy. We can also further  apply Strategic Audit after the financial analysis has been done. During post corona period the Z value formula can be very aptly applied in large and mid-size software companies to adjust the strategies in the software company as per the resulting score of the Z value formula.

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