Shareholders Value Creation

1. ` Shareholders Value Creation must see presentation for corporate executives A handy e-book on how to create sustainable shareholders value?

2. <ul><li>What is Value creation? </li></ul>

3. <ul><li>Value creation means creating value for shareholders </li></ul><ul><li>Value creation should be the centre point of all the metrics </li></ul><ul><li>When organization creates value for shareholders means they are creating value for all the stake holders </li></ul>

4. <ul><li>Value creation for stakeholders </li></ul><ul><li>Revenue reflects value delivered to customers </li></ul><ul><li>COGS value creation for suppliers & manufacturer </li></ul><ul><li>SG&A value creation for service provider, marketing & administrative employee </li></ul><ul><li>Taxes value delivered to government </li></ul><ul><li>Interest Expenses value delivered to bondholders </li></ul><ul><li>Net Income value delivered to shareholders </li></ul><ul><li>TSR creates value for all the stakeholders </li></ul><ul><li>& overall society by improving standard of living </li></ul><ul><li> </li></ul>

5. <ul><li>How to create value? </li></ul>

6. <ul><li>For the last 2 decade or so organization uses different method of value creation like EPS, CFROI, and ECONOMIC PROFIT etc. </li></ul><ul><li>These are important parts or features of value creation but no metric is sufficient itself to show true value creation potential </li></ul><ul><li>EARNING PER SHARE (EPS) was the most popular metric for value creation but EPS consider only short-term outlook and managers manipulate EPS by </li></ul><ul><li>delaying investment decision to show higher quarterly profit </li></ul><ul><li>take huge debts on B/S and make investment that doesn’t cover cost of capital & destroy value </li></ul><ul><li>Market and investors are more mature now they don’t see only short-term quarterly profit but alignment of short-term quarterly profit with company’s long term strategy </li></ul>

7. <ul><li>Which is the best metric for Value Creation? </li></ul>

8. <ul><li>TSR (Total Shareholders Return) is the best metric for value creation </li></ul><ul><li>It creates value by considering short-term profitability align with long term vision </li></ul><ul><li>It considers all the 3 parts of value creation i.e. Fundamental Value, Investors Expectation (Valuation Multiple) and Use of Free Cash Flow </li></ul>

9. <ul><li>TSR generation levers (TSR Target – 10% ) </li></ul><ul><li>TSR 10% </li></ul><ul><li>Fundamental Value </li></ul><ul><li>Sales Growth 4.5% </li></ul><ul><li>Margin -0.5% </li></ul><ul><li>Fundamental Value Change 4.0% 4.0% </li></ul><ul><li>Valuation Multiple Change (Investors Expectation - EV/EBITDA) 3.5% </li></ul><ul><li>Growth </li></ul><ul><li>Margin </li></ul><ul><li>Cost Control </li></ul><ul><li>Capital Structure (Debt/Equity) / Cost of Capital </li></ul><ul><li>Dividend Payout </li></ul><ul><li>Size (Economies of Scale) </li></ul><ul><li>ROIC </li></ul><ul><li>Economic profit ( Short-term measure) </li></ul><ul><li>Industry Life-cycle </li></ul><ul><li>Scale ( Global Scale advantage) </li></ul><ul><li>Diversification ( Conglomerate) </li></ul><ul><li>Others ( R & D expenditure @ % sales – depend upon industry) </li></ul><ul><li>Use of Free Cash Flow </li></ul><ul><li>Dividend payout 2.5% - </li></ul><ul><li>Share buyback 1.0% </li></ul><ul><li>Net debt change -1.0% </li></ul><ul><li>Cash Flow Contribution 2.5% 2.5% </li></ul>Inter- linked

10. <ul><li>Fundamental Value + Valuation Multiple = Market Capitalization </li></ul><ul><li>Fundament Value Change = Investors Expectation </li></ul><ul><li>FVC but Valuation Multiple TSR </li></ul><ul><li>Cash Flow Contribution = Investors Expectation </li></ul><ul><li>CFC but Valuation Multiple TSR </li></ul><ul><li>Fundamental Value Change & Cash Flow Contribution ~ linked to Investors’ Expectation </li></ul>

11. <ul><li>Primary Driver Retail Grocery Sector </li></ul>Valuation Multiple drivers vary industry to industry 20 100 80 60 40 Gross profit Margin as a % of Revenue Operational Expenses as a % of Revenue Inventory Turnover Dividend Debt / Assets Sector Focus Growth Unexplained 20 40 60 80 100 Low Debt / Capital Ratio EBITDA Margin as a % of Revenue Company Size Growth Unexplained Operational Factor Primary Driver Mining & Material Sector # Analysis conducted by one of the top Consulting company

12. Future TSR generation levers TSR % Fundamental Value Sales Growth Margin Brand value change Fundamental Value Change Valuation Multiple Change (Investors Expectation - EV/EBITDA) Growth Margin Cost Control Capital Structure (Debt/Equity) / Cost of Capital Dividend Payout Size (Economies of Scale) ROIC Economic profit ( Short-term measure) Industry Life-cycle Scale ( Global Scale advantage) Diversification ( Conglomerate) Others ( R & D expenditure @ % sales – depend upon industry) Use of Free Cash Flow Dividend payout - Share buyback Net debt change Cash Flow Contribution Corporate Social Responsibility Contribution Inter- linked

13. <ul><li>Brand value is a very important part of business however TSR doesn’t consider brand value change in TSR calculation </li></ul><ul><li>Earlier there were deviation in calculating brand value for different countries & companies however after the introduction of “International standard for Brand valuation” valuation of brand becomes uniform & easy to calculate across the geography </li></ul><ul><li>Brand Value should be a part of Fundamental Value of TSR metric </li></ul><ul><li>Corporate Social Responsibility has become new buzz word of business & as per IBM CEO study companies are giving more importance to CSR. Investment in CSR will grow 25% in the next 3 years however market still doesn’t consider value of CSR in stock prices. Organization need to develop a metric that creates awareness among investors & analysts to monetize the value of CSR & consider the same as a part of TSR metric </li></ul>

14. <ul><li>What is sustainable value creation? </li></ul>

15. <ul><li>The most difficult challenge for any organization is to create value continuously for a long period of time. Beating local stock-market average return continuously for 8-10 years is an uphill task and only few organizations achieve it. Organization can beat local index in 3-4 years then fall back for 3 years and then again beat index for 4 years but it doesn’t comes under sustainable value creation </li></ul>

16. TOP 10 Sustainable Value Creator # Survey & analysis conducted by one of the top Consulting company by considering more than 6000 companies, after scrutiny final sample arrived at around 700 companies in 14 different industry excluding financial sector. 1 Average annual TSR relative to local stock-market average 1999-2008 2 As of December 31 2008 34.7 6 10.7 Technology & Telecommunication Taiwan Taiwan semi-conductor 10 38.0 6 12.1 Pharma & Medical Technology. Israel Teva Pharmaceutical 9 32.3 6 14.2 Mining & Material Holland Arcelor Mittal 8 119.5 8 14.4 Mining & Material Australia BHP Billiton 7 36.6 8 14.9 Utilities US Exelon 6 36.7 6 16.5 Chemicals India Reliance Industries 5 61.9 8 17.8 Mining & Material Brazil Value 4 53.2 8 17.9 Consumer Goods UK British American Tobacco 3 75.8 7 25.1 Technology & Telecommunication US Apple 2 46.5 10 36.4 Pharma & Medical Technology US Gilead Science 1 Market Value 2 ( $ billion) Year of Positive TSR Ten year TSR 1 (%) Industry Location Company #

17. <ul><li>Why is it difficult for organization to create sustainable value? </li></ul>

18. <ul><li>Now the most difficult question, </li></ul><ul><li>Why organization can’t beat local stock-market average continuously for 10 years? What blocks them? </li></ul><ul><li>There are various reasons and the most important of them are- </li></ul><ul><li>Corporate Strategy not properly aligned with Investors Expectation </li></ul><ul><li>Inefficiency in handling multiple compressions </li></ul><ul><li>Inefficiency in smoothly shifting majority investors base, as required </li></ul><ul><li>Organizational/Management inefficiency (improper flow of Corporate strategy from top-to-bottom) </li></ul>

19. <ul><li>Multiple Compressions </li></ul><ul><li>Even if organization develops corporate strategy & communicated it properly to investors and employee then also they have to face biggest hurdle of value creation (TSR) i.e. multiple compressions </li></ul><ul><li>No organization, how big or small they are can’t escape multiple compressions. Handling multiple compressions is one of the toughest challenge of value creation or sustainable TSR generation </li></ul>

20. <ul><li>What are multiple compressions & how to beat it? </li></ul>

21. <ul><li>Multiple compressions are a situation that occurs when an organization continuously beat investors expectation and it makes investors to further increase their expectation, however after years of continuously exceeding investors expectation base becomes higher, competition increases and industry starts maturing, this is a situation where it becomes very difficult for an organization to beat investors expectation </li></ul>

22. <ul><li>How to beat multiple compressions to create sustainable value? </li></ul>

23. <ul><li>This kind of situation needs revisiting corporate strategy. There are two ways to beat multiple compressions- </li></ul><ul><li>First, organization needs to check whether they are able to fulfill growth investors expectation. Growth investors always demand high growth with appropriate margin, if organization unable to fulfill it then investors/analysts discount company’s valuation multiple and it reduces company’s overall TSR </li></ul><ul><li>In this kind of situation organization need to shift their majority investors from “growth investors’” to “value investors” </li></ul><ul><li>Transition from growth to value investors’ is a very tricky task & it should be carry out smoothly in a phased manner by proper investors communication so in-process TSR doesn’t erode </li></ul>

24. <ul><li>multiple compressions cont…. </li></ul><ul><li>Another approach is to continue serve “growth investors” by improving margin in existing market through operational efficiency to sustain desired revenue growth and simultaneously diversify in new market through organic or acquisition mode so that investors convince that organization pursuing is growth strategy and they don’t discount company’s valuation multiple </li></ul><ul><li>Above all, investors communication is the most important part of sustainable value creation. Adequate investor communication about company’s modifying corporate strategy will solve the major problem of multiple compressions. Investors discount company’s price when they are not sure about company’s future strategy of sustainable value creation </li></ul>

25. Top value creators TSR composition in different Industry # Analysis conducted by one of the top consulting company 1 Five years average annual TSR ( 2004-08) * % of TSR & its levers are rounded off for better understanding 5 -1 3 -6 3 7 11.0 Automotive & Supply 3 -1 2 0 3 3 10.0 Media & Publishing 0 -1 3 2 -2 6 8.0 Pulp & Paper 1 -3 5 -3 -1 15 14.0 Travel & Tourism 2 1 2 -5 4 14 18.0 Transportation & Logistics 1 1 3 -2 4 13 20.0 Retail 7 0 4 2 -5 12 20.0 Utilities 2 -1 1 3 2 14 21.0 Pharma & Medical Technology -1 -2 4 5 0 16 22.0 Consumer Goods -1 0 4 -15 2 32 22.0 Mining & Material 12 -2 3 -7 2 15 23.0 Multibusiness 4 -1 2 -1 8 15 27.0 Chemicals 4 1 1 4 -1 24 33.0 Technology & Telecommunication 1 -3 2 8 8 19 35.0 Machinery & Construction Net Debt. Change % Share Change% Dividend Yield% Multiple Change % Margin Change% Sales Growth% TSR 1 % Industry Cash Flow Contribution Valuation Multiple Fundamental Value Value Creation #

26. <ul><li>In high TSR generated industry like machinery, technology & chemical etc. majority of TSR comes from sales growth & in most of the cases sales growth go hand-in-hand with margin improvement however with few exceptions </li></ul><ul><li>In low TSR generated industry like pulp & paper, media & publishing majority of TSR comes from operational efficiency & cash flow contribution </li></ul>

27. Impact of Valuation Multiple on Total TSR # Analysis conducted by one of the top consulting company 1 Five years average annual TSR ( 2004-08) * % of TSR & its levers are rounded off for better understanding -3 -1 3 -11 0 10 -2.0 Multibusiness -4 -3 2 -7 1 6 -5.0 Automotive & Supply -5 0 3 -2 -4 1 -7.0 Pulp & Paper -2 1 3 -12 5 4 -1.0 Media & Publishing 0 -2 3 -10 3 7 1.0 Travel & Tourism -1 0 1 -10 1 10 1.0 Pharma & Medical Technology -1 1 2 -8 -1 9 2.0 Technology & Telecommunication -1 0 2 -9 2 8 2.0 Retail 1 -2 2 -7 1 8 3.0 Transportation & Logistics -1 0 3 -2 1 6 7.0 Consumer Goods -1 0 2 -6 -2 13 6.0 Chemicals -1 -1 2 -10 7 10 7.0 Machinery & Construction -1 -2 3 -14 6 17 9.0 Mining & Material 2 -1 4 3 -4 8 12.0 Utilities Net Debt. Change % Share Change% Dividend Yield% Multiple Change % Margin Change% Sales Growth% TSR 1 % Industry Cash Flow Contribution Valuation Multiple Fundamental Value Value Creation #

28. # Analysis conducted by one of the top consulting company * It consists of around 2000 companies sample with market capitalization of greater than $ 1 billion; companies were assigned to quartiles by industry on the basis of their 1998 EBITDA multiple (EV / EBITDA) 1 Valuation multiple index is the median EBITDA multiple of each quartile minus the median of total sample

29. <ul><li>Four converging lines in the chart suggest that over the ten year period the median multiple of each group approaches that of entire sample </li></ul><ul><li>Senior executive need to prepare stretch goal against the realities of their company’s competitive position and organizational capabilities, as well as against the expectation of investors </li></ul>

30. Sales Time Valuation Multiple Time Total Market Index 20 100 80 40 60 Shares % Time Investor Category value GAAP Growth Other 1 as company gets bigger its, rate of growth slows…. .. causing its above-average multiple to decline .. and shifting the mix of its investors base towards value After periods of rapid growth, a company typically experiences multiple compression GAAP - growth against adequate profit 1 Other consists of hedge, index, international, momentum, sector-specific, specialty, venture capital, private equity & yield investors

31. <ul><li>US software company is a very good example of multiple compression. In 1999 company has an annual growth rate of nearly 40% which resulted into price/earning ratio of more than 60, double the S & P 500 market average. But as the company’s growth rate plummeted over the years, its multiple gradually declines, and in 2007 it was below S & P 500 average. </li></ul><ul><li>During the period its investors base has also shifted, value investors more than doubled from 14% in 1999 to 30% in 2007 and growth investors declined from 32% to 20%. </li></ul>

32. 99 00 01 03 02 05 04 06 07 0 20 40 0 10 20 30 40 60 Sales $ 000’ million Growth % Valuation Multiple 1 Share % Multiple compression in US software industry caused a significant shift in Investors Base 1 Price to Earning ratio 2 Other consists of hedge, index, international, momentum, sector-specific, specialty, venture capital, private equity & yield investors 07 99 Year 18 67 Software Company 20 33 S & P 500 28% 27% Others 2 30% 14% Value 22% 27% GAAP 100% 100% Total 20% 32% Growth 07 99 Investor Mix / Year

33. <ul><li>How to build Sustainable Value Creation (TSR Generation) Strategy? </li></ul>

34. <ul><li>How to build Sustainable Value Creation (TSR Generation) Strategy? </li></ul><ul><li>Developing value creation strategy requires current state of a company, starting point in the capital market and integration of Business, Finance & Investment Strategy </li></ul><ul><li>Historical View </li></ul><ul><li>business view </li></ul><ul><li>financial view </li></ul><ul><li>investor strategy view </li></ul><ul><li>Build Future Aspirational TSR </li></ul><ul><li>develop value creation scenario </li></ul><ul><li>choose appropriate strategy </li></ul><ul><li>Develop TSR Sustainable Matrix </li></ul><ul><li>Communicate Corporate Strategy to Investors </li></ul>

35. <ul><li>Traditional Corporate Strategy Integrated Corporate Strategy Process </li></ul>Define Business Strategy Align Financial Strategy Market to Investors TSR goal Design Business Strategy TSR Target Formula t e Finance Strategy Develop Investor Str a tegy Integrated corporate strategy process for value creation

36. <ul><li>Historical Business View </li></ul><ul><li>historical TSR of a company and its peer group </li></ul><ul><li>percentage of contribution of TSR from fundamental value change & cash flow for the company and its peer group </li></ul><ul><li>major dominant investor of the company </li></ul><ul><li>contribution of valuation multiple (Investors Expectation) in total TSR. Is there huge difference in contribution between the company and its peer group? which factor creates more contribution for peer group? which factors the company need to uplift to increase contribution of valuation multiple in total TSR? </li></ul>

37. Different company creates value in different way in an Industry # Analysis conducted by one of the top Consulting company 1 TSR (2003-08) 2 Weighted average of peer group * Primary source of company’s TSR are circled in red. Each factor shows percentage point of 5 year average annual TSR 16.8 6.0 10.2 16.6 19.7 20.5 20.6 Total TSR 1.1 4.4 0.0 0.0 3.0 -2.0 0 . 0 Net Debt Change 0.1 0.0 5.9 0.1 -4.3 -0.4 0.0 Share Change 1.7 0.4 0.9 0.7 2.1 0 . 0 4.0 Dividend Yield Cash Flow Contributi0n 3.5 -3.1 -0.8 3.9 10.0 6.3 3.6 EBITDA Multiple Change Valuation Multiple 0.2 -6.3 -3.1 -0.3 0.5 -1.4 8.5 Margin Change 10.2 10.6 7.3 12.2 8.4 18.0 4.5 Sales Growth Fundamental Value Peer group avg. 2 Company Peer 5 Peer 4 Peer 3 Peer 2 Peer 1 TSR Lever # TSR 1

38. 0 10 20 30 40 50 10 20 30 40 50 Minority Peer group average % Company % Majority Investors mix compared to peers value Growth Index GAAP Income Hedge Fund Others *Analysis conducted by one of the top consulting company ( Live company example)

39. <ul><li>Historical Financial View </li></ul><ul><li>What is the present situation of the company in terms of finance & how it uses cash? </li></ul><ul><li>What is the capital structure & cost of Capital of the company? </li></ul><ul><li>What % of cash is used for payout? </li></ul><ul><li>Is the current financial situation is apt for future TSR generation? </li></ul><ul><li>The purpose of financial fact base is to determine the best uses of company’s cash </li></ul><ul><li>Investors Strategy </li></ul><ul><li>Who are the dominant investors of the company (growth investor, GAAP, value investor etc.)? </li></ul><ul><li>Is investors expectation & priorities are aligned with company’s corporate strategy? </li></ul>

40. 20 % Leverage 40 % Leverage

41. <ul><li>Sustainable growth rate chart helps in quantifying a company’s financially sustainable growth rate; the organic growth rate in revenue that the company can fund without changing current returns & financial policy </li></ul><ul><li>It provides a framework for executive to know where they are currently positioned - where they would ideally like to be positioned </li></ul><ul><li>Sustainable chart gives an insight about how much growth can be funded and the amount directly return to investors after funding the growth </li></ul>

42. <ul><li>Build Future Aspirational TSR </li></ul><ul><li>Next step is to set up future aspirational TSR. Future aspirational TSR depends upon management style of working & their aggressiveness </li></ul><ul><li>Does Company’s future aspiration matches with the current plan strategy? </li></ul><ul><li>Is future aspiration is higher than current TSR? How much higher is it? </li></ul><ul><li>What will be the financial policy for achieving aspirational TSR? How will company fund organic/inorganic growth of Revenue generation? What will be the pay-out for aspiration TSR? What policy company adopts to pay-out dividend/share repurchase? </li></ul><ul><li>Can future aspiration be met by squeezing or uplifting current factors? If no, identify the gap between present & aspirational TSR & develop different scenario to achieve aspirational TSR </li></ul>

43. <ul><li>Organization can achieve aspirational TSR by identifying value creation scenarios & choosing appropriate strategy. </li></ul><ul><li>Value creation scenario requires making strategic choice across various dimensions- </li></ul><ul><li>Growth Ambition Harvest/Invest - Diversified </li></ul><ul><li>Growth Path Organic/Inorganic - Both </li></ul><ul><li>Portfolio mix Maximize/Migrate </li></ul><ul><li>Time Frame Near term/Mid-Term/Long term </li></ul><ul><li>Risk Appetite Low/Med/High </li></ul><ul><li>Financial Flexibility Maximize/Monetize </li></ul><ul><li>Financial Policies Dividend/ Repurchase </li></ul><ul><li>Investor Mix Growth/ Reasonable Growth/ Value </li></ul>

44. Sustainable Value creation Four pathways (strategy) to create sustainable TSR Portfolio & Combined strategy always on the lookout for the next best way to beat investors expectation & deliver superior TSR Cash strategy provides sustainable TSR as long as its valuation multiple doesn’t grow too large Growth strategy provides sustainable TSR only when growth doesn’t come at the expenses of severely eroded margin Success Factor All parts of sustainability are pursued. Used by conglomerate that diversify itself into various businesses TSR is used a central metrics for value of business units Combined Strategy Redefinition of business model Divestiture & Acquisitions move company into more promising market Portfolio Strategy Good margins & increasing productivity to generate good amount of cash Return of free cash flow to shareholders & debt holders Cash Strategy Profitable above average growth that continuously exceeds investors expectation Reinvestment of cash Growth Strategy Value Creation Levers Type of Strategy

45. cash Strategy Growth Strategy Portfolio Strategy Combined Strategy Growth strategy may end up in a matured market with little prospect for further growth Successful cash strategy will eventually run out of room for further improvement Portfolio strategy will one day have to concentrate on margin improvement & balance sheet stability Growth strategy might one day reach a size where divestment & clear focus becomes necessary Possible next step Follows all three combination of value creation for different business units Four pathways of value creation can’t be static as industry, competition, economy & markets are dynamic

46. <ul><li>After identifying, selecting & developing appropriate corporate strategy & desired TSR target, organization need to divide TSR aspiration target as per business unit level. Each business unit should contribute its share of TSR, to achieve overall TSR </li></ul><ul><li>Each business unit should be treated as independent companies/units competing for capital in a kind of internal stock market. Units are responsible for delivering required contribution to TSR through some combination of sales growth, margin improvement, and increased asset productivity. The internal TSR system uses metrics equivalent to fundamental value – that is, it incorporate the increase in the intrinsic value of unit, measured by growth in sales & margin </li></ul><ul><li>Business units dividend is measured by the cash flow that unit returns to corporate after reinvestment </li></ul><ul><li>Internal TSR metrics are a comprehensive way ensure that internal target are tightly link to company’s overall value creation strategy </li></ul>

47. <ul><li>Apple is a very good example of growth strategy . After the re-joining of one of its founder Steve Job, in 2002 Apple introduced series of highly successful product & services like I-pod, I-tune online music, I-phone & I-pad and it transformed the company from low-growth niche player in computer business to high growth electronic juggernaut. The combination of product innovation & business model innovation put Apple at the very centre of the market, approx. 30 times the size of original market </li></ul><ul><li>Apple has not had negative year-to-year quarterly growth since March 2003 and it is one of the few companies that has grown during the downturn also </li></ul>

48. <ul><li>Since March 2003 Apple’s EBITDA has increased almost ten-fold from 2.2% of revenue to 20.8%. During 5 years ending 2008 Apple’s average annual TSR was more than 50% </li></ul><ul><li>In the year 2010 Apple’s sales was increased more than 50% and its market capitalization has increase by $ 100 billion to $ 300 billion. Apple’s share traded at 19 times estimated earnings of fiscal 2011 as contrast to forward multiple of S & P is just 13 </li></ul><ul><li>Apple’s innovation & growth focused strategy has positioned the company to exploit the next phase in technology, media & entertainment. As per the survey, Apple is number 1 company not only in technology & communication but also in consumer goods. It made to top 5 in retail, media & entertainment also </li></ul>

49. 34% 22% 21% 17% ..for top performer, growth is the single most important source of TSR over the long term <ul><ul><li>* Analysis conducted by a top consulting company by identifying 4000 companies in 14 different industries with final sample of 700+ companies ( excluding financial services) </li></ul></ul><ul><ul><li># Each bar shows average annual TSR for a given period of time; shaded section of bar shows % of TSR from each source </li></ul></ul>74% 15% 5% 6% 58% 20% 15% 7% 50% 20% 19% 11% 29% 13% 46% 12%

50. * Analysis conducted by one of the top consulting company, total global sample = 700+ companies Vale creation of global top ten performer vs. total global sample

51. <ul><li>Average annual TSR of Global Top Ten company is more than 12 times than that of total sample as a whole. The lesson for executives is that coming from a sector with below market-average performance is no excuse. No matter how bad an industry’s average performance is relative to other sectors and to the market as a whole, it is still possible for companies in that industry to deliver superior shareholders return </li></ul>

52. British American Tobacco & McDonald’s are good example of cash strategy; outperforming local index & generating sustainable TSR with margin improvement * Analysis conducted by one of the top consulting company 1 Ten-year average annual sales growth 2 Ten-year average annual TSR 3.3 11.4 S & P 500 avg. 7.0 6.6 McDonald’s 19.0 5.5 British American Tobacco TSR 2 % Sales Growth 1 % 1998-2008

53. <ul><li>Proctor & Gamble is a very good example of portfolio strategy & managing TSR at business unit level. In June 2000 when A.G. Lafley joined P & G, situation of P & G was very bad its market value were declined about $ 85 billion since Jan. 2000 </li></ul><ul><li>After joining, the first thing Lafley did was started managing business unit explicitly on TSR basis by setting ambitious TSR goal. He identify peer group that not only consist of competitors like Unilever and L’Oreal but also large corporation in other industries that were competing with P & G for investors $. The companies target was to be in top third of group over the rolling period of 3, 7 and 10 years </li></ul><ul><li>In order to achieve desired TSR target P & G requires doubling of its revenue growth however company’s current growth is coming at the expense of margin. Achieving double the growth from current level with margin improvement was really an uphill task </li></ul>

54. <ul><li>P & G developed operational TSR metrics at business unit level to measure the performance of brand & business units in terms of their contribution to the company’s TSR. TSR becomes critical metrics to benchmark business unit’s performance against competitors. Senior executives compensation were also linked to TSR </li></ul><ul><li>It helps business unit & brand managers to carefully stewards the cash they were employing. At the corporate level, metrics helped senior manager to carefully evaluate company’s broad portfolio of initiative </li></ul><ul><li>The new initiative transform the company as it increased approach towards innovation, building new product ideas, doubling the yield on R & D & new product development pipeline </li></ul>

55. <ul><li>The company divests some traditional brand though still profitable but doesn’t meet company’s aggressive financial goal. At the same time it enters into new sectors & geography both organically and inorganically in businesses that can generate higher TSR. In early 2000 it acquired Clariol & German hair-care company Willa and in 2005 it did most prominent acquisition of Gillette </li></ul><ul><li>Since 2001 company’s margin has been rising steadily and gaining full 6% point from 2001 low, organic & inorganic growth boosted the company’s sales and P & G meet its goal of remaining in top third of its peer group. At the end of 2008 company’s market capitalization was almost doubled to $ 187.5 billion making P & G one of the 5 most valuable company in the United States & among the 10 most valuable in the world </li></ul>

56. <ul><li>BHP Billiton, the world’s largest miner, is a very good example of “combined strategy” for value creation. </li></ul><ul><li>Over the last 10 years BHP Billiton has used the portfolio strategy pathway- by divesting its downstream interests in steel (floating Onesteel and BlueScope Steel in 2000 and 2001) and investing in upstream mining, now a hot market driven by China’s demand for commodities. It also acquired WMC Resources in 2005, which allowed it to enter the fast growing uranium market </li></ul><ul><li>It’s growth strategy to investment in future capacity and quality assets provided the opportunity to take advantage of enormous uplift in commodity prices, delivering stellar revenue growth of 18 percent per annum over 10 years. The rising prices also increases its margin & made BHP Billiton a cash machine, able to return excess cash to investors through buybacks and to pay down debt </li></ul>

57. <ul><li>TSR Sustainable Matrix </li></ul><ul><li>Sustainable Matrix is a framework designed to portrays the dynamic relationships among the main drivers of TSR </li></ul><ul><li>In order to create sustainable TSR organization need to maintain TSR sustainable matrix to know how much impact P/E multiple makes on TSR contributions when multiple gets up and down. It provides an opportunity to make immediate changes in strategy in order to maintain desired level of TSR </li></ul>

58. <ul><li>TSR sustainable Matrix defines a field to play strategy as per changes in valuation multiple </li></ul>4.0% 10.0% 8.0% 6.0% 6.0% 7.3% 8.7% 8.0% 7.0% 9.0% 15.0% 17.5% 10.0% 10.0% 12.2% 13.3% 10.9% 11.3% 9.0% 11.0% 13.0% 11.0% 12.3% 13.7% 14.0% 13.0% 12.0% 22.5% 27.5% 30.0% 18.3% 20.5% 21.7% 16.3% 17.3% 17.5% Net income growth Return on Equity Price to Earning Multiple 10x 10x 15x 15x 20x 20x TSR Goal - 10% TSR Goal - 15% 20% 60% 40% Net -Income pay out %

59. <ul><li>How TSR Sustainable Matrix works? </li></ul><ul><li>TSR Matrix (goal 10%) shows, when P/E ratio is 10 & net-payout 20% (10*20%=2) then the company requires to increase 8% growth in net-income & it can be serve through sales growth & margin improvement </li></ul><ul><li>If it is assume that the company maintains the same level of margin then all 8% growth will come from sales growth and it requires Return on Equity (ROE) of 10% (2% for net-payout & 8% for sales growth). If the company improves the margin then required ROE will be less as company doesn’t need more capital for sales growth. </li></ul><ul><li>If the company wants to pursue sales growth through M & A mode then required ROE will be increased because organic growth requires less capital per $ sales as compare to M & A </li></ul>

60. <ul><li>How TSR Sustainable Matrix works? Cont…… </li></ul><ul><li>However things changes drastically when P/E multiple increases. Higher multiple require higher net income growth (higher ROE) to create same amount of TSR as higher multiple reduces net-income payout yield that needs to be compensated by net income growth </li></ul><ul><li>As seen in TSR Matrix rising net-income payout reduces required growth (net-income growth) in order to sustain the same amount of TSR but it increases ROE to sustain the amount of payout. The reason is cost of funding organic growth is assume to be proportionate to book equity,10% growth in revenue increases 10% growth in book equity but the cost of cash flow yield is based on market value. As a result when P/E multiple is more than 10 then an incremental point of TSR from organic growth requires lower ROE than funding an incremental point of TSR from net-income payout </li></ul>

61. <ul><li>How TSR Sustainable Matrix works? Cont…… </li></ul><ul><li>A more ambitious TSR target, of course, requires more income growth. But unless a company prepared to take on debt to fund that growth or dilute existing shares by issuing new one, it even put greater demand on company’s ROE </li></ul><ul><li>Margin improvement is a powerful game changer in company’s TSR profile. On the one hand it improves the company’s ROE. On the other hand it allows a company to achieve the given level of income growth with less investment in sales growth and provides income available for more sales growth, M & A and even additional payout </li></ul><ul><li>TSR sustainable matrix gives senior executive & board members a defined playing field to play strategy as per investors eyes </li></ul>

62. <ul><li>How TSR Sustainable Matrix works? Cont…… Live Example!! </li></ul><ul><li>An example of a company that maintains TSR level of 15% ( right-lower corner of 15% TSR matrix chart ) for quite some time. The company is pursuing a cash strategy. It’s organic growth rate was modest 4% and additional 2% growth was supplemented by M & A, but it forced the company to take considerable amount of debt on their Balance Sheet </li></ul><ul><li>However the main driver of company’s TSR was increase in gross profit margin; company’s gross profit increased from 35% to 45% during the last 5 years and it fueled additional growth 0f 8% in net-income </li></ul><ul><li>With overall net income growth of 14%, P/E multiple steadied in low 20’s and regular program of share repurchases with 20% net-income payout (results additional 1% TSR), company achieves its desired target of 15% TSR </li></ul>

63. <ul><li>Live Example!! Cont…… </li></ul><ul><li>Senior Executive of the company has a concern that they can’t achieve its future TSR target of 15% as its gross profit already exhausted to higher limit and future growth of gross profit margin will be merely 2% which results in TSR gap of 6% </li></ul><ul><li>Additional organic growth of the company can stretched to maximum 5% from 4% and future M & A opportunities that fit company’s business strategy are limited. </li></ul><ul><li>However apart from this there were few other factors that makes the company to shift its strategy. </li></ul><ul><li>see factors…. in next slide </li></ul>

64. <ul><li>Live Example!! Cont…… </li></ul><ul><li>First, during 2008 recession company’s share prices were down and that results P/E multiple reduced to 16 and makes the company to shift in lower- middle of 15% TSR matrix. It increased cash payout yield and reduces TSR gap, but not to much extent </li></ul><ul><li>Second, the company has few M & A opportunity is silver lining, although past acquisitions have made lot of income growth but they were very expensive and the company has already stretched/exhausted its leverage capacity (debt/capital). Doing fewer deals in the future will release lots of amount of cash that could be used to increase payout from 20% to 45% and shift the company to centre cell of 15% TSR bracket and triple the yield from 1% to 3% and allowing the company to deliver the TSR of 10% but it was still very low to 15% TSR target </li></ul>

65. <ul><li>Live Example!! Cont…… </li></ul><ul><li>Company executives were still not satisfied with 10% TSR, they started finding ways to improve TSR. After survey with analysts & investors it was found that the company can increase its P/E multiple with another 25% by lifting valuation multiple parameters as compare to its peer group and create thoughtfully design financial strategy to pay debt along with share buyback to reduce risk profile of the company </li></ul><ul><li>After paying huge amount of debt and compensated yield from share buyback company would be able to achieve 6% yield from valuation multiple & P/E ratio would reach more than 19 in the next 3 years and it achieves the target of 15 % TSR (Growth 5% + Valuation Multiple 6% + Gross profit 2% + Cash Flow Contribution 2%) </li></ul><ul><li>The company achieves TSR target by moving in a matrix from lower-right to lower-middle and then centre cell to middle-right </li></ul>

66. <ul><li>Communicate Corporate Strategy to Investors </li></ul><ul><li>Investor communication is the most important part of value creation strategy. Many organization fails to create value in spite of robust corporate strategy because they couldn’t communicate strategy to investors properly. Investors discount company’s price when they are not sure about company’s future strategy of value creation </li></ul>

67. <ul><li>Strategy to manage Majority Investor Transition </li></ul><ul><li>Why do majority investor transition required? Live Example!!! </li></ul><ul><li>US consumer good company has some large mature & declining businesses that provides good profitability & return, and recently the company has acquired few small growing businesses </li></ul><ul><li>Majority of company‘s current investors are value investor that doesn’t consider these small growing companies in their valuation multiple due to this company’s valuation multiple was very low to its peer group </li></ul><ul><li>Senior Executives were trapped in a situation where they firmly believe that their present strategy is good for long term & current investors. Company was highly undervalued as compare to its peer group and executive wants it to grow & expand internationally and use cash for acquisition & growth however investors priorities were different, they want company to payback money as dividend </li></ul><ul><li>It was not easy for the company to quickly transfer itself into growth oriented company and rewarded by the capital market </li></ul>

68. <ul><li>How did the company do? Live Example!!! Cont…. </li></ul><ul><li>The company developed a plan to progressively shift its strategy & investor base over the next 2 years. The plan consists of 3 major phases. </li></ul><ul><li>First Phase: In the first phase, the top priority was to maximize the appeal of the company to its current value investor, even as it began to set up the ground work to attract growth investor. </li></ul><ul><li>Second Phase: The second phase emphasis on tuck-in acquisition to improve the scale of the company’s high growth brands & divestiture of slow growing businesses. This move increases the company’s growth profile, attracted more growth oriented investors and generate more cash for both organic & acquisitive growth </li></ul><ul><li>Third Phase: Once the company’s majority investors shifted from value to growth investor it launched a series of aggressive growth initiative both organic & acquisitive </li></ul>

69. <ul><li>Live Example!!! Cont…. </li></ul><ul><li>Alignment & communication of corporate strategy to employee & investors for gradual shifting of Majority Investors </li></ul>Phase 1 Phase 2 Phase 3 quarter 1 quarter 2 quarter 3 quarter 5 quarter 4 quarter 6 quarter 7 quarter 8 Strategic Action Investor Comm. Increase Dividend by 90% Investor Day: reduce growth guidance; Focus on TSR Earning Call: Emphasis on strong free cash flow & returns from M & A Report high-growth brands separately Do tuck-in acquisition Announce Talent mgt. program Divest slow growth core business Begin aggressive acquisition plan Emphasis Brand mgt. skills Announce Growth Financial target * Live example of an organization served by a top consulting company

70. <ul><li>Live Example!!! Cont…. </li></ul><ul><li>In the first quarter on investor call it was announced that the company will focus on TSR creation and not go for growth just for the sake of growth, value investors takes this in a positive way & during second quarter earning call the company emphasis on strong free cash flow & earnings from previously acquired companies. Announced divided of 90% & market takes it in a positive way, and during the first 6 months company’s valuation multiple increases by 30% </li></ul><ul><li>In quarter 3 the company announces result of small growing businesses separately & in quarter 4-5 it gives emphasis on acquisition, talent management & divestiture of slow growing core business. This attracted the growth oriented investors towards the company </li></ul><ul><li>In quarter 6-7 it gives more emphasis on brand management skills & aggressive acquisition and finally in quarter 8 financial target of growth strategy was announced </li></ul><ul><li>During the period, the company’s valuation which was low in peer group becomes 30% higher then average peer group. Company has successfully migrated from value investors to growth investor & generated TSR 24% higher than its peer group average </li></ul>

71. <ul><li>Value Creation in Low Growth Environment </li></ul>

72. <ul><li>Value Creation in Low Growth Environment </li></ul><ul><li>Another important challenge of value creation is how to create value during economy downturn & low growth environment? After 2008 financial crisis & recession many organization faced the same problem in the developed world. In coming few years western region like US/EUROPE are not going to see robust growth environment. GDP growth rate will be around 2-3% </li></ul><ul><li>If GDP growth rate is low then it is difficult to create value with sales growth. It requires new value creation matrix for 2-3-4 quartile organizations & short-term change in value creation matrix for top-quartile aspirational </li></ul>

73. <ul><li>Last recession is a very good example, during recession organizations build up lots of cash by cost cutting & savings and now they are distributing cash to investors in the form of dividend yield, share buy back & debt repayment as future growth prospect is low. This makes them to shift majority of TSR generation from “sales growth” to “cash flow contribution” </li></ul><ul><li>As per survey be top bank, as on June, 30 2010 there were 343 new authorization for stock buybacks at US companies, totally roughly $ 178 billion, projected for full year is $ 898 billion contrast to only $ 128 billion in 2009 </li></ul>

74. <ul><li>Truth is that growth is always a dominant component of value creation, top quartile organizations always honed their capability in low growth environment to create & sustain value for a longer period of time. </li></ul><ul><li>What strategy top quartile aspirational company should adopt in low growth environment/economy? </li></ul><ul><li>Six growth strategy in low-growth environment/economy </li></ul><ul><li>invest in innovation </li></ul><ul><li>exploit mega trends </li></ul><ul><li>pursue break-through growth </li></ul><ul><li>engage in business model innovation </li></ul><ul><li>practice pricing fluency </li></ul><ul><li>diversify in emerging market geography </li></ul>

75. <ul><li>Exploit Mega trends </li></ul><ul><li>It is said when going gets tough then take the advantage of tailwind. Mega trends are like tailwind that provides an opportunities to exploit rapidly developing global environment. A one very good example of up coming mega trend is demographic trend e.g. aging population has increased globally however the market is still ignorant. As per analysis, global market of aging population (60 years or more) is worth $ 700 billion </li></ul><ul><li>some other mega trends….. in the next slide </li></ul>

76. <ul><li>other mega trends…… </li></ul><ul><li>green mortgage/reverse mortgage </li></ul><ul><li>next 1.5 billion+ middle class consumers in emerging market </li></ul><ul><li>online marketing & social networking </li></ul><ul><li>cloud computing </li></ul><ul><li>e-waste management </li></ul><ul><li>water management </li></ul><ul><li>PE, VC & Investment Banking market in emerging economy </li></ul><ul><li>management consulting business in emerging economy </li></ul><ul><li>e-commerce & new media </li></ul><ul><li>mobile communication </li></ul><ul><li>corporate social responsibility & its monetization </li></ul>

77. <ul><li>Business model innovation </li></ul><ul><li>A company’s business model, the value proposition that it offers to customers & the operating model that deliver such value at profit is key to shareholders value creation. Business model innovation provides companies with a way to break out of intense competition, reconstruct market boundaries & create new growth environment </li></ul><ul><li>Practice pricing fluency </li></ul><ul><li>In a low-growth environment when margins are likely to be under pressure, a company’s pricing policy becomes very important part of shareholders value creation. Company’s that resist the temptation to offer concession on prices in order to maintain market share will be the eventual winner. Companies that can defend their prices with disciplined process will have competitive advantage, as per analysis it results in sustainable revenue which is 1 to 3 % higher then those of competitors </li></ul>

78. <ul><li>25 Questions that every corporate executive should answer before developing corporate/value creation strategy </li></ul>

79. <ul><li>Do you have an explicit TSR target guiding your strategic plan? </li></ul><ul><li>What are the historical sources of TSR for your company? </li></ul><ul><li>Does your business unit contributions aligned to total TSR target? </li></ul><ul><li>Does employee compensation aligned to short-term / long-term TSR? </li></ul><ul><li>Are your other management process such as planning, budgeting & capital allocation aligned to long term TSR target? </li></ul><ul><li>Are you emphasizing shareholders value performance over relatively long term horizons (3 -7 -10 years) rather than quarterly or annual EPS? Does your long term strategy aligned with short term performance? </li></ul>

80. <ul><li>Are your business strategy, financial strategy & investors strategy (corporate strategy) are integrated & properly aligned? </li></ul><ul><li>Do you have detail corporate strategy timeline describing how you will execute your strategy? </li></ul><ul><li>Do you know in which quartile (1-2-3-4) you want to be? </li></ul><ul><li>Do you have proper plan & process for strategy switching option at granular level? </li></ul><ul><li>Do you know how to create value in downturn / low growth economy environment? </li></ul><ul><li>Do you have some mega trends in your pipeline to exploit? </li></ul>

81. <ul><li>What drives the difference in valuation multiple in your industry? </li></ul><ul><li>Do you know what drives differences in valuation multiple in you peer group? </li></ul><ul><li>What is the impact of your financial policies on your valuation multiple and TSR? </li></ul><ul><li>Do you have proper long term strategy to beat multiple compressions? </li></ul><ul><li>What is your financial sustainability growth rate? Can your present financial policy serve future TSR aspiration? </li></ul><ul><li>What are your key value creation alternatives for future? </li></ul><ul><li>Is M & A a critical part of your corporate strategy? </li></ul>

82. <ul><li>Do you maintain TSR sustainability matrix to play strategy as per investors eye? </li></ul><ul><li>Do you know segmentation of your investors? Who are your dominant investor? </li></ul><ul><li>Do you follow proper strategy to transit majority investors base? </li></ul><ul><li>Does your company maintain proper investor cell to get continuous feedback from investors & analysts? </li></ul><ul><li>Do you follow proper process to communicate corporate strategy to investors & employee? </li></ul><ul><li>Do you know where & how your businesses are creating value i. e. by business unit, product category & customer segment? </li></ul>

83. <ul><li>Thank You…. </li></ul><ul><li>Please provide your feedback. Your feedback will be highly appreciated </li></ul><ul><li>For more information please contact: </li></ul><ul><li>Deepak Agrawal </li></ul><ul><li>[email_address] </li></ul><ul><li>http://www.deepakagrawalblog.wordpress.com/ </li></ul><ul><li>http://www.slideshare.net/deepakagrawal2009 </li></ul><ul><li>http://in.linkedin.com/in/deepakagrawal2009 </li></ul>