finance and business case essentials for product managers
TRANSCRIPT
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FINANCE AND BUSINESS
CASE ESSENTIALS FOR
PRODUCT MANAGERS
VIKAS BATRA
DEC 2015
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WHY FINANCIAL
INTELLIGENCE MATTERS?
Enables you to manage business effectively
• Measure, Track and Improve Business Performance
• Assess financial health of suppliers, partners & customers
Likelihood of Bonus/Salary Hike
Readiness for Greater Responsibility
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OUTLINE
Key Financial Statements and Key Concepts
Business Case, Example
Building Financial Intelligence of your team
Summary
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KEY FINANCIAL
STATEMENTS
Income Statement
• Profit or loss generated over a period of time
Balance Sheet
• Snapshot of the organization’s financial position at a
specific point in time.
• Assets, liabilities and equity
Cash Flow Statement
• Cash generated (Inflow) and cash used (Outflow) over a
period of time
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INCOME STATEMENT
Single Step
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INCOME STATEMENT
Multi-Step
Product Design, Manufacturing…
Business Operations …
Financing, One-time transactions…
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INCOME STATEMENT
Internal Multi-Step Formats
Assess effectiveness
Target effectiveness
Concepts
Assumptions on Allocations
Accrual Based Accounting.
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BALANCE SHEET
Snapshot of organization’s financial position at a specific point in
time.
Assets = Liabilities + Shareholder's Equity
Simple View
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BALANCE
SHEET
Detailed View
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DEPRECIATION
Depreciation Allocating a portion of cost of an asset on Income
Statement
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CASH FLOW
STATEMENT
Cash generated (Inflow) and cash used (Outflow) over a period of
time
Generally Prepared by Indirect Method
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FINANCIAL
STATEMENT
Don’t Tell you Everything
Non-financial Health
Customer Satisfaction
Competitive Environment
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BUSINESS
CASE/COST
BENEFIT
ANALYSIS
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BUSINESS CASE
Weigh Benefits vs. Costs
Tied to a decision
Should we invest in an opportunity or not ?
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BUSINESS CASE -
STEPS
• Identify all new revenues
• Identify all costs to incurred to realize revenue. Identify any
cost savings
• Map out the timeline for expected revenues and costs
• Assess impact to bottom line
• Capture unquantifiable benefits and costs
• Strategic fit with high-level organizational strategies, Win
new business opportunity, Customer goodwill etc.
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ASSESSING THE
IMPACT
• Return On Investment (ROI)
• Breakeven Analysis
• Net Present Value (NPV)
• Sensitivity and Scenario Analysis
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RETURN ON
INVESTMENT (ROI)
• Benefit (Return) received for every dollar invested
• E.g. 4% => $4 earned for every $100 invested
• Calculation
• Net return = Total benefits – Total costs
• ROI = Net return ÷ Cost of investment
Definition of “Return” and “Cost” vary by context.
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BREAKEVEN
ANALYSIS
Product units must be sold in order to recover investment
Are the Sales Volume at assumed price point realistic?
Calculation
• Contribution margin per unit = Selling price per unit –
variable cost per unit
• Breakeven volume = Total Investment ÷ Contribution
margin per unit
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EXAMPLEMetric 2016
Units Sold 1500
Selling Price/Unit ($) 1,000$
Revenue ($) Units X Selling PriceUnit 1,500,000$
Cost of Goods Sold/Unit ($) Variable Cost/Unit (550)$
Total Cost of Goods Sold ($) Units X COGS/Unit (825,000)$
Contribution Margin/Unit($) Price/Unit - Variable Cost/Unit 450$
Contribution Margin($) 675,000$
Contribution Margin (%) Cont. Margin / Revenue 45%
Fixed Cost - Product
R&D Cost ($) (300,000)$
Purchase of Assets ($) (60,000)$
Fixed Cost - Allocations
Selling, General & Administrative Costs($) (225,000)$
Operating Income/(Loss) ( $) Revenue - Costs 90,000$
Operating Margin/(Loss) (%) Operating Income / Revenue 6.0%
Non-Operating Income/Loss
Tax Expense ($) 35% (31,500)$
Net Income (After Taxes) 58,500$
Return on Investment (ROI) Net Income / (R&D + Assests) 16%Breakeven Point (Units) simple Fixed Costs / (Cont. Margin/Unit) 800
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NET PRESENT VALUE
Time value of money : A dollar you receive five years from now is worth less than a dollar
you receive today
• Dollar today can be invested, Inflation…
Present Value
Reduce the value of the dollar at rate every year (Discount Rate)
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EXAMPLE
Today Year 1 Year 2 Year 3 …. Year T
$100 10% 100* ( 1 + 0.1)
100 * 1.1
110.00$ 110* (1 + 0.1)
100 * (1 + 0.1) * (1+ 0.1)
121.00$ 121 * ( 1 + 0.1)
100 * (1 + 0.1) * (1+0.1) * (1+ 0.1)
133.10$
… $100* ( 1 + 0.1) ^ T
Value with Interest $100 110.00$ 121.00$ 133.10$
Interest at 10% Interest Rate
Today Year 1 Year 2 Year 3 Year T
Actual Value 100.00$ 110.00$ 121.00$ 133.10$
110/ ( 1 + 0.1) 121 / ( (1+0.1) * (1+.1)) 133.1 / ( (1+0.1) (1+.1) (1+r) )
110/1.1
Present Value 100.00$ 100.00$ 100.00$
Actual CashFlow $C0 $ C1 $ C2 $ C3 $C T
…
Present Value Cash Flow$ C0 C1 / ( 1 + r) C2 /( 1 + r) ( 1 + r) C3/ ( 1+r) (1 +r ) (1+r) $ C T / (1+r)^T
Present Value at 10% Discount Rate
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NET PRESENT VALUE
(NPV)
Time value of money : A dollar you receive five years from now is worth less than a dollar
you receive today
• Dollar today can be invested, Inflation…
Present Value
Reduce the value of the dollar at rate every year (Discount Rate)
NPV Calculation:
• Start with Incremental Cash Flows for every year,
• Discount Cash Flows for each year to their respective Present Values.
• Add them to get Net Present Value (NPV)
NPV positive and no other investment => Invest.
NPV close to zero or marginally positive => Judgement call
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EXAMPLE
Metric 2015 2016 2017 2018 2019 Total
Units Sold 0 1500 3000 2000 1000 7500
Selling Price/Unit ($) 1,000$ 1,000$ 1,000$ 1,000$
Revenue ($) Units X Selling PriceUnit -$ 1,500,000$ 3,000,000$ 2,000,000$ 1,000,000$ 7,500,000$
Cost of Goods Sold/Unit ($) Variable Cost/Unit (550)$ (550)$ (550)$ (550)$
Total Cost of Goods Sold ($) Units X COGS/Unit -$ (825,000)$ (1,650,000)$ (1,100,000)$ (550,000)$ (4,125,000)$
Contribution Margin/Unit($) Price/Unit - Variable Cost/Unit -$ 450$ 450$ 450$ 450$
Contribution Margin($) -$ 675,000$ 1,350,000$ 900,000$ 450,000$ 3,375,000$
Contribution Margin (%) Cont. Margin / Revenue NA 45% 45% 45% 45% 45%
Fixed Cost - Product
R&D Cost ($) (500,000)$ (300,000)$ (50,000)$ (50,000)$ (50,000)$ (950,000)$
Purchase of Assets ($) (300,000)$ (300,000)$
Depriciation of the Asset($) 5 Year Fixed (60,000)$ (60,000)$ (60,000)$ (60,000)$ (60,000)$ (300,000)$
Fixed Cost - Allocations
Selling, General & Administrative Costs($) -$ (225,000)$ (450,000)$ (300,000)$ (100,000)$ (1,075,000)$
Operating Income/(Loss) ( $) Revenue - Costs (560,000)$ 90,000$ 790,000$ 490,000$ 240,000$ 1,050,000$
Operating Margin/(Loss) (%) Operating Income / Revenue 6.0% 26.3% 24.5% 24.0% 14.0%
Non-Operating Income/Loss
Tax Expense ($) 35% -$ (31,500)$ (276,500)$ (171,500)$ (84,000)$ (563,500)$
Net Income (After Taxes) (560,000)$ 58,500$ 513,500$ 318,500$ 156,000$ 486,500$
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EXAMPLE
CASH FLOW STATEMENT 2015 2016 2017 2018 2019 Total
Net Income (560,000)$ 58,500$ 513,500$ 318,500$ 156,000$ 486,500$
Depreciation Adjustment 60,000$ 60,000$ 60,000$ 60,000$ 60,000$ 300,000$
Total Cash Inflow (Sources) Net Income + Dep Adj. (500,000)$ 118,500$ 573,500$ 378,500$ 216,000$ 786,500$
Purchase of Assets.. (300,000)$ -$ -$ -$ -$ (300,000)$
Others…(Inventory, Accounts Receivable etc.) -$ -$ -$ -$ -$ -$
Total Cash Outflow(Uses) (300,000)$ -$ -$ -$ -$ (300,000)$
Net Cash Flow (Inflow - Outflow) Cash Inflow - Cash Outflow (800,000)$ 118,500$ 573,500$ 378,500$ 216,000$ 486,500$
Discounted Net Cash Flow(10%) Present Value of Cash Flow (800,000)$ 107,727$ 473,967$ 284,373$ 147,531$ 213,598$
Net Present Value (NPV) Sum of PV of Cash Flows 213,598$
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SENSITIVITY AND
SCENARIO ANALYSIS
Sensitivity
• Change in NPV with variation of an input
• 10% decrease in price/unit => 19.5% NPV decrease
• 10% increase in R&D Cost => 2.3% NPV decrease
Scenario
• Analysis for certain set of inputs
• Most-Likely, Best-Case, Worst-Case Scenario
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BUSINESS CASE -
SUMMARY
Business Case is as good as the assumptions made
Business Case tell only part of the story. Do not ignore non-
quantifiable items
Does not replace Influencing Effort
When comparing across business cases, watch for
consistency
Tracking and adjusting Business Case, as you go along is
important
• Sensitivity Analysis can identify areas
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IMPROVING TEAM
FINANCIAL
INTELLIGENCE
Benefits
• Make Smarter Decisions
• Understand logic behind goals set by senior management
• Effective Management
Steps
• Informal training sessions
• Regular “numbers/metrics” meetings
• Targets in Performance Objectives
• Buy In from leaders
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REFERENCES
• http://www.accountingcoach.com/
• Your Company’s Finance Department
• Internet Search
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SUMMARY
• Financial Intelligence Matters
• Don’t be scared by jargon
• Work with your Finance/ CFO Controller
• Financial Statements: Don’t have to memorize all terms/
ratios.
• Understand metrics organization tracks/aims
• Understand impact of your decisions to metrics
• Use metrics to drive team behavior and effectiveness
Finance is simple, based on common sense
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FINANCE AND BUSINESS
CASE ESSENTIALS FOR
PRODUCT MANAGERS
VIKAS BATRA
DEC 2015
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THANK YOU
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BACK UP
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CONCEPTS
Accrual based Accounting : Income and expenses are reported
on Income Statement when they are incurred, regardless of when
cash is received or paid.
Allocations are apportionments of costs to different buckets or
departments within a company
Depreciation Allocating a portion of cost of an asset on Income
Statement
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ASSESSING
FINANCIALS
• Ratio analysis.
• A financial ratio is two key numbers from an organization’s
financial statements expressed in relation to each other.
• There are numerous kinds of financial ratios:
• Profitability ratios
• Operating ratios (including liquidity ratios and efficiency
ratios)
• Leverage ratios
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INTERNAL RATE OF
RETURN
IRR is the Discount Rate at which the NPV of an investment
equals zero
If IRR > Expected Rate of Return then, make the investment.