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How does making a return on investment link with strategy?

Let us be clear as to what strategy means. Two definitions of strategy were given in Chapter 1: (1) a plan of action or policy designed to achieve a major or overall aim; (2) the art or skill of using stratagems in endeavors such as politics and business. The first is clear and thus we need to understand how finance can reveal and allow modelling of policy to achieve an overall aim. The second definition is also clear but does require an understanding of what 'stratagem' means, and here we have some fun:

- a cleverly contrived trick or scheme for gaining an end;

- skill in ruses or trickery;

- an adaptation or complex of adaptations that serves or appears to serve an important function in achieving success.

Thus, if you believe (2) to be the better definition of strategy you are siding with quite a few in business who, through dubious marketing strategies, off-balance sheet financing strategies and so on, intentionally wish to mislead. This book does not condone such strategies - but they do exist and we need to be aware of them, as they may affect your strategy.

What successful companies say

Successful companies understand the need to generate returns and the drivers of returns. Here are some extracts from company annual reports with the key drivers highlighted:

ExxonMobil: consistently generates strong income from a highly efficient capital base, as demonstrated by our return on average capital employed performance versus our competition. We are proud to be a leader in providing reliable, affordable energy in a safe and environmentally responsible manner, enabling us to continue to deliver long-term value to our shareholders.

British Petroleum: You will be able to measure the effects of active portfolio management, as we invest more in our areas of strength and generate cash through further divestments.

You will be able to measure the contribution of new upstream projects with higher margins, as they come on stream over the next three years.

British Telecom pic: We aim... to drive shareholder value by... providing excellent customer service, building future networks and becoming more agile.

Deutsche Telekom: With all our successes, we have not lost sight of one objective: to pay you, our shareholders, an attractive return on your capitals' the form of an appropriate dividend.

Verizon: A longer-term view of our performance over the period from 2006 to 2008 shows Verizon's total return growing by 35 per cent, as compared with a decline of 23 per cent for the Standard & Poor's 500.

Most references are to 'return'. GE of the United States sets out its prime current strategy - growth is seen as paramount. We shall consider later the many sectors and companies that live in an environment of low or no growth, but where making a return still applies.

CASE EXAMPLE GE Works - 2012 Annual Report

Strategy is about making choices, building competitive advantage and planning for the future. Strategy is not set through one act or one deal. Rather, we build it sequentially through making decisions and enhancing capability. As we look forward, it is important that investors see the Company through a set of choices we make for the purpose of creating value over time.

First, we have remade GE as an 'Infrastructure Leader' with a smaller financial services division. We like infrastructure markets because they are growing and because they utilize GE capabilities in....

Second, we are committed to allocating capital in a balanced and disciplined way, but with a clear priority for dividend growth.

Third, we have significantly increased investment in organic growth, focusing on R&D and global expansion. In doing so, we have invested ahead of our competition. We believe that investing in technology and globalization is key to gaining market share.

Fourth, we have built deep customer relationships based on an outcomes oriented model. Our growth is aligned with customer outcomes, and our products improve their productivity.

Fifth and finally, we have positioned GE to lead in the big productivity drivers of this era. This is important for growing our margins.

GE Works, 2012

Now that you have read the above extract, can you see any themes?

There are not simply themes but a very clear message that good returns have to be made, with the resultant ability to pay dividends and grow shareholder value. Growth and sales growth are vital. However, it must be said that if you are in a growing sector, growth of returns will, or ought to, follow. However, not all of us are fortunate to be in a growth sector -many businesses are pedestrian but essential to economies.

The drivers of return are pointed out - good margins, lower costs, higher sales and wise investment. Efficient operation and improvements using the latest technology are a must.

Are these successful companies not saying what you intuitively know?

 
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