Summary IMA pt. 2 + cases + quizzes
Topic 5: Profit plan
Definition: A profit plan is a comprehensive anticipation/expectation about a firm’s future financial
performance and situations.
Developed based on a range of assumptions about future decisions, actions, and operating
environments.
A profit plan can be used by managers to:
Price their business and operating plans;
Make trade-offs between different courses of action;
Set performance and accountability goals;
Evaluate the extent to which business performance is likely to meet the expectations of
different constituents.
Central role of profit planning
A tool to implement strategy
o Translate strategy into a detailed plan
o Evaluate whether sufficient resources are available to implement
the strategy
o Create a foundation to link economic goals with leading indicators
of strategy implementation
A tool to diagnose deviations
o By comparing the actual results to the profit plan, managers can
detect major deviations and weaknesses.
Multiple uses of a profit plan
Learning Control
- Explicit analyse strategy - Obtain commitment from managers
- Exchange ideas - Evaluate performance
- Communication vehicle - Determine responsibilities
- Share best practice - Pressure
Level of participation
High participation Low participation
- Environment uncertain - Environment predictable
- Information asymmetry - No information asymmetry
- Unrelated to evaluation - Related to evaluation
- Less budget slack - More budget slack
- Focus on innovation - Focus on efficiency
,The three wheels of profit planning
Cafés Monte Bianco
- Manufacturer and distributor of premium coffee
- Family business
- Premium market v. private brand market
- Limited capacity
o Have to choose between two strategies
Private brand only - production
,Private brand only – profit
Private brand only – cash wheel
Private brand only – Monthly cash flow
Private brand only – overall evaluation
Positive profit (=761)
o Amount is relatively low; could be lower (or even turn negative) if the prices (costs) are
lower (higher) than expectation
o Managers may not be comfortable to cut 75% R&D expenses
Positive ROE (=10.14%)
o Much lower than last year (=24.24%)
, o ROE = (net income/sales) * (sales/ assets) * (assets/ equity)
= 0.018 * 1.183 * 4.98
o Sales margin is too low low price of the low-grade private brand coffee
Negative cash flow for 6 out of the 12 months needs to take on more debt or more equity
but the ROE and profit will suffer
Change of assumptions
Issue more debt from the bank?
o More cash/high liquidity, lower profit and ROE (due to higher interest payment)
Issue discounts to encourage quicker payments?
o More cash/higher liquidity, lower profit and ROE
More cash contribution from the shareholder?
o More cash/liquidity, no change in profit, lower ROE
Market becomes more competitive and price has to be reduced?
o Less cash/lower liquidity, lower profit and ROE
Mixed strategy
Mixed strategy – production
Topic 5: Profit plan
Definition: A profit plan is a comprehensive anticipation/expectation about a firm’s future financial
performance and situations.
Developed based on a range of assumptions about future decisions, actions, and operating
environments.
A profit plan can be used by managers to:
Price their business and operating plans;
Make trade-offs between different courses of action;
Set performance and accountability goals;
Evaluate the extent to which business performance is likely to meet the expectations of
different constituents.
Central role of profit planning
A tool to implement strategy
o Translate strategy into a detailed plan
o Evaluate whether sufficient resources are available to implement
the strategy
o Create a foundation to link economic goals with leading indicators
of strategy implementation
A tool to diagnose deviations
o By comparing the actual results to the profit plan, managers can
detect major deviations and weaknesses.
Multiple uses of a profit plan
Learning Control
- Explicit analyse strategy - Obtain commitment from managers
- Exchange ideas - Evaluate performance
- Communication vehicle - Determine responsibilities
- Share best practice - Pressure
Level of participation
High participation Low participation
- Environment uncertain - Environment predictable
- Information asymmetry - No information asymmetry
- Unrelated to evaluation - Related to evaluation
- Less budget slack - More budget slack
- Focus on innovation - Focus on efficiency
,The three wheels of profit planning
Cafés Monte Bianco
- Manufacturer and distributor of premium coffee
- Family business
- Premium market v. private brand market
- Limited capacity
o Have to choose between two strategies
Private brand only - production
,Private brand only – profit
Private brand only – cash wheel
Private brand only – Monthly cash flow
Private brand only – overall evaluation
Positive profit (=761)
o Amount is relatively low; could be lower (or even turn negative) if the prices (costs) are
lower (higher) than expectation
o Managers may not be comfortable to cut 75% R&D expenses
Positive ROE (=10.14%)
o Much lower than last year (=24.24%)
, o ROE = (net income/sales) * (sales/ assets) * (assets/ equity)
= 0.018 * 1.183 * 4.98
o Sales margin is too low low price of the low-grade private brand coffee
Negative cash flow for 6 out of the 12 months needs to take on more debt or more equity
but the ROE and profit will suffer
Change of assumptions
Issue more debt from the bank?
o More cash/high liquidity, lower profit and ROE (due to higher interest payment)
Issue discounts to encourage quicker payments?
o More cash/higher liquidity, lower profit and ROE
More cash contribution from the shareholder?
o More cash/liquidity, no change in profit, lower ROE
Market becomes more competitive and price has to be reduced?
o Less cash/lower liquidity, lower profit and ROE
Mixed strategy
Mixed strategy – production
