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Chapter 06 - Financial Strategy
6-1
CHAPTER 6
FINANCIAL STRATEGY
ANNOTATED OUTLINE
INSTRUCTOR NOTES
• Financial objectives and goals are an
integral component in every aspect of a
retailer's strategy. Retailers can use
financial tools to measure and evaluate
their performance.
I. Objectives and Goals
• The first step in the strategic planning
process involves articulating the
retailer’s objectives and the scope of
activities it plans to undertake.
See PPT 6-3
A. Financial Objectives
• The appropriate financial performance
measure is not profits but rather return
on investment (ROI).
B. Societal Objectives
• Societal issues are related to broader
issues about providing benefits to
society – making the world a better
place to live, such as providing
Ask students to provide specific examples of
retailers meetings societal objectives
(merchandise, services, events, etc.) they have
seen in the current marketplace.
Chapter 06 - Financial Strategy
6-2
employment opportunities for people in
a particular area, offering people unique
merchandise, providing an innovative
service or sponsoring events.
C. Personal Objectives
• Many retailers, particularly owners of
small, independent businesses, have
important personal objectives such as
self-gratification, status and respect.
II. The Strategic Profit Model
• The strategic profit model, illustrated
in Exhibit 6-1, is a method for
summarizing the factors that affect a
firm’s financial performance as
measured by ROA.
See PPT 6-4
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6-3
investment in its assets and indicates
how many sales dollars are generated by
each dollar of assets.
• In fact, two different retailers with wide
discrepancies in net profit margin and
asset turnover could have exactly the
same return on assets. See Exhibit 6.2
See PPT 6-6
A. Profit Margin Management Path
• The information used to analyze a firm’s
profit margin management path comes
from the income statement.
1. Net Sales
• The term net sales refers to the total
revenue received by a retailer after
refunds have been paid to customers for
returned merchandise and payments
have been collected from vendors for
promotions:
Chapter 06 - Financial Strategy
6-4
• Promotional allowances are payments
made by vendors to retailers in exchange
for the retailer promoting the vendor’s
merchandise.
function.
2. Gross Margin
Gross margin = Net sales - Cost of
goods sold.
• Gross margin, also called gross profit,
gives a retailer a measure of how much
profit it’s making on merchandise sales
without considering the expenses
associated with operating the store and
corporate overhead expenses.
See PPT 6-7, 6-8. and 6-9
Discuss the difference in gross margin
percentage between Costco and Macy’s. Why
is the difference to be expected?
3. Operating Expenses
• Operating expenses are the selling,
general and administrative expenses
(SG &A), plus the depreciation and
amortization of assets. The SG&A
includes costs, other than the cost of
merchandise, incurred in the normal
course of doing business such as
salaries, advertising and rent.
• The operating expense category includes
See PPT 6-10
Discuss the difference in expense to sales
ratio between Costco and Macy’s. Why is the
difference to be expected?
Chapter 06 - Financial Strategy
6-5
4. Interest and Taxes
• Two other major expenses are interest
(which includes the cost of borrowing
money to finance everything from
inventory to the purchase of a new store
location) and taxes.
5. Net Operating Income
• Due to the lack of control over taxes,
interest and extraordinary expenses, a
commonly used overall profit measure is
the net profit percentage before interest
expenses/income, taxes, and
extraordinary expenses.
See PPT 6-14
6. Net Profit
See PPT 6-11
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6-6
• Net profit (after taxes) is the gross
margin minus operating expenses and
taxes:
• Like gross margin, net profit margin is
often expressed as a percentage of sales:
• Net profit / Net sales = Net profit %
after taxes
Discuss the difference in net profit margin
percentage between Costco and Macy’s. Why
is the difference to be expected?
III. Asset Management Path
• The information used to analyze a firm’s
asset management path primarily comes
from the balance sheet.
• The income statement summarizes the
financial performance over a period of
time, while the balance sheet
See PPT 6-15
Chapter 06 - Financial Strategy
6-7
controlled by an enterprise as a result of
past transactions or events.
A. Current Assets
• By accounting definition, current assets
are those that can normally be converted
to cash within one year. In retailing:
• From a marketing perspective, the
accounts receivable generated from
credit sales may be the result of an
important service provided to customers.
• The retailer’s ability to provide credit,
particularly at low interest rates, could
make the difference between making
and losing a sale.
• Merchandise inventory is a retailer’s
lifeblood. Exceptions to this
generalization are service retailers, who
carry little or no inventory.
credit cards like Visa. ( Because they don't
want to tie up their assets in accounts
receivable. They would rather get most of
their money quickly to invest in more
inventory. Also, they must offer credit since
customers expect it.)
Chapter 06 - Financial Strategy
6-8
sales dollars can be generated from $1
B. Fixed Assets
• Fixed assets are assets that require more
than a year to convert to cash. In
retailing,
Fixed assets = Buildings (if store property
is owned rather than leased)
C. Asset Turnover
• Asset turnover is an overall
performance measure from the asset side
of the balance sheet.
See PPT 6-16
Ask students which firm has the highest asset
turnover and why they would expect this to be
D. Return On Assets
Chapter 06 - Financial Strategy
6-9
• Overall performance, as measured by
ROA, is determined by considering the
effects of both paths by multiplying the
net profit margin by asset turnover:
• The strategic profit model assumes two
important issues:
• First, retailers and investors need to
consider both net profit margin and asset
turnover when evaluating the retailer’s
financial performance.
IV. Evaluating Growth Opportunities
• To illustrate the use of strategic profit model
for evaluating a growth opportunity,
consider Gifts To Go, a two-store chain in
• Review Exhibit 6-8 and Exhibit 6-9. The
Gross Margin percentage will be the same in
both channels (50%), but the Net Profit %
will be higher in the Internet channel
(15.9% vs 14.3% in stores).
See PPT 6-21, PPT 6-22
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6-10
V. Analysis of Financial Risk and Strength
• Since 2000, some large retailers have gone
out of business. See Exhibit 6-10. This
section discusses some of the measures of
financial strength and risk of retailers.
A. Cash Flow Analysis
• Retailers can be forced into bankruptcy even
when they show a profit. Profits are now
the same as cash flow.
See PPT 6-23
B. Debt-to-Equity
• The debt-to-equity ratio is the retailer’s
short and long-term debt divided by the
value of the owners’ or stockholders’ equity
in the firm.
See PPT 6-24
C. Current Ratio
• The current ratio short-term assets divided
by short-term liabilities.
See PPT 6-24
D. Quick Ratio
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6-11
VI. Setting Performance Objectives
• Performance objectives should include:
(1) the performance sought, including a
numerical index against which progress
Performance objectives are illustrated in PPT
6-26
A. Top-Down versus Bottom-Up Process
• Top-down planning means that goals
are set at the top of the organization and
filter down through the operating levels.
• This top-down planning is
complemented by a bottom-up
planning approach. Buyers and store
managers are also estimating what they
can achieve. Their estimates are
transmitted up the organization to the
corporate planners.
Describe a situation where management has
set a higher sales goal for a particular period
but has also cut employee hours and
eliminated over-time for that same period.
B. Performance Objectives and Measures
• The measures used to evaluate retail
operations vary depending on: (1) the
level of the organization where the
decision is made and, (2) the resources
the manager controls.
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C. Types of Measures
• Retailers' performance measures are
broken into three types: input measures,
output measures, and productivity
measures.
• A productivity measure (the ratio of an
output to an input) determines how
effectively a retailer uses a resource.
• In general, since productivity measures
are a ratio of outputs to inputs, they can
be used to compare different business
units.
See PPT 6-29
Productivity measures are a ratio of outputs
to inputs. Ask students to demonstrate how
productivity measures can be used to compare
E. Assessing Performance: The Role of
Benchmarks
• The financial measures used to assess
See PPT 6-30
Chapter 06 - Financial Strategy
6-13
because they are affected by the
retailer’s strategy.
• A second approach for assessing a
retailer’s performance is to compare it
with its competitors.
V. Summary
• Basic elements of the retailing financial
strategy and how retailing strategy
affects the financial performance of a
firm are explained in the chapter.
Chapter 06 - Financial Strategy
ANSWERS TO GET OUT AND DO IT!
2. Internet Exercise- Go to the latest annual reports, and use the financial information to
update the numbers in the net profit margin management model and the assert turnover
management model for Costco and Macy’s. Have there been any significant changes in
their financial performance? Why are the key financial ratios for these two retailers so
different?
Depending on the time of year, this information might not be different from what is already in
3. Go Shopping-Go to your favorite store, and interview the manager. Determine how the
retailer sets its performance objectives. Evaluate its procedures relative to the procedures
presented in the text.
After the interview, students should be able to articulate whether or not the store uses a top-down
or bottom-up approach in setting objectives. A top-down approach involves planning at the
ANSWERS TO DISCUSSION QUESTIONS AND PROBLEMS
1. What are the key productivity ratios for measuring the retailer as a whole, its
merchandise management activities, and its store operation activities? Why are these
ratios appropriate for one area of the retailer’s operation and inappropriate for others?
One key measure for assessing the productivity of the retailer as a whole is the return on
