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This chapter is from the book

The Value of a Business

  • The value of a business depends on its future, not its past.

Managers, investors, and others concerned about the well-being of an organization need to look at where it is going, not where it has been. A company’s future financial performance depends on its long-term abilities to manage both the value it provides customers and its costs. Expected future financial performance, in turn, determines shareholder value. The company value meltdowns in the Fall of 2008, such as that of AIG, were due to lack of confidence in the future financial performance of those organizations.14

There is a huge body of thought and writing devoted to the determinants of the value of a corporation.15 Many factors have been suggested, including managerial talent, resources, innovation ability, and core competencies. While all of these factors surely affect the financial performance of an organization, none of them provide a direct link to financial performance. Managerial talent and resources are very broad categories. Innovation may be managed but is difficult, by its nature, to predict. Core competencies are specific but look inward (at the organization) rather than outward (toward the customers and competitors). Intangible assets, such as brands, have appeared to pose especially difficult valuation problems for many companies.16

In lieu of factors that are linked directly to financial performance, many managers attempt to predict performance by relying on various financial ratios such as return on sales and turnover.17 The problem with many of those measures is that they look backward rather than forward.18 A manager should always prefer leading indicators to lagging indicators because forward control is preferable to backward control. One wants to steer by looking through the windshield, not through the rear-view mirror.

CVA® is both outward looking—toward customers and competitors—and forward looking, in that it indicates the future performance of an organization.

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