profit pool analysis - mcdonough school of...
TRANSCRIPT
![Page 1: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/1.jpg)
Profit Pool AnalysisProfit Pool Mapping
© K.E. Homa
Proprietary Material
Professor Ken HomaGeorgetown University
Incomplete Without Extensive Oral Elaboration
![Page 2: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/2.jpg)
Profit Pool AnalysisGuiding Principle
The starting point for industry analysis is a very simple question: What is the level of profitability in an industry and what determines it? Grant, Contemporary Strategy Analysis
Profit Pool Analysis is how to answer the question.
![Page 3: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/3.jpg)
Profit Pool Analysis
1. Estimate aggregate industry profits
2. Disaggregate profits into components
3. Visualize (display) the results
Three sequential activities:
![Page 4: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/4.jpg)
Profit Pool Maps are the end-product of the process …
![Page 5: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/5.jpg)
Profit Pool MapsKey Elements
Sources of Profitability• Value Chain Steps• Products / Markets• Customer Segments• Distribution Channels
![Page 6: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/6.jpg)
Profit Pool MapsKey Elements
Profitability• ROS• ROI
Sources of Profitability• Value Chain Steps• Products / Markets• Customer Segments• Distribution Channels
![Page 7: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/7.jpg)
Profit Pool MapsKey Elements
Profitability• ROS• ROI
Sources of Profitability
Scale of ParticipationRevenue, Capital Deployed
• Value Chain Steps• Products / Markets• Customer Segments• Distribution Channels
![Page 8: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/8.jpg)
Profit Pool MapsKey Elements
Profitability• ROS• ROI
Sources of Profitability
Scale of ParticipationRevenue, Capital Deployed
Note: By def’n. thebox areas = Profits
• Value Chain Steps• Products / Markets• Customer Segments• Distribution Channels
![Page 9: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/9.jpg)
Profit Pool MapsKey Elements
Profitability• ROS• ROI
Sources of Profitability
Scale of ParticipationRevenue, Capital Deployed
Note: By def’n. thebox areas = Profits
• Value Chain Steps• Products / Markets• Customer Segments• Distribution Channels
See Appendix for Examples
![Page 10: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/10.jpg)
Profit Pool MapsThe Gold Standard
Strategy guru Michael Porter argues that:
• Organizations are supposed to use all resources effectively … by producing goods or services whose value exceeds the sum of the costs of all the inputs
• So, he best financial measure that is return on invested capital since ROIC since it weighs the profits a company generates versus all the funds invested in it.
Source: Margretta, Understanding Michael Porter
![Page 11: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/11.jpg)
ROIC
Sources of Profitability
Capital Deployed
Profit Pool MapsThe Gold Standard
• Value Chain Steps• Products / Markets• Customer Segments• Distribution Channels
See Appendix for Examples
![Page 12: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/12.jpg)
The Gold Standard – relating capital deployed to ROIC – is often difficult to derive because of accounting complexity and data limitations …
![Page 13: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/13.jpg)
More typically, the profitability metric used is return on sales (ROS) and revenue is used as a measure of scale…
![Page 14: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/14.jpg)
ROS
Sources of Profitability
Revenue
Profit Pool MapsTypical Application
• Value Chain Steps• Products / Markets• Customer Segments• Distribution Channels
See Appendix for Examples
![Page 15: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/15.jpg)
Profit Pool Mapping: Why bother?
![Page 16: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/16.jpg)
Profit Pool MapsDerived Benefits
• Adds depth of understanding re: industry structure and competitive dynamics
• Reveals location and size of profit concentrations within an industry
• Identifies and isolates the most critical drivers of future industry profitability
![Page 17: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/17.jpg)
Profit Pool Mapping:An under-used tool …
![Page 18: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/18.jpg)
Profit Pool MapsAn Under-used Tool
• Managers unaware of implications
• Financial data unavailable or inconsistently reported
• Requires extensive time, effortand analytical dexterity
![Page 19: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/19.jpg)
Profit Pool MapsThe Process
Source: How to Map Profit Pools
![Page 20: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/20.jpg)
Profit Pool MapsTricks of the Trade
• Start by mining government and analyst reports
• If compiling from scratch, start with direct competitors, especially “pure plays” that report profit by segments
• Extrapolate from data-rich competitors to others
• Take several views – split by multiple profit sources.
• Don’t get bogged down … think 80-20 … better to be directionally right than precisely wrong.
![Page 21: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/21.jpg)
• Profit Pools are the ultimate metric of industry attractiveness
• Strong ties to Porter’s Five Forces and Value Chain Analysis
• Profit Pools can be split along several dimensions: business segment, competitors, products, regions, value chain stage
• Profit metrics applied range from ROS % (most typical) to ROCE (conceptually, the most pure)
• Often, multiple views are required to get a full industry perspective.
Profit Pool AnalysisTakeaways
![Page 22: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/22.jpg)
Appendix
Profit Pool MapsExamples
![Page 23: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/23.jpg)
Industry-level Profit Pools can be split into different categories …
Often, multiple views are needed to get a complete perspective on the industry.
Examples
![Page 24: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/24.jpg)
U.S. PC Industry Profit Pool -- Late 1990s
Source: Profit Pools: New Look at Strategy
1. Profits split by product categories… horizontally sequenced by activity stage – parts, finished goods, etc.
2. Width of each bar is proportionalto the all categories’ total
3. Profit is stated relative sales (i.e. ROS %)
4. Area of each bar representsproportion of total profits
![Page 25: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/25.jpg)
U.S. Auto Industry Profit Pool -- Late 1990s
Source: Grant, Strategic Analysis from Profit Pools: New Look at Strategy
Profits split by business segment … horizontally sequenced by activity stage – make, sell, service, etc.
![Page 26: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/26.jpg)
Source: Breakthrough Imperative
Profits split by value chain stages
![Page 27: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/27.jpg)
http://www.bain.com/publications/articles/healthcare-2020.aspx
Profits split by business segment
![Page 28: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/28.jpg)
The prior examples all calibrated profitability based on ROS (return on sales), but …
![Page 29: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/29.jpg)
Strategy guru Michael Porter argues that:
• Organizations are supposed to use all resources effectively … by producing goods or services whose value exceeds the sum of the costs of all the inputs
• So, he best financial measure that is return on invested capital since ROIC since it weighs the profits a company generates versus all the funds invested in it.
Source: Margretta, Understanding Michael Porter
![Page 30: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/30.jpg)
Some economists and financial analysts follow Porter’s guidance and use some variant of ROIC in their profit pool maps …
For example, Credit Suisse analysts calculate a net cash flow ROI (over the firm’s WACC), and relate it to relative levels of net investment (not revenues).
Examples
![Page 31: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/31.jpg)
http://analystreports.som.yale.edu/internal/F2013/MJ/Measuring%20the%20Moat.pdf
3. Width of each bar is proportional tothe industry’s total net investment
2. Profit is stated based on net ROIC (over the WACC)
1. Profits split by industry sector
![Page 32: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/32.jpg)
http://analystreports.som.yale.edu/internal/F2013/MJ/Measuring%20the%20Moat.pdf
Profits are split by company
![Page 33: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/33.jpg)
http://analystreports.som.yale.edu/internal/F2013/MJ/Measuring%20the%20Moat.pdf
Profits are split by business segment
![Page 34: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/34.jpg)
1. Profits are split byvalue chain stage
2. Profit is stated based on net ROCE
3. Note that axes are mismatchedso areas do not equal profits Revenues x ROCE ≠ Profits
![Page 35: Profit Pool Analysis - McDonough School of Businessfaculty.msb.edu/homak/HomaHelpSite/webhelp/Content/… · · 2016-01-19• Profit Pools are the ultimate metric of industry attractiveness](https://reader030.vdocument.in/reader030/viewer/2022012909/5b0ca5e47f8b9a02508c80c0/html5/thumbnails/35.jpg)
Profit Pool AnalysisProfit Pool Mapping
© K.E. Homa
Proprietary Material
Professor Ken HomaGeorgetown University