Chapter 17

Alternative Approaches

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Introduction

• Limited perspective of accounting:• focused mainly on investor needs

• difficult to capture non-quantitative elements

• limited frame of reference

• Other approaches, e.g. Balanced Scorecard• more holistic

• incorporate non-financial information/outlooks

• complement accounting perspective

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Balanced Scorecard (BSC)

• Financial flows only one element of equation• Operational and Human also important• BSC broadens frame of reference to include:

• Innovation and Learning perspective• Customer perspective• Business Process perspective• Financial perspective

• For each, BSC requires that Goals and appropriate Measures be established

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e.g. Customer Perspective

Goals• New products• Responsive

supply• Preferred

supplier• Customer

partnership

Measures• % sales from new products• On-time delivery• Ranking by key accounts• Number of co-operative

efforts

Financial Information Analysis 5Copyright 2006 John Wiley & Sons Ltd

Implementation

• Do’s• use BSC as means of strategy implementation ensure

goals already agreed and in place

• ensure top management support

• customise as appropriate

• Don’ts• use to gain greater ‘control’

• use to impose standardisation

• fail to anticipate and deal with implementation issues

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Economic Value Analysis

• EVA derives from economic notion of profit• less prescriptive than accounting profit• stresses cash-flow implications• uses weighted average cost of capital (WACC)

• EVA = Profit after tax and WACC• e.g. Profit £100m; Capital £200m; WACC 8%• Economic Profit = £100m - £16m = £84m• this would then be augmented by cashflow info.

• Directs resources to more “profitable” areas

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Multi-Variate Analysis

• Integrates financial and non-financial data• Used in ‘failure prediction’ models• Altman’s Z-score (adapted by Taffler for UK)

• financial ratios to predict bankruptcy• considerable theoretical/practical problems

• Argenti’s Failure Model• failure prediction• assigns ‘scores’ under operational areas etc.

• Efficacy of these models questionable

Financial Information Analysis 8Copyright 2006 John Wiley & Sons Ltd

Summary

• Alternative approaches have emerged in response to limited perspective of accounting

• BSC and EVA give useful additional and more holistic insights

• Best used in tandem with accounting data• Multi-variate analysis traditionally employed in

failure-prediction models• Little evidence that they are robust