The Golden 1%: meets Dupont - Armillary style!

As my favourite movie character once said, "Stupid is, as stupid does," but in the world of human relations, it is far more often the case that we simply do, what we have always done.  Habit and instinct often count for more, than deliberation and execution.

"Ask not for whom the bell toll's - it tolls for you"

Operant conditioning is very powerful: the learned behaviour of stimulus and response - Pavlov's dogs drool each time that bell rings, I get suddenly enthusiastic when I am walking through the bush early in the morning after a fresh rain, or simply smelling coffee being roasted or bread baked.  It's easy to simply react, to respond as we have always responded.

But as my Dad told me many years ago: "Leon," he said, "you only own two things in your life: your good name and how you react to things.  The former is a gift, but its maintaining its lustre is almost entirely dependent on the latter, that only you can control."  Now that was a girl-friend talk I won't forget!

Business is simply a broader set of human relationships.  Many business people react as they always have, they have a few trusty and useful tools to deal with issues they have faced in the past, but in reality the armoury that they possess is often quite small.

"If you give me a lever long enough, I can move the World"

If every problem is a nail, then a hammer is a great tool.  But the fact is that most business people don't really diagnose the causes of issues: instead they merely react to symptoms.

How do you direct your businesses response to changing circumstances and rising issues?  Well it’s not a cure-all, but Armillary, as Investment Banker's, have developed a method that seeks to understand how to improve economic performance across any business. We call it the Golden 1% and we apply it across the 8 drivers of profitability and activity that are defined by DuPont accounting, or Return on Capital Employed (ROCE).

Profitability x Activity = Return on Capital Employed

In the shadow of the Great Depression, DuPont Corporation had to focus on evaluating all of its operation's: to do this it created a simple finance yardstick Return on Capital Employed.  It's an easy to understand and universal model, one of its joys is that it only measures four profitability drivers and four activity drivers.

The four profitability drivers are: Price, Volume, Cost of Sales, and Expenses. The four activity drivers are: Stock, Debtors, Creditors and Non-Current Assets.

At Armillary, especially in the Advisory practice, we link these with making small disciplined and sustained improvements (the Golden 1%) to transform a business’s performance.  But we also measure the push backs in the operating environment: Customers, Employee's, Owner's, Suppliers, as well as the business processes that link these players together, to figure out what has changed and to advise the firm's owners on how to quickly and effectively respond.

Let's look at an example, an entity might have the following features: Unit Price is $1000, Volume 1000 units, COGS are $600, and Expenses are $300,000 = Profitability of 10%. 

(Price of $1000 x 1000 units) = Sales of $1m, less COGS (1000 units x 600 COGS) = $600k - Expenses of $300,000 = $100,000 of earnings.  Earnings ($100k)/Sales ($1m) = Profitability of 10%.

The entities Activity measures are simple too: Debtors are at 45 days = $123,288, Stock on Hand is 40 days = $65,753, creditors are 30 days = $49,315, non-current assets $200,000 = Total Net Assets (TNA) = $339,726.

(Stock + Debtors - Creditors = Net Working Capital + Non Current Assets (NCA)).  Activity = Sales/TNA or 2.94 x. 

Profitability x Activity = a Return on Capital Employed of 29.4% on the above example.

But let's look at what happens when we make some modest 1% adjustments. Price becomes $1,010, Volume 1010, COGS goes down to $594, and expenses drop to $297,000. Profitability increases from 10% to 12.3%, a massive 23% hike from $100k to $123k. 

When we apply the same know how to the balance sheet: Debtors reduce to 43 days or $120,176, stock moves to 39 days or $64,103, creditors grows to $50,953 and NCA reduces to $198,000 = TNA is now $331,326. Activity has increased from 2.94 x to 3.07 x. 

"Shoot for the moon, even if you miss you'll land amongst the stars."

Through insight, analysis and disciplined execution, the ROCE has improved from 29.4% to 37.76% an increase of 28% from 8 simple 1% changes. Yes, 23% was good, but 28% is better (actually 22% better), especially as it generates cash by reducing assets in the balance sheet, rather than consuming cash and capital. 

"How do you get the troop's to move forward: burn the bridges behind them."

At Armillary, we are not financial historian's (accountants): we work on your business, with the future in mind.

Fast decisions + clear analysis = Simple actions and outstanding results.

Let me help you, help your business.  Call or email: [email protected], +6421656707.

Remember, you get to choose how you want to react.