Chapter 12
Operations Management: Financial
Dimensions
Dr. Pointer’s notes
Chapter Objectives
To define operations management
To discuss profit planning
To describe asset management,
including the strategic profit model,
other key business ratios, and financial
trends in retailing
To look at retail budgeting
To examine resource allocation
12-2
Operations Management
• Operations Management is the efficient and
effective implementation of the policies and
tasks necessary to satisfy the firm’s
customers, employees, and management
and stockholders.
• Managers must be knowledgeable of the
major financial ratios and statements which
can help in planning and evaluating the
success of a retail operations.
12-3
Profit Planning
One of the most important statement to
understand is the P & L Statement
Profit-and-loss (income) statement
– Summary of a retailer’s revenues
and expenses over a given period of
time, usually a year.
– Review of overall and specific
revenues and costs for similar
periods and profitability
12-4
Major Components of a
Profit-and-Loss Statement
• Net Sales
• Cost of Goods Sold
• Gross Profit
(Margin)
• Operating Expenses
• Taxes
• Net Profit After
Taxes
12-5
Net Sales
$330,000
CGS
$180,000
Gross Profit
$150,000
Operating
Expenses
$ 95,250
Other Costs
$ 20,000
Total Costs
$115,250
Net Profit before
Taxes
$ 34,750
Taxes
$ 15,500
Net Profit after
Taxes
$ 19,250
Major Components of P & L
Statements
• Net Sales – revenues minuses returns, markdowns
and employee discounts
• Cost of Goods Sold- amount paid for merchandise,
less discounts.
• Gross profit (margin), the difference between net
sales and cost of goods sold.
• Operating expenses – the cost of running a retail
business
• Taxes – payments of federal, state and local
government taxes
• Net profits after taxes - - profit after all taxes and
expenses have been paid
12-6
Asset Management
 The Balance Sheet- itemizes a retailers assets, liabilities
and network for specific time
– Assets- total amount of item with monetary value
Current assets – cash on hand
Fixed assets – non liquid assets such as property,
building, fixtures, equipment and etc
– Liabilities – financial obligations owed by retailer
– Net Worth- assets minus liabilities (value of business)
– Net Profit Margin- performance measures –ratio Net
profit/total revenue
– Asset Turnover- performance measure that
– Return on Assets- performance measure
– Financial Leverage – performance measurer
12-7
Performance Measures
• Asset Turnover = Net sales
Total assets
Return on Assets = Net profit margin X Asset
Turnover
Financial Leverage = Total Assets
Net Worth
12-8
Assessment of Ratios
• Asset Turnover - Best to have ratio greater
than 2 because it shows that assets are
being used more efficiently
• Return on Assets - Ratios close to 1 are
good because it shows that assets are
properly being utilized
• Financial Leverage Ratio – around 2 or less
is better. High ratios indicate much higher
debt. Need to compare ratio with industry
average for good assessment
12-9
Figure 12.1
The Strategic Profit Model
Net profit
Margin
X
Asset
Turnover
Net profit
Net Sales
Net Sales
total Assets
X
Financial
Leverage
=
Total Assets =
Net Worth
Return on
Net Worth
Net profit
Net Worth
Return on net worth model can help trouble shoot to determine
where the major performance problem is.
12-10
Other Key Business Ratios
 Quick Ratio- cash+ acct receivable/current liabilities ( > 1 is
good)
 Current Ratio – current assets/current liabilities (>2 is
preferred)
 Collection Period – accts receivable /net sales X by 365. 40
or above for a store with 30 day credit term is means slow
turning receivables.
 Accounts Payable to Net Sales- accounts receivable / net
sales – ratio above industry average indicates that firm rely
on suppliers to finance operations
 Overall Gross Profit –net sales /cost of goods , then divided
by net sales
12-11
Financial Trends in Retailing
 Slow growth in U.S. economy is adversely affecting retailers
( this causes slow sales, then markdowns, cash flow
problems which affects profits)
 High number of retail lay offs among workers
 Funding sources- 3 major types (next slide)
 Mergers, consolidations, - many stronger retailers buying
smaller retailers.
 Spinoffs- some retailers spinoff divisions that no longer meet
profit expectations to generate money to use in core
businesses.
 Bankruptcies and liquidations- safeguard against mounting
debts some firms seek bankruptcy protection –Kmart other
just sell assets to pay creditors
 Questionable accounting and financial reporting practices
12-12
Funding Sources
Mortgage refinance (due to low interest
rates)
REIT (retail-estate investment trust) to fund
construction
– Company dedicated to owning and
operating income-producing real estate
Initial public offering (IPO)- selling stock to
finance expansions.
12-13
Budgeting
Budgeting outlines a retailer’s planned
expenditures for a given time based on
expected performance
Costs are linked to satisfying target
market, employee, and management
goals\
Successful retailers operate using budgets
because they help achieve objectives.
12-14
Figure 12.3 The Retail
Budgeting Process
-Who develops
budget
-Budget
time frame
-How often
are budgets
planned
-What are
the cost
categories
-What level
of detail is
needed
-How flexible
will budget be
12-15
Goals
Performance
Standards
Planned
Expenditures
Monitoring
Results
Adjustments
Actual
Expenditures
Budget Benefits
 Expenditures are related to expected performance
 Costs can be adjusted as goals are revised
 Resources are allocated to the right areas
 Spending is coordinated
 Planning is structured and integrated
 Cost standards are set
 Expenditures are monitored during a budget cycle
 Planned budgets versus actual budgets can be
compared
 Costs/performance can be compared with industry
averages
12-16
Preliminary Budgeting Decisions
1)
2)
3)
4)
5)
6)
12-17
Specify budgeting authority
Define time frame
Determine budgeting frequency
Establish cost categories
Set level of detail
Prescribe budget flexibility
Cost Categories
 Capital expenditures are long term investments in
lands, buildings, fixtures and equipments
 Fixed costs remain constant for specified period.
Variable costs will vary based on performance
(cost of goods)
 Direct costs- incurred by specific departments,
product categories and etc.
 Natural account expenses- reported by names of
costs, such as salaries,
 Functional account expenses – classified on the
basis of the purpose of activity for which
expenditures are made
12-18
Ongoing Budgeting Process
 Set goals based on customer, employee and management
needs
 Specify performance standards ( usually related to sales
forecast)
 Plan expenditures in terms of performance goals: Zero
based budgeting – new budget developed from scratch or
incremental budgeting where past budget is used as a guide
and adjusted
 Make actual expenditures
 Monitor results
 Adjust budget s needed
 Cash Flow – relates to the amount and timing of revenues
received and expenditures made during a specific time.
12-19
Resource Allocation
• Capital
Expenditures
– Long-term
investments in
fixed assets
• Operating
Expenditures
– Short-term selling
and administrative
costs in running a
business
Must have a good estimate of capital and operating expenditures.
Need to have the funds needed to run the operations. Must be
flexible to take advantage of opportunities.
Opportunity costs – the possible benefits a retailer forgoes if it
invests in one opportunity rather another
12-20
Enhancing Productivity
 Productivity refers to efficiency with which a retail
strategy is carried out.
 Big question is how can sales and profitability be
maintained and costs be decreased.
 A firm can improve employee performance, sales
per foot of space, and other factors by upgrading
training programs, increasing advertising, etc.
 It can reduce costs by automating, having suppliers
do certain tasks, etc.
12-21
Questions
Look for class assignment with problems.
12-22