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The objectives of this paper are two-fold: first, the paper looks at the role of financial strategy in an organisation, the risks faced by an entity and how these risks affect the financial strategy; second, the paper provides a discussion in relation to whether cultural factors have an impact on corporate strategy, as well as whether it is beneficial for an organisation to be ethical. The paper begins by looking at financial strategy and organisational risks. It will later consider cultural and ethical issues.
- The role of financial Strategy in an Organisation.
Financial strategy can be defined as the practices adopted by a firm to achieve its financial objectives. (Harvey, 2004). According to Calandro and Flynn (2007) “financial strategy can be defined as an interdisciplinary methodology to more efficiently allocate resources within a firm to better or more economically satisfy customer preferences over time”. The later definition stresses the need for customer satisfaction indicating that shareholder value creation depends on customer satisfaction. Although an organisation’s overall objective is shareholder value maximisation, it can only achieve this through high levels of customer satisfaction because it is only through high levels of sales that profit can be generated and high levels of sales can only be achieved through high levels of customer satisfaction.
The main financial objective of a profit-making entity is to maximise shareholder value. (Ogilvie, 2005). Shareholder value is measured by the returns shareholders receive each year, represented by the dividend received each year, plus the capital gains from capital appreciation, which is measured by the growth in the share price of the entity. In addition to maximising shareholder value an organisation may have other objectives such as satisfactory returns, high sales levels, high level of customer satisfaction, etc. (Ogilivie, 2005; Calandro and Flynn, 2007). Kaplan and Norton (1996) identify three different stages for a business and note that each of these stages has its own unique financial objectives. The three stages include: (1) rapid growth; (2) sustain; and (3) harvest. (Kaplan and Norton, 1996).
At the rapid growth phase the financial objective will be to achieve sales growth, achieve sales in new markets and to new customers, achieve sales from new products and services, maintain adequate spending level for product and process development, establish new marketing, sales and distribution channels. At the sustain phase the organisation will emphasize traditional financial performance measurements, such as return on capital employed, operating income and gross margin. Standard discounted cash flows and capital budgeting analysis will be used to appraise investments although some companies may emphasise the use of more recent appraisal techniques such as economic value added and shareholder value added. At the harvest phase, the main financial objective will be to achieve sustainable levels of cash inflows, in which case any investment project must have immediate and certain cash paybacks. (Kaplan and Norton, 1996).
Financial strategy constitutes three main stages, which are temporarily linked in a financial feedback loop as shown in figure 1 below. These stages include: (1) strategy formulation; (2) resource allocation; and (3) performance measurement.
An important aspect of strategy formulation is strategic planning, which according to Myers (1984) involves the process of deciding how to commit the firm’s resources across different lines of business.
Based on the above discussion, one can observe that financial strategy plays an important role in an organisation. It enables the organisation to formulate its strategy, determine how to allocate its resources and enables the company to measure its performance. Financial strategy enables an entity to make an assessment of its financial needs, the sources of support required to meet its objectives and fulfil its mission while at the same time planning for growth and stability. Financial strategy is an indispensible prerequisite for the formulation and development of the budget.
Organisations often face a number of risks. These include liquidity risks, interest rate risk, business risks, financial risks, etc. these risks may affect the financial strategy in a number of ways. Financial risk for example is the risk that the company may be unable to meet its commitments to repay interests and principal repayments on its long-term financial obligations. The effect of such a risk on the financial strategy is that the company will emphasise the use of internally generated funds and equity to finance long-term projects rather than issue bonds or other long-term debt securities. Interest rate risk may also affect the firm’s capital structure decision in that perceived high levels of interest rates on long-term debt may reduce the company’s motivation to use debt financing. Foreign exchange rate risk may affect the company’s prospects to expand production abroad, as well as the currency denomination of foreign contracts and sales. Liquidity risks may affect the company’s short-term borrowing. The presence of high liquidity risk may warrant the company to resort to a just-in-time inventory system, reduce short-term debtors by maintaining more strict short-term credit policies and factoring of accounts receivables.
- Effect of Cultural Factors on Corporate Strategy
Andrews (1997: p. 52) defines corporate strategy as “the pattern of decisions in a company that determines and reveals its objectives, purposes, or goals, produces the principal policies and plans for achieving those goals, and defines the range of business the company is to pursue, the kind of economic and human organisation it is or intends to be and the nature of the economic and non-economic contribution it intends to make to its shareholders, employees, customers, and communities”. Corporate strategy in effect maps out the businesses in which an organisation intends to compete in a way that focuses resources to convert distinctive capabilities into competitive advantage. (Andrews, 1997).
The definition of corporate strategies emphasises the need for the organisation to satisfy the needs of all the stakeholders if the organisation is to achieve is overall objective of maximising shareholder value. Stakeholders include employees, customers and the communities in which the organisation operates. Employees, customers and communities therefore have a significant impact on the success of the organisation and thus on the corporate strategy of the organisation. In formulating corporate strategy, organisations need to identify and priorities strategic issues, which involves scanning, selecting, interpreting and validating information. (Schneider, 1989)
To properly formulate its corporate strategy, an organisation must assess its organisational strengths and weaknesses, as well as its environmental threats and opportunities, which will enable it choose among alternative courses of action. (Hofer and Schendel, 1984) cited in Schneider, (1998). This indicates that an organisation must perform a SWOT (strengths, weaknesses, opportunities and threats) analysis prior to formulating corporate strategy. A number of factors have been identified as having an effect on corporate strategy formulation: for example, Kets de Vries and Miller (1984) suggest that managerial personality and experience is an important determinant of the strategy formulation process; Janis (1972) considers group dynamics as an important factor affecting the formulation of corporate strategy while Frederickson (1984); Lyles and Mitroff (1985) suggest that organisational structure plays an important role in strategy formulation.
Schneider (1998) citing Schein (1985) notes that National culture could play an important role in strategy formulation as it derives from assumptions regarding relationships with the environment as well as relationships among people. Schneider (1998) argues that these assumptions will influence how information is gathered and how that information is interpreted within the organization. The strategy formulation process can therefore not be considered ‘culture-free’ because information is embedded in social norms and acquires symbolic value as a function of a particular set of beliefs in a particular set of cultures. (Feldman and March, 1981).
There are considerable differences in cultures across countries. Culture is defined as “a system of shared assumptions that has developed over time to solve problems of environmental adaptation and internal integration”. (Schneider,, 1998: p. 152) citing Schein (1985); Van Maanen and Barley (1983). Culture is expected to affect the process by which the environment is known and responded to because it is thought to influence the way people perceive, think, feel and evaluate. (Schneider,, 1998). There are two sets of cultural assumptions that are thought to be specifically relevant to the formulation of corporate strategy. These include external adaptation and internal integration. (Schneider, 1998). On the one hand, external adaptation refers to the relationship with the environment while internal integration on the other hand refers to the relationships among people.
The forgoing indicates that cultural factors have a significant effect on corporate strategy and thus calls for a critical consideration of cultural differences especially for multinational companies that usually operate in a number of different countries with varying degrees of culture. A company therefore stands to gain a lot from being ethical. Companies that are perceived as being unethical may suffer from declining sales and thus declining profit margins. There are also differences as far as ethical issues are concerned. What may be considered unethical in one country may be considered ethical in another country. For example, Muslim communities do not eat pork meat and thus will consider a company that attempts to market pork related products as contravening their cultural believes. In addition there are considerable differences in relation to organisational hierarchy across countries. In countries where power distance is considered very important, information is likely to flow only from top to bottom and not from bottom to top. In addition, an autocratic form of leadership is likely to prevail in such societies. On the contrary, in a country where power distance is considered less important, there would be a two way flow of information and a democratic leadership style is likely to prevail. For example, Motorola faced a number of problems when it expanded its activities to South Korea. (Siegal et al., 2007). In like manner IKEA, the giant furniture dealer faced difficulties when it expanded its activities into the United States. (Grol et al., 1998).
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