How key is finance to corporate strategy?

• Author: Engebretsen, Arden B.

How key is finance to corporate strategy? I believe, in the interdependent and competitive world of the 1990s, the role of finance in supporting corporate strategy will be a determining factor in the success or failure of a corporation.

The recent events in Eastern Europe have demonstrated how rapidly and fundamentally the world is changing. But these developments, while sudden and dramatic, are in reality a continuation of significant trends that have been occurring for decades. It is our imperfect ability to understand the direction of these trends that makes events appear sudden and unforeseen.

What is important to finance in its support of corporate strategy is not the ability to forecast these events but to see the larger picture and to develop long-term strategies that not only allow for change but take advantage of teh changes. This is a form of corporate flexibility that is essential to the future success of an enterprise.

In recent years, high inflation and interest rates, the deregulation of financial markets, and the revolution in communications technology have brought us to a new state. The treasury function has evolved into an integral part of the strategic planning process. Because the dramatic changes in world markets are taking place with increasing speed, financial officers need to constantly reevaluate the structure and functions of the financial organization.

In the past, virtually all corporations stated as their primary goal to increase earnings per share, which would translate into higher dividends and a rising share price. But countless studies over the past 10 years have shown, to my satisfaction, that earnings per share can be a misleading measure. The emphasis today is on strategies that create the greatest value for shareholders over the long term.

Alfred Rappaport says in Creating Shareholder Value, "The shareholder value approach estimates the economic value of an investment by discounting forecasted cash flows by the cost of capital. These cash flows, in turn, serve as the foundation for shareholder returns from dividends and share price appreciation.

"The case for why management should pursue this objective is straightforward. Management is often characterized as balancing the interests of various corporate constituencies such as employees, suppliers, debt holders, and stockholders.... The company's continued existence depends upon a financial relationship with each of these parties.

"Employees want competitive wages. Customers want high quality at a lower than competitive price. Suppliers and debt holders each have financial claims that must be satisfied with cash when they fall due. Stockholders, as residual...