The figure above depicts the flow of value in an economic entity. Like oxygen, food and other necessities to a biological system, value measured in monetary terms is the essence of economic entities.
Where does it begin?
Before an entity can generate value by itself, some value from another entity has to be transferred to the entity. This is the formation period of the entity. Such transfer enables the entity to build its most fundamental components - capacities - that enable it to generate its own value and therefore exchange with its customers. The value transfer could be either as an asset or a consumable: these points reflect the options for finance injection. After the first exchange process, value flows through the entity either via the short term cycle without the long term cycle or through both cycles. (See the PCIX Grid)
Definitions:
- Assets: Assets are long term embodiments of value ready to be used up (absorbed) in the value addition transformation processes.
- Expenses: Expenses are periodic outflows from Assets to value addition transformation processes in the short term.
- Products: These are short term embodiments of value resulting from the value addition transformation process in the short term; they are ready and available for exchange with customers.
- Consumables: These are short term embodiments of value being used up (absorbed) in the value addition transformation processes.
- Revenues: Revenues are short term embodiments of value resulting from the exchange process with customers and are ready to be absorbed in either the short term or long term value addition transformation processes.
- Savings: Savings are the periodic inflows into Reserves for value addition transformation process in the long term.
- Reserves: Reserves are long term embodiments of value still in the value addition transformation process in the long term not ready for absorption.
- Leakages: Leakages are the unabsorbed (unused) periodic outflows from the long term embodiments of value - Assets and Reserves.
Economic Value Flow Reporting
The EVF Statement (Example)
DESCRIPTION | XAF | XAF |
SHORT TERM | ||
Revenue | 10,000,000 | |
Consumables: - Revenue Generating[1] | (5,000,000) | |
- Resource Servicing[2] | (1,200,000) | |
- Inescapable Obligations[3] | (300,000) | |
Total Consumables | (6,500,000) | |
Savings | 3,500,000 | |
Expenses: - Assets A | 800,000 | |
- Assets B | 200,000 | |
Total Expenses | (1,000,000) | |
Gross Operating Value Added (Eroded) | 2,500,000 | |
Leakages: - Assets | 300,000 | |
- Reserves | 100,000 | |
Total Leakages | (400,000) | |
Net Operating Value Added (Eroded) | 2,100,000 | |
LONG TERM | ||
Opening Assets | 2,000,000 | |
Less: - Expenses | (1,000,000) | |
- Leakages | (300,000) | |
Add: - Transfers from Reserves | 1,800,000 | |
Net Periodic Change | 500,000 | |
Closing Assets | 2,500,000 | |
Opening Reserves | 2,000,000 | |
Add: - Savings | 3,500,000 | |
Less: - Leakages | (100,000) | |
- Transfers to Assets | (1,800,000) | |
Net Periodic Change | 1,600,000 | |
Closing Reserves | 3,600,000 | |
Total Long Term Resources | 6,100,000 | |
Performance Indicators
1. FORESIGHT ACCURACY (FA)
Economic sustenance depends on an entity’s ability to generate value for itself. However, the context in which value is being generated is dynamic and most often very uncertain. Managers and other decision makers act based on their hypotheses about eminent changes in the future. For their decisions to yield returns to the entity, those hypotheses have to be matched with the reality at that point in the future. Otherwise, the resources allocated will be lost without any return to the entity.
a. Objective
The objective of Foresight Accuracy (FA) is to determine the extent to which the entity’s decisions in the past enable it to capitalize on and benefit from the opportunities created by the prevailing context. This goes a long way to establish the credibility of the decision makers.
b. Equation
FA = | Cumulative Net Operating Value (within the Strategic Timeframe) |
Total Resources Employed (within the Strategic Timeframe) |
For the hypothetical example, FA is 20.79% or 0.2079.
2. VALUE REPLACEMENT (VR)
Economic value transformation is a dynamic process. In the transformation leading to value addition, an entity absorbs considerable value. What if the total value outflow is less than the value inflow? An entity cannot sustain itself if the value inflow is less than the value outflow indefinitely.
a. Objective
The objective of Value Replacement (VR) is to determine the extent to which an entity’s value absorbed is being replaced by it adds through its transformation processes of value addition in the short term (production).
b. Equation
VR = | Savings |
Expenses + Leakages |
VR for the example is 250% or 2.5 times
3. MARKET VULNERABILITY (MV)
Fluctuations in the economic context create a degree of vulnerability to all entities operating within that context. Such vulnerability is expressed in the losses incurred as a result of changes in the market place.
a. Objective
The objective of Market Vulnerability (MV) is to determine the extent to which an entity can withstand contextual and temporal fluctuations.
b. Equation
MV = | Leakages |
Closing Reserves |
MV for the example is 11.11%
[1] Revenue generating consumables include the cost of raw materials and direct labour in traditional accounting.
[2] Resource servicing consumables are consumption geared at maintaining the effectiveness of resources. It may include: repairs and maintenance of infrastructure, marketing costs, overhead personnel, cost of branding, cost of maintaining supply channels etc.
[3] Inescapable obligations consumables are those consumables are given with or without operations such as licence fees, fixed taxes etc.
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