With the New Year coming up are you looking for ways to increase the value of your small business? Have you been looking for ways to reduce costs or improve revenue growth? Are you maximizing your return on the assets you have in your business? Using a value framework that was created over 60 years ago may help you identify ways to do this.
The value framework I am referring to is called the “”DuPont Model” Yes, this was created by DuPont, the American chemical company that was founded in 1802 as a gunpowder mill. The DuPont Model or DuPont Equation is a mathematical formula that breaks the return on equity in your business into three parts: Revenue Growth, Operating Margin, and Asset Efficiency. In the 1950’s, DuPont figured out that growing their business could be more of a science than art, and created this model to help them identify ways to improve these three areas.
They started with Revenue Growth, which can only occur in two ways. You can either sell more (volume) or charge more (price realization). To do this, you can focus on attracting new customers, retaining existing customers, or create new revenue channels by adding new products and services.
Operating Margin can be improved by reducing costs. Selling, General & Administrative (SG&A), Cost of Goods Sold (COGS) and income taxes are the three areas to focus on. Moving to a shared services model, improving customer interaction, enhancing your product development efforts and streamlining logistics are all areas that can help you improve your margins.
And finally, Asset Efficiency is focused on your Property, Plant & Equipment (PP&E), Inventory and both Accounts Payable and Accounts Receivable. Evaluating your real estate (own, lease, rent), improving inventory efficiency by increasing turns, collecting your receivables faster, and taking full advantage of vendor terms are all ways to improve the efficiency of your assets.
The combination of improving Revenue Growth, Operating Margin and Asset Efficiency will increase the value of your small business. Finding the best place to start is a whole other story. You can either make incremental improvements in what you are doing, or do something completely different. There are implications across the functions of your business, such as Human Resources and Information Technology that should be part of this process.
Taking the time to identify and prioritize the initiatives that will contribute the most value to your business, and then selecting the top 3-5, is a great starting point. You won’t be surprised that DuPont is still using this model 60 years after inventing it. It works!