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Wealth Creation: A Systems Mindset for Building and Investing in Businesses for the Long Term

ISBN: 978-0-470-48868-3
178 pages
March 2010
Wealth Creation: A Systems Mindset for Building and Investing in Businesses for the Long Term (0470488689) cover image

Description

Wealth creation insights by the creator of the company life-cycle framework known as the CFROI valuation model.

Investors searching for companies whose future profitability will far exceed that implied in current stock prices, those in business making decisions to improve company performance, and politicians crafting legislation-all use some form of a wealth creation framework.

In this book, author Bartley Madden addresses how to think about the complex dynamics in generating wealth and the practical benefits to be gained from upgrading one's wealth creation framework. Throughout these pages, Madden shares six critical insights:

  • A systems mindset focuses not so much on the individual pieces of a system, but on how all the pieces work together to achieve the goal envisioned for the system. The systems way of thinking described in Wealth Creation helps to avoid unintended, bad consequences, and to generate insights for leveraging change that produces big gains in wealth
  • Economic systems -- the rules and relationships that exist to create wealth by delivering value to customers -- are devilishly complex and therefore solving economic problems requires extensive knowledge. Seen in this light, knowledge growth and wealth creation are two sides of the same coin.

  • A prerequisite to making better buy/hold/sell investment decisions and business judgments is an improved understanding of how wealth is created. An especially useful approach described in this book is to connect business firms' financial performance to stock prices via the firms' competitive life-cycle framework
  • A deeper understanding of business firms makes it plain that customers, employees, and shareholders have mutual, long-term interests. In other words, a free-market system geared to serving customers through competition is a system in which participants share the wealth that is jointly created
  • There is a huge opportunity for sustained, higher economic growth through voluntary initiatives by the private sector. One initiative involves an accelerated implementation of lean management, which was pioneered by Toyota. This is a systems approach that continually purges waste and optimizes the use of resources in delivering value to customers
  • The other initiative concerns improved corporate governance. The wealth creation principles discussed in this book offer a blueprint for boards of directors to vastly improve how they fulfill their responsibility to shareholders, and in so doing, improve the performance of corporate America

These ideas have taken shape as a natural outgrowth of a commercial research program that began in 1969 at Callard, Madden & Associates focused on how to value business firms. It produced the CFROI (cash-flow-return-on-investment) metric and its related life-cycle valuation model. This work was further advanced at HOLT Value Associates, which was later acquired by Credit Suisse in 2002. Credit Suisse HOLT continues the research to improve the valuation tools and related global database that analyzes 20,000 companies in over 60 countries. This system is used by a large number of institutional money management firms worldwide in order to make better investment decisions.

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Table of Contents

Preface xi

Acknowledgments xvii

CHAPTER 1 A Systems Mindset 1

How We Know What We Think We Know 2

The PAK (Perceiving-Acting-Knowing) Loop 3

Purposes 3

Perceptions 4

Cause and Effect 6

Actions and Consequences 7

Feedback 8

Knowledge Base 9

Examples of Systems Thinking and Problem Solving 10

High-Reliability Organizations 10

Eli Goldratt, Business Theorist 12

Colonel John Boyd, Military Theorist 14

Correlation, Causality, and Control Systems 15

Summary of Key Ideas 17

CHAPTER 2 The Wealth-Creation System 19

The Perception of Free-Market Capitalism 20

The Housing and Credit Crisis of 2008–2009 21

Government Regulation and Unknown Risks 25

The Standard of Living 28

Summary of Key Ideas 33

CHAPTER 3 The Ideal Free-Market System 35

Components of a Free-Market System 36

Consumer Wealth, Producer Wealth, and Competition 39

Efficiently Providing What Consumers Want 41

Summary of Key Ideas 43

CHAPTER 4 The Competitive Life-Cycle View of the Firm 45

Competitive Life-Cycle Framework 45

Firms’ Competitive Life Cycles and Dynamism 47

Company Examples 51

Eastman Kodak 53

IBM 55

Digital Equipment 58

Apple 59

Bethlehem Steel 62

Nucor 63

Kmart 67

Medtronic 69

Walgreen Company 71

Donaldson Company 73

Life-Cycle Observations 75

Summary of Key Ideas 76

CHAPTER 5 The Life-Cycle Valuation Model as a Total System 79

Efficient Markets versus Behavioral Finance 80

Valuation Model Principles 81

Measurement Units 86

Forward-Looking, Market-Derived Discount Rates 89

Problems with CAPM Cost of Capital 91

Improving the Valuation Process 93

Investor Expectations: The Wal-Mart Example 96

Critical Accounting Issues 99

Reply to Critics 102

Summary of Key Ideas 104

CHAPTER 6 Business Firms as Lean, Value-Added Systems 107

Lean Thinking and PAK Loop Components 108

Knowledge Base 108

Purposes 111

Perceptions 113

Cause and Effect 114

Actions and Consequences 115

Feedback 116

A Lean Transformation Example: Danaher 118

Summary of Key Ideas 121

CHAPTER 7 Corporate Governance 123

A Systems View for Corporate Governance 123

Corporate Governance Needs Repair 124

A Standard of Performance for Boards 127

A Successful Cultural Transformation Example: Eisai Co., Ltd. 128

Shareholder Value Review 130

Valuation Model Selection 133

Value-Relevant Track Records 135

Business Unit Analyses 137

Reply to SVR Objections 138

SVR as an Evolutionary Process 140

Summary of Key Ideas 141

CHAPTER 8 Concluding Thoughts 143

Benefits for Public Policy Makers 144

Benefits for Business Managers 146

Benefits for Investors 148

Notes 153

References 159

About the Author 167

Index 169

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Author Information

Bartley J. Madden is an independent researcher whose current focus is on market-based solutions to public policy issues, including FDA reform and corporate governance. In 1969, Madden cofounded Callard, Madden & Associates, where his research was instrumental in developing the CFROI (cash-flow-return-on-investment) valuation model that has become an integral part of the investment process for many large money management firms. He later managed portfolios for Harbor Capital Advisors. In the early 1990s, Madden joined HOLT Value Associates, a firm created to commercialize the CFROI valuation model worldwide. Madden retired in 2003 as a managing director of Credit Suisse, which acquired HOLT. He is the author of CFROI Valuation: A Total System Approach to Valuing the Firm.
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