Only few people in Pakistan know that ‘value-added’ by an organization as a socio-economic entity, over a period of time, can actually be measured and reported the same way other popular financial statements like profit & loss statement, balance sheet and cash-flow statement are used. The reason is that there is not much awareness about how the concept of value-addition should be elaborated in business schools and also generally business enterprises tend to rely more on conventional statements to report results, measure performance or make internal decisions. However, recently the trend is changing. Many mature organizations, particularly those listed on stock exchanges, have started to dedicate a considerable space on their periodic financial statements to highlight value-added by the organization, over a fixed period of time, in monetary terms in line with the widely accepted reporting conventions.
Here are some examples:
As rightly titled by Fauji Fertilizer Company, in fact value-added is a measure of wealth of the organization, accumulated over a specified period of time. Further, value-added statement highlights how the wealth of the organization is distributed among different stakeholders.
Here is how Abbott Pakistan presented the statement of value-addition & its distribution in the Company’s Annual Report for year 2010, available for download at the Company’s official website:
A cursory scroll through the above examples clearly reveal why ‘productivity’ is sometimes defined as ‘sharing of gains’ while considering ‘value-added’ a key measure of productivity. There is unfortunately no exact word for ‘productivity’ in Urdu, however, the Persian equivalent ‘Samar-awri’ (Reaping the Fruits) or ‘Baar-awri’ (Gains) can be used to convey the right meaning and essence.
In any organization there are many stakeholders who participate in one way or another – directly or indirectly. For instance the Government provides for the infrastructure, facilities, regulatory framework and security to the company and in return takes its share in the shape of taxes, duties and levies. Investors inject capital and in return are awarded dividends. Similarly, employees invest their competence, exposure, knowledge, ideas, time & efforts and get compensated in the form of salaries and bonuses. Land lord gets his return as rent; and lenders gain their share in terms of interest. Interestingly, by definition, machines also take away their share in the shape of depreciation – an accounting phenomenon, rationale of which might best be described by an accountants.
Some people would argue that customers and suppliers are also stakeholders. No doubt they are stakeholders but in the ‘value-chain’ or ‘supply-chain’ and since they do not directly participate in the operations of the organization so they are naturally not included in the calculation. Both supplier(s) and customer(s) fall outside the boundaries of the organization as a system i.e., before inputs and after output. Hence the inputs of suppliers (value created by earlier processers in the value-chain) are deducted to get what the organization itself added to the value of the goods. Similarly, customers whether they are end-users or not are not added into the equation as they yet have to participate in the value-addition process at operational level. Here is how the concept can be clarified:
Value-added industries are those which have several processes and stages involved between the need of the customer and actual provision of goods or services. For example textile is considered a highly value-added industry as from sowing of cotton crop to ginning, spinning, weaving, dying or printing, cutting, sewing / stitching of clothes & made-ups, packing, packaging and distribution onwards there are many stages involved.
There are two broad categories or methodologies used to calculate value-added in monetary terms for a specific period – people sometimes use a variant of these methodologies in order to suit their specific needs. Here is how both categories can be illustrated:
- Subtraction Method: Value-added = Sales – Cost of goods and services bought from outside;
- Addition Method: Value-added = Net profit interest salaries taxes rent depreciation.
Subtraction method can be graphically depicted as under:
Here we know how much wealth has been generated but we do not know how this wealth is distributed among the stakeholders. This is where the addition method comes in to portray the ‘sharing of the pie’:
Recent trend shows that many organizations highlight social welfare activities and training etc., imparted to their employees as part of their value-added statements. This is sometimes referred to as ‘Extended Value-Added Statement’.
Value-added statement can serve as a useful strategic planning tool and it also explains the purpose of a business enterprise in general terms. It highlights if the organization is using financial or operating leverages or a mix of both to magnify its profits. It also pin points abnormalities whether the organization is over-employed or extent of taxation is higher than actual gains i.e., value is being added in an un-healthy manner.
In short, value-added statement is an extremely handy tool to manage the organization and its resources. Pakistani managers should learn to make effective use of this statement in order to make Pakistani organization operate in a more logical manner.