The Value Creation Plan: What Changes After Ownership Changes

A value creation plan sets out what will be different about the acquired business under its new owner and what each change is worth: price, cost, capital tied up, capacity used, what gets sold and what gets stopped. Synergy is one part of it. The rest is improvement the business could in principle have made alone, so the plan has to say why it did not.

There is a habit worth breaking at the outset. When a purchase completes, almost everybody in the building starts talking about what the two businesses can do together, and almost nobody asks the duller question underneath it: what has to be true for the money to have been worth committing at all. The two are not the same question. The first has a comfortable answer and the second usually has an uncomfortable one, and the discipline of a value creation plan is that it requires the second to be written down before the first is enjoyed.

Everything below runs on one invented purchase. Harivansh Packaging Limited trades on both Indian exchanges and makes packaging, rigid and flexible, for customers in food and in personal care. Harivansh Packaging has bought Sundarban Polymers Private Limited outright, an unlisted producer of flexible packaging films. The enterprise valueThe value of a whole business taken as one thing, before it is split between the people who lent to it and the people who hold its shares. It is the figure a purchase price is usually quoted against. of the transaction was Rs 1,320 crore. Take away the Rs 180 crore of net debtBorrowings less the cash sitting against them. It is what a business would still owe if it emptied its bank account into its lenders tomorrow morning. that Sundarban Polymers carries, and the equity value reaching the sellers for their shares was Rs 1,140 crore. The Rs 1,140 crore is what the buyer handed over and what the sellers received; Rs 1,320 crore is not the price paid to anybody.

Two people carry the decisions below. Devyani Kulkarni holds the chief financial officer role at Harivansh Packaging Limited, and the transaction team answers to Ashwin Rege.

What is a value creation plan, and where does the synergy plan sit inside it?

The narrower document is easier to define once the wider one exists, so start with the wider one. A value creation plan is a written statement of every way in which the acquired business will be different under its new owner, with an amount against each difference and a date by which it lands. Prices that will move. Costs that will come out. Cash that will stop sitting in stock and in unpaid invoices. Machines that will run more of the time. Product lines that will be stopped. Spending that will not happen. Each of those is a line, each line has a number, and each number has somebody answerable for it.

A synergy plan is a subset of the value creation plan. The synergy plan covers only the changes that require both businesses to sit under one owner and could not have happened otherwise. One purchase conversation with a supplier both businesses buy from. One set of accounts payable staff instead of two. A customer that one business could never serve alone because it lacked a grade of film the other one makes. A synergy plan covers what is only possible because two businesses now share an owner, and a value creation plan covers everything that will be different, most of which does not need the combination at all.

Now the part that matters, and it is not a definitional nicety. The wider document is the more honest one, and it forces somebody to say why an available improvement had not already been taken. Consider what it means for a line to sit outside the green box. The change did not need the purchase. The previous owners could have made it. And if the line is real, the business just bought was worth more than its previous owners realised, and the buyer paid a price which already assumed it was not.

Here is the everyday version. A household buys a small shop from a retiring owner. The buyer looks at it and sees three obvious things: the shutters open two hours later than the offices nearby need, half the shelf space is given to a line that barely sells, and nobody has ever asked the wholesaler for a better rate on the one item that moves in volume. All three are improvements. None of the three needed a change of owner. So the honest question the buyer has to answer is not whether the improvements are real. The question is why the retiring owner, who knew this shop far better than the buyer does, had not made them. Sometimes there is a very good answer. Sometimes the answer is that the buyer has not yet found the reason.

So a plan built only of synergy lines is a smaller and safer document to write, and also a much less useful one. Every synergy line comes with its own justification built in: it was impossible before and it is possible now, and the reason is the purchase. Every value creation line outside that region has to supply its own reason, and a plan with a lot of unreasoned lines is a plan that has quietly assumed the previous owners were not paying attention.

What are the levers, and which of them can a new owner actually move?

Every value creation plan ever written pulls on the same six levers, and anybody who has read one has read the list. Price, what the business charges. Cost, what it pays to produce. Working capitalThe cash tied up in stock and in invoices customers have not yet paid, less the invoices the business has not yet paid. It is money the business has bought but cannot spend., the cash sitting in stock and in unpaid invoices. Capacity used, how much of the day the machines are actually running. Capital spending discipline, what does not get built. And what to stop doing, the only lever that removes rather than improves.

Because every plan pulls the same six levers, the list carries no information at all and the sorting carries all of it. Two plans naming the identical six levers can be wildly different documents, and the difference is entirely in which levers the new owner can genuinely move and which ones require the same people who were already there to now do what they had not previously done.

Three of the six are a decision. Stopping something is a decision: somebody who now holds the shares can decide on a Tuesday that two loss-making grades will not be made after the quarter ends, and it is done, subject to the practicalities of telling the customers. Capital spending is a decision: the line nobody has properly costed can be deferred by refusing to sign for it. Working capital is close to a decision, because how much stock a business keeps and how firmly it chases its invoices are set by policies, and policies are changed by whoever sets them.

The other three are not decisions. Each of the three is an outcome of work done by people. Cost comes out because somebody renegotiates, redesigns or reorganises, and that somebody is usually a person who was already employed by the acquired business. Capacity used rises because scheduling, changeovers and maintenance all get better, which is a craft rather than an instruction. And price is the hardest of the lot, because price is the one lever that requires a customer to agree.

Use the sort as a reading tool rather than a scoring system. The sort does not say the right-hand panel is impossible, and a great deal of real value has come out of exactly those three levers. The sort says something narrower and more useful: the levers in the right-hand panel take longer, they can be refused by people who do not report to the buyer, and a plan that puts most of its amount there has to explain how it will get the behaviour it is assuming. A plan that puts most of its amount in the left panel is making a decision, and decisions arrive on the date somebody writes down.

Which denominator is the plan being judged on?

The denominator is the whole of it, and it turns on a distinction so ordinary that it slides past almost everybody. Return on capital employedA profit figure divided by the money tied up in the business that produced it. Return on capital employed is defined and computed where that measure is set out, and is borrowed here ready-made. is a ratio, and like every ratio it has a top and a bottom. The top is a profit figure. The bottom is a quantity of money. Everything below is about which quantity of money.

A business measures itself against the capital on its own books. Net worth at Sundarban Polymers stands at Rs 320 crore and its net debt at Rs 180 crore, which puts capital employedNet worth plus net debt: the total money currently tied up in a business from both its shareholders and its lenders. It is a bookkeeping quantity, not a market one. at Rs 500 crore. Its earnings before interest and tax (EBIT)The profit a business makes from trading, before anything is paid to lenders or to the tax authorities, so it is compared against money from both. is Rs 98 crore. Rs 98 crore over Rs 500 crore is 19.6 per cent, and that is a genuinely good number. Harivansh Packaging's own equivalent, Rs 339 crore of EBIT over capital employed of Rs 2,390 crore, is 14.1841 per cent. By the measure each business applies to itself, Sundarban Polymers is the better of the two, and it is not close.

Now change the bottom of the ratio. Harivansh Packaging did not acquire Sundarban Polymers by putting Rs 500 crore into it. Harivansh Packaging committed Rs 1,320 crore to the business, being the Rs 1,140 crore that reached the sellers plus the Rs 180 crore of Sundarban Polymers' own net debt that came across with the shares. Both amounts belong in the denominator for the same reason EBIT belongs in the numerator: EBIT is earned before any interest is paid, so it is the profit available to lenders and shareholders together, and the money it is measured against has to be the money from lenders and shareholders together too. Rs 98 crore over Rs 1,320 crore is 7.42 per cent.

The Rs 820 crore reconciles from two directions, which is worth doing because it confirms that the two denominators are describing the same thing. Route one: Rs 1,140 crore reached the sellers against net worth of Rs 320 crore, so Rs 820 crore of goodwillThe excess of what was paid over the accounting value of what was acquired. How it is allocated and carried afterwards belongs to the accounting layer and is not settled here. arises before any allocation to identified intangibles. Route two: Rs 1,320 crore of money committed against Rs 500 crore of capital employed leaves the same Rs 820 crore. The two routes agree because Rs 500 crore is simply Rs 320 crore of net worth plus the Rs 180 crore of net debt that the Rs 1,320 crore also contains.

Turn that round once more and it becomes uncomfortable in a useful way. Of the Rs 1,320 crore committed, 62.1 per cent bought nothing that appears anywhere on Sundarban Polymers' balance sheet. The money bought the fact that the business already exists, already sells to those customers, already runs those machines and already employs the people who know how. A business that already exists is a real thing to have bought, and it is frequently worth buying. The same money is also money on which somebody now has to earn a return, and it does not show up as an asset a plan can improve.

The two denominators are different, and mixing them produces a comparison that flatters or damns the wrong thing. Nothing about 19.6 per cent is false. Nothing about 7.42 per cent is false. The two figures answer different questions. The first asks how efficiently this business converts the money already sitting in it into trading profit, and that is a question about the business as an operating machine. The second asks how efficiently the buyer converted money it had into trading profit it did not previously have, and that is a question about a decision. A plan can be built against either. A plan cannot be built against one denominator and reported against the other.

So the practical instruction is blunt. The plan has to state which denominator it is being judged on before its first number is written, and it has to say so on every sheet of the document. Not in an appendix, not in a footnote on the methodology slide. The reason for the repetition is that plans get extracted from, and a single table lifted out of a plan and pasted into a board pack carries no basis with it unless the basis is written on the table.

How much has to change before the purchase earns what the buyer already earns?

Set a standard first, because a requirement without a standard is just a number somebody liked. The most defensible standard available here is the buyer's own return: Harivansh Packaging already earns 14.1841 per cent on the capital in its existing business, so the money it committed to Sundarban Polymers ought at minimum to work as hard as the money already working inside it. No authority hands that standard down. The buyer's own return is simply the least arbitrary benchmark on the table, and it is the one alternative use of the money that is actually known.

Apply it. To earn 14.1841 per cent on Rs 1,320 crore, the acquired business would have to produce Rs 187.23 crore of EBIT. The business produces Rs 98 crore today. The plan therefore has to add Rs 89.23 crore of EBIT, and that is very nearly a doubling of what Sundarban Polymers earns from trading today. The required figure is 1.91 times what it earns now.

The rounding here is load bearing, and it is worth thirty seconds. The record prints Harivansh Packaging's return as 14.2 per cent, which is correct to one decimal. Using 14.2 per cent, the requirement comes out at Rs 187.44 crore rather than Rs 187.23 crore, a difference of Rs 0.21 crore that arrives from nowhere except the rounding. Here it is small. Where a rounded percentage gets multiplied by a large base, the error stops being small, and the general rule is the one that matters: derive from the unrounded value and print the rounded one, never the reverse.

Running the identical standard through the other denominator shows most cleanly why the denominator has to be fixed first. To earn 14.1841 per cent on the Rs 500 crore of book capital, Sundarban Polymers would need Rs 70.92 crore of EBIT. Sundarban Polymers already makes Rs 98 crore, so on that reading it cleared the buyer's own standard before the purchase completed and the plan has nothing to do at all. One standard, one business, one set of earnings, and the requirement reads as Rs 70.92 crore against one bottom and Rs 187.23 crore against the other, with nothing else changed. The Rs 116.31 crore between those two requirements is not an accident of arithmetic: it is 14.1841 per cent of the Rs 820 crore of goodwill, which is precisely the money that appears in one denominator and not the other.

The Rs 89.23 crore is a far larger number than any synergy figure on this transaction, and most plans never state it at all. The omission is not usually dishonesty. The plan gets written by people whose job is to improve the business, and improving the business is measured against the business, so the denominator that arrives naturally is the one already on its books. Nobody chooses the wrong bottom. The wrong bottom is simply the one nearest to hand.

Two things in that panel repay attention. First, with the slider left alone, clicking between the two bases leaves the earnings unchanged and moves the reading from 19.6 per cent to 7.42 per cent, the whole distinction in one click. Second, on the money-committed basis, the slider can be dragged up. The bar reaches the fixed line at Rs 89 crore of added EBIT and not before, and that is the requirement drawn rather than asserted. Then switch to the book basis with the slider still up there and watch the same earnings read as a triumph. Nothing about the business changed between those two readings.

Rs 8.67 crore or Rs 89.23 crore? Both, and they are not rivals

A second requirement is already sitting on this transaction, carried in from where synergy itself is set out, and putting the two side by side is worth doing. Holding Harivansh Packaging's earnings per shareWhat a single share earned over a period, once tax has come off the profit and the total has been spread across every share in issue. Set out where earnings per share is defined. at Rs 12.50/- after the purchase requires Rs 8.67 crore of additional earnings before interest, tax, depreciation and amortisation (EBITDA). Earning the buyer's own return on the money committed requires about Rs 89 crore of additional EBIT. The second is 10.29 times the first.

Both figures are correct, they differ by roughly ten times, and the reason is that they are answers to different questions rather than two attempts at the same one. The Rs 8.67 crore asks whether the purchase damages this year's reported earnings per share. The Rs 8.67 crore is a short-horizon accounting question, it has a definite answer, and it will be visible in the next set of results whether anybody plans for it or not. The Rs 89.23 crore asks whether the money committed was put to work as productively as the money already inside Harivansh Packaging. The Rs 89.23 crore is a question about the decision rather than about the year, it will not appear as a line in any set of accounts, and nothing forces anybody to compute it.

Which is why the smaller one gets all the attention. The smaller figure is the one that shows up. A programme sized against Rs 8.67 crore will pass its first year comfortably and never once ask the larger question. And the larger question is the one the purchase was actually a decision about.

Neither figure settles the larger question. Neither of them says whether Harivansh Packaging should have bought Sundarban Polymers. The Rs 8.67 crore concerns this year's earnings per share. The Rs 89.23 crore states what would have to change for the money to work as hard as the money already there. Whether the purchase was a good idea depends on what that same Rs 1,320 crore would have done in whatever was passed over to fund it, and on how the combined business performs over years still ahead of it. Neither of those sits in any figure here.

What if the business could have made the improvement on its own?

This is the part of the subject that gets softened almost everywhere it is written about, so here it is unsoftened. If the acquired business could have raised its own price or taken out its own cost, then it was worth more to its previous owners than they realised, and the buyer has just paid for that improvement in advance.

Walk the reasoning through slowly here, because this is a claim most readers agree with in a second and then find far harder to live with. A price rise that needed nothing from the new owner was available last year. If it was available last year and the sellers did not take it, the business was earning less than it could have. The valuation that produced Rs 1,320 crore was struck on what the business earns, and that is the lower figure. So the buyer is paying a multiple of understated earnings, and then proposing to capture the understatement as its own achievement. Some of that is genuinely available. Some of it was already handed over at completion, because a seller who knew the increase was there would have wanted paying for it, and a seller who did not know may still have been paid for it through a price set against a business that had it latent all along.

The household version again, and this one is uncomfortable in exactly the right way. Somebody buys a flat and says the rent can be raised by a fifth because the current landlord has not raised it in four years. Perhaps. But the buyer paid a price for that flat, and the price was set in a market where every other buyer could see the same rent roll and do the same arithmetic. If raising the rent were simply available, the price would already contain it. The times it does not contain it are real, and they have specific causes: the seller wanted a quiet exit, the seller had a relationship with the tenant, the seller did not have the money to do the repair that would justify the higher rent. Each of those is an answer. The point is that they are answers, and the buyer has to have one.

The honest response is not to drop those lines but to make the plan say what the new owner brings that makes each one possible now. Real answers exist and they are not exotic. Capital the sellers would not commit, because a private owner three years from a sale does not put money into a machine whose payback is five years. A customer the sellers could never reach, because the buyer already sells to that customer in another grade and can carry the new one in on an existing relationship. A decision the sellers could not take, because the business supported a household and stopping the loss-making grade meant stopping a relationship that household had held for twenty years. Each of those is a specific, checkable statement about what changed on the day the shares moved.

The assertion that the new owner is better at running things is not an answer. The assertion might be true. Being better at running things is not checkable and not specific, and the claim is the sentence that appears in the plan when nobody has done the work of finding the actual reason.

How is a plan tested before anybody spends money on it?

Three questions, asked of every line, before a rupee moves. The three questions take an afternoon, and they are the cheapest work anybody does on a transaction.

The first: name the person who will make this change. Not the workstream, not the function, not the committee. One person, with a name, who knows that this line is theirs. A line whose answer is procurement has no owner, because procurement is a department and departments do not make decisions, people inside them do. The test is brutally effective because it is answerable in seconds and the failures are obvious. If nobody in the room can produce a name, the line is an aspiration that somebody wrote down in the hope it would attach itself to somebody later.

The second: name what it costs to make this change. Almost every improvement costs something. Raising capacity used may need a second shift, and a second shift needs supervisors, a canteen arrangement and probably a maintenance window that does not currently exist. Collecting receivables faster may need two more people chasing, or a discount for early settlement that gives away part of the gain. Stopping a grade may need a settlement with a customer under contract. A plan line with a benefit and no cost against it is a half-finished calculation, and the missing half is always in the same direction.

The third: name what would show within a year that this change is not going to happen. Asking somebody to write down in advance what their own failure will look like is the hardest of the three. The question also does the most work, and it converts a promise into something observable. If the price rise is going to land, then by month six a stated number of customers should have been approached and a stated number should have accepted. If neither of those has happened, the line is not late; it is not happening, and the plan can be corrected while there is still time to do something else with the effort.

A plan that has survived those three questions is a materially different document from one that has never been asked them, and the two are told apart at a glance. The survivor is shorter. Lines drop out under the first question because nobody will own them, under the second because the cost eats the benefit, and under the third because nobody can say what failure would look like. The plan that remains is smaller, and it is real.

What does a plan look like when it is really a budget?

Sometimes a document arrives with the right title and is not the thing at all. The document is next year's budget with a wider date range, dressed in the language of a transaction. The tells are consistent, and all four of them are omissions rather than errors, so reading for them is more effective than checking the arithmetic.

Every line is a percentage improvement on an existing line. Margin improves by some amount, overheads improve by some amount, working capital days improve by some amount. Nothing in the document is a thing that will be done; everything is a number that will be better. A budget is built by taking the current year and adjusting it, and that is the shape of the document.

Nothing is being stopped. A search through the whole document turns up no line that removes anything. A plan that only improves has not made a decision anywhere, and stopping is the one lever a new owner can pull immediately and alone. Its complete absence shows that nobody made a choice; they made an adjustment.

The capital required appears nowhere. Improvements need money. The second shift, the two extra people chasing invoices, the settlement with the customer whose grade is being stopped. A document showing benefits with no capital beside them has, by construction, produced a return of infinity on nothing, and that is why the omission is so comfortable.

The plan reaches its total in the final year. Year one delivers a little, year two a bit more, and the number gets there in year five. The final-year total is the tell that matters most, and the reason has nothing to do with arithmetic. The reason is that a plan whose value all lands in year five has not been tested by anybody who will still be responsible in year five. The people writing it will have moved, and everybody in the room knows it while nobody says it.

Who reads a value creation plan, and what do they read it for?

A lender reads the plan for the capital line and the timing, not for the total. The Rs 1,000 crore of new borrowing that part-funded this purchase sits on a facility carrying a contracted 9.0 per cent, and what the lender wants to know is whether the plan consumes cash before it produces any, and for how long. A plan that promises Rs 89 crore of improvement while quietly requiring a second shift, two hires and a customer settlement in year one is a plan that gets worse before it gets better, and the lender is exposed to the trough rather than to the peak. So the lender reads the plan from the bottom upwards, looking for what has to be spent.

An analyst covering Harivansh Packaging will never be shown the plan and has to work from the outline it casts. Only what management chose to say ever leaves the building, and the informative half is usually the half left unsaid. Was a denominator ever named? Was a figure given for what the money committed has to earn, or only for what the earnings per share will do this year? A company that talks only about the Rs 8.67 crore question has told an attentive outsider something real about which question it is managing to, and it has done so without disclosing anything.

An investor in the buyer reads it as a question about alternatives. Rs 1,320 crore was committed to this business. The same money could have gone into the existing plant, into a different purchase, into reducing borrowings, or back to shareholders. None of those alternatives appears anywhere in a value creation plan, so the plan alone can never answer whether the purchase was worth making. The plan can only say what has to change for the question to become answerable at all.

And the buyer's own board reads it for the two things a board can actually decide. A board cannot renegotiate a supply contract or run a second shift. A board can insist that the denominator is fixed and stated before the plan is written, and it can insist that every line names a person. Both are decisions that take one meeting, and both change what every later meeting is about.

The household version is the same discipline at a smaller scale. A household buys a small shop and takes a loan to do it. The improvement plan is real: open earlier, drop the dead line, negotiate the wholesale rate. But the money that has to earn its keep is not the value of the stock on the shelves. The money that has to earn its keep is the price paid for the shop plus the loan taken to buy it, and the household will feel it every month in the repayment whether or not anybody ever wrote the ratio down. The denominator problem is not a corporate abstraction; it is the difference between a business that is doing better and a purchase that was worth making.

Harivansh Packaging Limited, Sundarban Polymers Private Limited, Devyani Kulkarni and Ashwin Rege are invented.
Educational material. Not advice on any investment, tax, budget or market position.