1. 1
Identifying Factors Affecting Return on Net Assets during Economic
Recession
Swapnil Desai & Dr. Shrinivas Gondhalekar
ABSTRACT
This research was conducted during a recessionary period on 70 discrete global
manufacturing companies to identify key factors that affect Return on Net Assets
(RONA), a critical parameter of financial performance. The research found that only
six key factors have a significant effect. They are: Customer Focus, New Product
Development, Focus on Technology, Focus on Quality, Operational Efficiency and
Rationalization of Manufacturing Facilities. The insights gained from this study can be
of value to organizations in an economic downturn situation.
Keywords: Economic recession, Key factors, Return on Net Assets, Fractional
Factorial Design, Corporate Performance in Recession
Introduction
As the economic system revolves around the trade cycle, recessions too are a part of the global economic
cycle. According to Navarro1
recessions are a fact for business life for every company. Recession is the
time when a country‟s economy slows down and the Gross Domestic Product (GDP) starts falling. Signs
like rising inflation, high unemployment and financial crisis have a negative impact on the businesses
which suffer substantial financial losses. Companies suffering financial losses go through a rough phase
during recession. An economic downturn usually leads to major industry upheaval, challenging the
established standards and best practices, and testing an organization‟s key strategies and processes. Some
companies manage to sustain through tough times and emerge stronger after implementing certain
strategies. Many others end up weaker or go out of business. Authors like McLean2
have propounded that
in the wake of a meltdown, earning to manage the business cycle strategically and recession proofing
one‟s organization has become critical topics for both managers and academicians.
Literature Review
Several suggestions have emerged from the independent empirical studies on the factors that influence
manager‟s decision in several industries to improve the performance of the company during recessionary
periods.
Bromiley and Sotile‟s3
research on product manufacturing companies emphasized the need of
introduction of new products, rationalization of production facilities and focus on operational efficiency
as important factors to focus on during the recession. Sharma4
and Mishra & Spreitzer5
highlighted the
importance of focusing on reducing debt and involving the employees by communicating the importance
and the role they were expected to play during tough times. Gunther, McGrath and MacMillan6
accentuated on restructuring business during uncertainty. The importance on focus on customer, quality
and brand management was highlighted by Piercy7
and Barwise8
. Ghemawat9
emphasized on investing in
key assets as one of the important factor companies need to focus on during the recessionary periods.

2. 2
Weston. J and Weaver10
advised to lay emphasis on Acquisitions. Dugal11
has recommended focusing on
R&D activities and increasing investments in research during recession.
While the above mentioned factors are important, the literature survey further indicated that companies
also focused on shared services, strategic partnership and other factors during the slowdown period to
improve their business performance.
According to Hansen and Wernerfelt12
there are two major streams of research on the determinants of
company‟s performance in the business policy literature. One stream of research is primarily on an
economic tradition, emphasizing the importance of external market parameters in determining company‟s
success. The other line of research builds on the behavioral and sociological paradigm and sees
organizational parameters as a fit with the environment as the major determinants of success. Financial
parameters thus are an integral part of the economic tradition. According to Hagel III and Brown13
most
analysts, investors and executives focus on the financial ratios as their primary measure of company
performance as financial parameters get the most attention from the investor community.
Elion14
emphasized, though there are many ratios to choose from, managers and analysts tend to
concentrate on a relatively small number of criteria, since a plethora of parameters can be often confusing.
Three prominent financial performance ratios found in the literature, and recommended by many
management consultants concerned with the field of corporate strategy, are: (1) ROCE (return on capital
employed),(2) Net profit margin (ratio of net profit to revenue),(3) Return on Net Assets (ratio of net
income to net assets). Improving all the three ratios is regarded as a highly desirable objective, and it is
generally assumed that these parameters move in unison for any given company.
No single metric is perfect and different metrics are appropriate depending on the circumstances. Return
on Net Assets is considered as a better metric of financial performance than income statement
profitability parameters like return on sales and return on capital employed because it explicitly takes into
account the assets used to support business activities as highlighted by Hagel III and Brown13
. Return on
Net Assets determines whether the company is able to generate an adequate return on these assets rather
than simply showing robust return on sales. Asset heavy companies need a higher level of net income to
support the businesses relative to asset light companies where even thin margins can generate a very
healthy return on assets.
The Research Design
The research vehicle was primarily, the financial data for the top 100 global discrete manufacturing
companies listed in the Bloomberg‟s Financial Database. Seventy companies were selected at random.
The period of study selected was the downturn period 2001-2002 because unlike the more recent 2008
situation, the previous downturn was of longer duration and all segments within discrete manufacturing
sector were affected. Hence, the data was expected to have better validity.
The research hypothesis formulated was as follows:
H0 : All the factors have equal influence on the Return on Net Assets
Ha : Some factors have a significant influence on the Return on Net Assets

3. 3
The hypothesis was tested based on the principles of Design of Experiments (DOE). From the literature
review 15 factors were selected. The factors were analyzed through the „Design of Experiments‟ as
mentioned in Designing for Quality by Lochner and Matar15
. The research design selected was a L16
experimental design which enabled investigation of how different factors affect the mean of the response
variable (RONA).
The effects of 15 factors, each varied at two levels were analyzed using a L16 run fractional factorial
design. A full factorial design would have required an impractical 215
(32,768) data points to be obtained.
Hence, a fractional factorial design of Resolution III was chosen where none of the main effects are
aliased with each other, though the main effects are aliased with two level interaction effects. The levels
of the variables were determined from the annual reports and analyst reports of the companies. Data
obtained from 70 companies was fitted into the L16 experimental design by taking average of 4 to 5
companies in each trial. This would prevent possible distortion arising from extreme values.
Analysis and Interpretation of Results
The fifteen factors selected from the literature review and understanding of the subject are as follows:
The data is presented in Table 1. The table has been constructed with shaded portions to facilitate easy
computation of the main effects. The average value of RONA for the companies falling into the category
represented by each row was entered in the column titled RONA. The value of RONA was then copied
across the row. The main effects were calculated at the bottom of the table. A detailed explanation of the
construction of this table is available in Lochner and Matar 15, p110.
1. New Product Development (NPD) A
2. Focus on Technology (IT) B
3. Debt Management C
4. Employee Involvement D
5. R&D Spend E
6. Customer Focus F
7. Brand Management G
8. Restructuring H
9. Focus on Quality I
10. Rationalization of Manufacturing Facilities J
11. Shared Services K
12. Outsourcing L
13. Operational Efficiency M
14. Acquisition N
15. Strategic Partnership O

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Table1.0MainEffectsTable

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The next step was to check whether the main effects are real or could they have been due to random
chance. This was done by adopting two approaches. In the first approach, the main effects were plotted on
a normal probability paper as shown in Figure 1.
Figure 1: Probability Plot of Effects
All the effects lying on the straight line, which represented the normal probability curve were discarded as
they could have indeed been a reason from chance variation. Those effects which were away from the line
were accepted as being more likely to be real effects. This yielded six factors which could be considered
as having real effects. The six factors in the descending order of magnitude were as follows:
 factor A (New Product Development)
 factor B( Focus on Technology)
 factor F (Customer Focus)
 factor I (Focus on Quality)
 factor M (Operational Efficiency)
 factor J (Rationalization of Manufacturing Facilities)
The well known tool of Analysis of Variance (ANOVA) was deployed as a second approach to check
whether these real effects were significant. The level of significance chosen was 5%; it implied that the
probability of committing Type I error (rejecting true null hypothesis) is 5% or less. The ANOVA is
presented in Table 2. Only those factors were accepted as significant, which had values of F calculated
higher than F from the F distribution table for (1.55) degrees of freedom, which were applicable in this
case.

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Table 2: The ANOVA table for Effects
It was found that all the six factors which demonstrated as having real effects on the normal probability
plot, were also significant at 5% level, thereby confirming that only six factors need be considered. Thus,
the null hypothesis was safely rejected with the probability of Type I error maintained under 5%.
Conclusion
 Customer Focus, Focus on Technology, Focus on Quality, New Product Development and Operational
Efficiency are key factors that firms need to focus upon to improve the Return on Net Assets during
economic recession.
 Other factors had no appreciable effect on average response values, normal probability plot and
ANOVA, so we could conclude at this point that focusing on them will lead to marginal or no increase
in Return on Net Assets.
 The research could be useful because companies can optimize the utilization of resources by focusing
on key factors and come out of the downturn with Return on Net Assets as the key financial indicator.
This research framework can also be used for identifying factors which have a significant effect on other
performance parameters.
Factor Effect Estimate
E
Sum of Squares
SS
Df F
calculated
Significant
Yes/No
New Product Development
28.54 814.72 1 207.3
YES
Focus on Technology
16.19 262.27 1 66.7
YES
Customer Focus
112 121.45 1 30.9
YES
Quality Focus
7.19 51.71 1 13.2
YES
Operational Efficiency
5.60 31.1 1 7.1
YES
Employee Involvement
5.50 30.1 1 7.1
YES
Strategic Partnership
3.80 14.44 1 3.7
NO
Debt Management
1.20 1.44 1 0.4
NO
Shared Services
-1.20 1.44 1 0.4
NO
R&D Spend
-1.57 2.46 1 0.6
NO
Brand Management
-2.42 5.85 1 1.5
NO
Restructuring
-4.58 20.98 1 5.3
YES
Outsourcing
-5.50 30.1 1 7.1
YES
Acquisition
-10.25 105.06 1 26.7
YES
Rationalization of
manufacturing facilities
-12.47 155.50 1 39.6
YES
Error
3.93 55

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References:
1
P.Navarro (2009), “ Recession Proofing your Organization,” MIT Sloan Management Review, May 23 ,p 4551
2
Jacqueline McLean, “Does a recession present opportunities?”, Manager, British Journal of Administrative
Management ,Winter 2009,p 32-34
3
P. Bromiley, P.Navarro and P. Sotile, “Strategic Business Cycle Management and Organizational Performance: A
Great Unexplored Research Stream,”
4
Priyanka Sharma*, Jisha Sharma, Ravi Shukla, Nidhi Verma, Priti Shukla (2010), “ HRM Innovation Strategies in
Recession: A New Paradigm”, International Journal of Economics and Business Modeling, ISSN:0976–531X , Vol.
1, Issue 1, 2010, pp-29-36
5
A.Mishra,K.Mishra and Gretchen Spreitzer (2009), “Downsizing the company without downsizing the Morale”,MIT
Sloan Management Review,Spring 2009,pp. 39-44
6
Rita Gunther, McGrath and Ian MacMillan (2009), “How to Rethink Your Busines During Uncertainty,” MIT Sloan
Management Review,April 20,pp.2530
7
Nigel Piercy, David Cravens, Nikala Lane (2010), “Marketing out of recession:recovery is coming but things will
never be the same again”, The Marketing Review,2010,Vol.10,No.1,pp3-23,Western Publishers Ltd.
8
Barwise (1999), “Advertising In A Recession‟, NTC Publications .
9
Pankaj Ghemawat (2009), “The Risk of Not Investing in a Recession”, MIT Sloan Management Review, April
01,pp31-41
10
Weston, J. and S. Weaver (2001). Mergers and acquisitions, McGraw-Hill Executive MBA Series, McGraw-Hill
11
Dugal, Sanjiv S and Morbey Graham K (1995), “Revisiting Corporate R&D Spending During a Recession”,
Research Technology Management, Vols. July-August, pp. 23-27.
12
Gary Hansen and Birger Wernerfelt (1989), “Determinants of Firm Performance :The Relative Importance of
Economic and Organizational Factors”,Strategic Management Journal ,Vol 10 ,pp 399-411
13
John Hagel III and John Seely Brown (2010), “The Big Shift:Why it Matters”, Harvard Business Review, March
2010
14
Samuel Elion (1992), “Key ratios for corporate performance”,Omega ,Volume 20,Issue 3,May,pp 337-343
15
Robert H. Lochner and Joseph E Matar, Designing for Quality, Chapman and HALL publication, pp 77-111,127-
132,134-139,181-190
About the authors:
Swapnil Desai is a Ph.D student at Prin.L.N.Welingkar Institute of Management Development and
Research, Mumbai and a management consultant specializing in the field of manufacturing in a
global management consulting firm.
E-mail: swapnildesai19@gmail.com
Dr. Shrinivas Gondhalekar is Dean (Operations) and Professor in charge of Family Managed
Business at Prin.L.N.Welingkar Institute of Management Development and Research, Mumbai. He
is also an eminent global consultant in the field of Operations Management.
E-mail:kaizentpm_2000@yahoo.com