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PPM 5-3

Question 01 (Pies and tarts)
Question 02 (Mandarin Co)
Question 03 (Connect Co)
Question 04 (Toolbox)
Question 05 (Spiral)
Question 06 (Ribbon Co)
Question 07 (LES Co)
Question 08 (Qruise University)
Question 09 (Sirface Ltd)
Question 10 (Cint Co)
Question 11 (Choice Co)
Question 12 (Novel Co)
Question 13 (Car Co)
Question 14 (Red Co)
Question 15 (Metal Co)
Question 16 (Public Sector organisation)
Question 17 (Betty Group)
Question 18 (Manjari Co)
Question 19 (BSL Co)
Question 20 (Division K)
Question 21 (City Bank)
Question 22 (ABC)
Question 23 (SCE Co)
Question 24 (Netwing)
Question 25 (METCO)
Question 01 (Pies and tarts)

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1 / 5

1. PIES AND TARTS

The Pies division (Division A) and the Tarts division (Division B) are two divisions of a large, manufacturing company. While both divisions operate in almost identical markets, each division operates separately as an investment centre. Each month, operating statements must be prepared by each division, and these are used as a basis for performance measurement for the divisions.

Last month, senior management decided to recharge head office costs to the divisions. Consequently, each division is now going to be required to deduct a share of head office costs in its operating statement before arriving at ‘net profit’, which is then used to calculate return on investment (ROI). Prior to this, ROI has been calculated using controllable profit only. The company’s target ROI, however, remains unchanged at 20% per annum. For each of the last three months, Divisions A and B have maintained ROIs of 22% per annum and 23% per annum respectively, resulting in healthy bonuses being awarded to staff. The company has a cost of capital of 10%.

The budgeted operating statement for the month of July is shown below:

  A B
  $’000 $’000
Sales revenue 1,300 1,500
Less variable costs (700) (800)
Contribution 600 700
Less controllable fixed costs (134) (228)
Controllable profit 466 472
Less apportionment of head office costs (155) (180)
Net profit 311 292
Divisional net assets $23.2m $22.6m

 Required:

A. Calculate the expected annualised return on investment (ROI) using the new method as preferred by senior management, based on the above budgeted operating statements, for each of the divisions.

2 / 5

The divisional managing directors are unhappy about the results produced by your calculations in (a) and have heard that a performance measure called ‘residual income’ may provide more information.

B. Calculate the annualised residual income (RI) for each of the divisions, based on the net profit figures for the month of July.

  1. Annualised residual income (RI)
  Division A Division B
  $’000 $’000
Net profit (part (a)) 3,732 3,504
Less: imputed interest charge:    
$23.2m × 10% (2,320) nil
$22.6m × 10% nil (2,260)
  1,412 1,244

3 / 5

C. Discuss the expected performance of each of the two divisions, using both ROI and RI, and making any additional calculations deemed necessary. Conclude as to whether, in your opinion, the two divisions have performed well.

4 / 5

Division A has now been offered an immediate opportunity to invest in new machinery at a cost of $2.12 million. The machinery is expected to have a useful economic life of four years, after which it could be sold for $200,000. Division A’s policy is to depreciate all of its machinery on a straight-line basis over the life of the asset. The machinery would be expected to expand Division A’s production capacity, resulting in an 8.5% increase in contribution per month.

D. Recalculate Division A’s expected annualised ROI and annualised RI, based on July’s budgeted operating statement after adjusting for the investment. State whether the managing director will be making a decision that is in the best interests of the company as a whole if ROI is used as the basis of the decision.

  1. Division A’s revised annualised net profit and opening net assets after investment

Depreciation = ($2,120,000 – $200,000) / 48 months = $40,000 per month

Net profit for July = $311,000 + ($600,000 × 8.5%) – $40,000 = $322,000

Annualised net profit = $322,000 × 12 = $3,864,000

Opening net assets after investment = $23,200,000 + $2,120,000 = $25,320,000

 

Division A ROI

ROI = (Net profit / Net assets) × 100%

= $3,864,000 / $25,320,000 × 100% = 15.26%

Division A will not proceed with the investment as it will cause a decrease in ROI.

Division A RI

  $’000
Net profit 3,864
Less: imputed interest charge:  
$25.32m × 10% (2,532)
Residual income 1,332

 

Based on the above calculation, it is clear that RI is lower with the investment. This would suggest that the company should not proceed with the investment and shows that the use of ROI as a performance measure is likely to result in the manager of Division A making a decision that is in the best interests of the company as a whole.

5 / 5

E. Explain any behavioural problems that will result if the company’s senior management insist on using solely ROI, based on net profit rather than controllable profit, to assess divisional performance and reward staff.

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Question 02 (Mandarin Co)

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2. MANDARIN CO

Mandarin Co operates a chain of 30 hotels across the country of Eastland. It prides itself on the comfort of the rooms in its hotels and the quality of service it offers to guests.

The majority of Mandarin Co’s hotels are located in major cities and have previously been successful in attracting business customers. In recent years, however, the number of business customers has started to decline as a result of tough economic conditions in Eastland.

Mandarin Co’s policy is to set standard prices for the rooms in each of its hotels, with that price reflecting the hotel’s location and taking account of competitors’ prices. However, hotel managers have the authority to offer discounts to regular customers, and to reduce prices when occupancy rates in their hotel are expected to be low. The average standard price per night, across all the hotels, was $140 in 20X7, compared to $135 in 20X6. In addition to room bookings, the hotels also generate revenue from the additional services available to customers, such as restaurants and bars.

Summary from Mandarin Co’s management accounts:

  Year ended 30 June 20X7 Year ended 30 June 20X6
  $000 $000
Revenue – Rooms at standard price per night 111,890 104,976
Room discounts or rate reductions given (16,783) (11,540)
Other revenue: food, drink 24,270 23,185
Total revenue 119,377 116,621
Operating costs (95,462) (92,379)
Operating profit 23,915 24,242

 

Other performance information:

  Year ended 30 June 20X7 Year ended 30 June 20X6
  $000 $000
Capital employed (Note 1) $39.5m $39.1m
Average occupancy rates (Note 2) 74% 72%
Average customer satisfaction score (Note 3) 4.2 4.5

Note 1: Capital employed is calculated using the depreciated cost of non-current assets at all Mandarin Co’s hotels.

Note 2: Occupancy rates for the year ended 30 June 20X7 were budgeted to be 72%.

Note 3: Customer satisfaction scores are graded on a scale of 1–5 where ‘5’ represents ‘Excellent’. On average, in any given town in Eastland, the top 10% of hotels earn a score of 4.5 or above and the top 25% of hotels earn a score of 4.2 or above.

 

Two themes are becoming increasingly frequent in the comments Mandarin Co’s customers make alongside the scores:

  • Repeat customers have said that the standard of service in recent visits has not been as good as in previous visits.
  • The rooms need redecorating, and the fixtures and fittings need replacing. For example, the beds need new mattresses to improve the level of comfort they provide. Mandarin Co had planned a two-year refurbishment programme beginning in 20X7 of all the rooms in each hotel. However, this programme has been put on hold, due to the current economic conditions, and in order to reduce expenditure.

Required:

Using the information provided, discuss Mandarin Co’s financial and non-financial performance for the year ended 30 June 20X7.

Note: There are 5 marks available for calculations and 15 marks available for discussion.

  1. MANDARIN CO
Top tips

At first glance, you may not know where to begin with this question! Look carefully at the scenario and decide on some headings for your answer – for example, revenue, discounts, operating profit. You’ll need to perform some calculations (worth five marks) and then you’ll have something to talk about.

Be sure to explain what your calculations mean for Mandarin Co specifically, to add depth to your answer. Do not forget to comment on non-financial performance indicators.

Easy marks

There are easy marks available throughout this question.

 

Performance for year ended 30 June 20X7

Gross room revenue – Mandarin Co’s ‘gross’ room revenue based on standard room rates has increased by 6.6% in 20X7, which reflects the higher occupancy rates (74% v 72%) and the increase in standard room rates ($140 v $135 per night).

However, this gives a rather misleading impression of how well the hotels have performed in the year to 20X7.

Revenue after discounts – Revenue from room sales, adjusted for discounts or rate reductions offered, has actually only increased 1.8%, and that reflects the significant 45% increase in discounts or reductions offered:

                                                                                           20X7                   20X6                   % change

                                                                                           $000                   $000

Standard revenue                                                        111,890             104,976                      6.6%

Discounts/reductions                                                   16,783               11,540                      45.4%

Room revenue net of discounts                                 95,107               95,107                       1.8%

 

Faced with the declining number of business customers, and consequently the prospect of lower occupancy rates, managers may have decided to offer lower room rates to try to retain as many of their existing business customers as possible, or to try to attract additional leisure customers.

Although occupancy rates increased by 2.8% (from 72% to 74% which now exceeds the budgeted level), revenue, net of discounts, only increased by 1.8%. This means that revenue per room per night after discounts in 20X7 was lower than in 20X6, despite the standard rate being higher ($140 v $135).

In the context of tough market conditions, the decision to increase the standard room rate for 20X7 appears rather optimistic. Although the hotel managers have managed to achieve occupancy rates higher than budget, they have only managed to do so by reducing room rates.

Additional revenue – One of the potential benefits of increased occupancy rates, even if guests are paying less per room per night, is that they will generate additional revenue from food and drink sales. This appears to be the case because additional revenues have increased by approximately 5%.

Total revenue – In total, revenue (net of discounts) has increased 2.4% in 20X7 v 20X6. Given the tough competitive environment, Mandarin Co could view any increase in revenues as positive. Moreover, provided the revenue achieved from selling the room is greater than the variable cost of providing it, then increasing occupancy levels should increase the hotels’ contribution to profit.

Operating profit – However, despite the increase in revenue, operating profits have fallen by $0.3m (1.3%) between 20X7 and 20X6, due to a sizeable increase in operating costs. There is no detail about Mandarin Co’s operating costs, for example, the split between fixed and variable costs. However, in an increasingly competitive market, cost control is likely to be very important. As such, the $3 million (3.3%) increase in operating costs between 20X6 and 20X7 is potentially a cause for concern, and the reasons for the increase should be investigated further. However, when looking to reduce costs, it will be very important to do so in a way which does not compromise customer satisfaction. More generally, Mandarin Co needs to avoid cutting expenditure in areas which will have a detrimental impact on customer satisfaction ratings, for example, not replacing mattresses even though they are becoming uncomfortable to sleep on.

Operating profit margin – The increase in costs has also led to a fall in operating profit margin from 20.8% to 20.0%. It is perhaps more instructive to look at the margin based on standard room rates per night, thereby reflecting the impact of the discounts offered as well as the increase in costs. On this basis, the margin falls slightly more: from 18.9% to 17.6%.

  20X7 20X6
  $000 $000
Total revenue 119,377 116,621
Discounts offered 16,783 11,430
Gross revenue 136,160 128,051
Operating profit 23,915 4,242
Operating profit margin 17.6% 18.9%

 

ROCE – This reduced profitability is also reflected in the company’s return on capital employed which has fallen slightly from 62% ($24.2m/$39.1m) to 60.5% ($23.9m/$39.5m). This suggests that the value which Mandarin Co is generating from its assets is falling. The decline in ROCE could be a particular concern given the relative lack of capital investment in the hotels recently. Capital investment will increase the cost of Mandarin Co’s non-current assets, thereby reducing ROCE for any given level of profit.

Customer satisfaction scores

Although the reduction in profitability should be a concern for Mandarin Co, the reduction in customer satisfaction scores should potentially be seen as a greater cause for concern. The scores suggest that, in the space of one year, Mandarin Co hotels have gone from being in the top 10% of hotels to only just being in the top 25%. This is a significant decline in one year, and one which Mandarin Co cannot afford to continue.

Mandarin Co prides itself on the comfort of its rooms and the level of service it offers its guests. Both of these factors are likely to be important considerations for people when considering whether or not to stay in a Mandarin Co hotel. Therefore, falling customer satisfactions levels could be seen as an indication that fewer existing customers will stay at a Mandarin Co hotel in future – thereby threatening occupancy rates, and prices, in future.

Moreover, the scores suggest that the decision to defer the refurbishment programme is likely to have a detrimental impact on future performance.

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Question 03 (Connect Co)

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3. CONNECT

Connect is a local charity dedicated to helping homeless people in a large city. The charity owns and manages a shelter that provides free overnight accommodation for up to 30 people, offers free meals each and every night of the year to homeless people who are unable to buy food, and runs a free advice centre to help homeless people find suitable housing and gain financial aid. Connect depends entirely on public donations to finance its activities and had a fundraising target for the last year of $700,000. The budget for the last year was based on the following forecast activity levels and expected costs.

Free meals provision:                                             18,250 meals at $5 per meal

Overnight shelter:                                                   10,000 bed-nights at $30 per night

Advice centre:                                                          3,000 sessions at $20 per session

Campaigning and advertising:                               $150,000

The budgeted surplus (budgeted fundraising target less budgeted costs) was expected to be used to meet any unexpected costs. Included in the above figures are fixed costs of $5 per night for providing shelter and $5 per advice session representing fixed costs expected to be incurred by administration and maintaining the shelter. The number of free meals provided and the number of beds occupied each night depends on both the weather and the season of the year. Connect has three full-time staff and a large number of voluntary helpers.

The actual costs for the last year were as follows:

Free meals provision:                                       20,000 meals at a variable cost of $104,000

Overnight shelter:                                             8,760 bed-nights at a variable cost of $223,380

Advice centre:                                                    3,500 sessions at a variable cost of $61,600

Campaigning and advertising:                        $165,000

The actual costs of the overnight shelter and the advice centre exclude the fixed costs of administration and maintenance, which were $83,000.

The actual amount of funds raised in the last year was $620,000.

Required:

A. Prepare an operating statement, reconciling budgeted surplus and actual shortfall and discuss the charity’s performance over the last year.

Discussion of performance of Connect

In a year which saw fundraising fall $80,000 short of the target level, costs were over budget in all areas of activity except overnight shelter provision. The budget provided for a surplus of $98,750, but the actual figures for the year show a shortfall of $16,980.

Free meals provision cost $12,750 (14%) more than budgeted. Most of the variance (69%) was due to providing 1,750 more meals than budgeted, although $4,000 of it was due to an increase of 20p in the average cost per meal.

Variable cost of overnight shelter provision was $26,620 (11%) less than budgeted. $31,000 was saved because usage of the service was 1,240 bed-nights below budget, but an adverse variance of $4,380 arose because of an increase of 50p in the average unit cost of provision.

Variable advice centre costs were $16,600 (37%) above budget. This was due to increased usage of the service, which was 17% up on budget from 3,000 to 3,500 sessions, and to an increase in the average cost of provision, which rose by 17% from $15 to $17.60 per session.

Fixed costs of administration and centre maintenance were $18,000 (28%) above budget and the costs of campaigning and advertising were $15,000 (10%) above budget.

While investigation of some of the variances in the reconciliation statement below may be useful in controlling further cost increases, Connect appears to have more than achieved its objectives in terms of providing free meals and advice. The lower usage of overnight shelter could lead to transfer of resources from this area in the next budget to the services that are more in demand. The reasons for the lower usage of overnight shelter are not known, but the relationship between the provision of effective advice and the usage of overnight shelter could be investigated.

Operating statement

  $ $ $
Budgeted surplus (W1)     98,750
Funding shortfall (W3)     (80,000)
      18,750
  Favourable Adverse  
Free meals (W4)      
        Price variance   4,000  
        Usage variance   8,750  
Overnight shelter (W5)      
        Price variance   4,380  
        Usage variance 31,000    
Advice centre (W6)      
        Price variance   9,100  
        Usage variance   7,500  
Campaigning and advertising (W7)      
Expenditure variance   15,000  
Fixed cost (W8)      
       Expenditure variance   18,000  
  31,000 66,730 (35,730)
Actual shortfall (W2)     (16,980)

 Workings

(W1) Budgeted figures

  $  
Free meals provision 91,250 (18,250 meals at $5 per meal)
Overnight shelter (variable) 250,000 (10,000 bed-nights at $30 – $5 per night)
Advice centre (variable) 45,000 (3,000 sessions at $20 – $5 per session)
Fixed costs 65,000 (10,000 × $5) + (3,000 × $5)
Campaigning and advertising 150,000  
  601,250  
Surplus for unexpected costs 98,750  
Fundraising target 700,000  

 (W2) Actual figures

  $  
Free meals provision 104,000 (20,000 meals at $5.20 per meal)
Overnight shelter 223,380 (8,760 bed-nights $25.50 per night)
Advice centre 61,600 (3,500 sessions at $17.60 per session)
Fixed costs 83,000  
Campaigning and advertising 165,000  
  636,980  
Shortfall 16,980  
Funds raised 620,000  

 (W3) Funding shortfall – 700,000 – 620,000 = $80,000 (A)

(W4) Free meals price variance = (5.00 – 5.20) × 20,000 = $4,000 (A)

Free meals usage variance = (18,250 – 20,000) × 5.00 = $8,750 (A)

(W5) Overnight shelter price variance = (25.00 – 25.50) × 8,760 = $4,380 (A)

Overnight shelter usage variance – (10,000 – 8,760) × 25 = $31,000 (F)

(W6) Advice centre price variance = (17.60 – 15.00) × 3,500 = $9,100 (A)

Advice centre usage variance = (3,000 – 3,500) × 15.00 = $7,500 (A)

(W7) Campaigning and advertising expenditure variance = 150,000 – 165,000 =

$15,000 (A)

(W8) Fixed cost expenditure variance = 65,000 – 83,000 = $18,000 (A)

2 / 2

B. Discuss problems that may arise in the financial management and control of a not-for-profit organisation such as Connect.

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Question 04 (Toolbox)

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4. TOOLBOX

Toolbox is a large garden equipment supplier with retail stores throughout Berlin. Many of the products it sells are bought in from outside suppliers, but some are currently manufactured by Toolbox’s own manufacturing division ‘Hammer’.

The prices (a transfer price) that Hammer charges to the retail stores are set by head office and have been the subject of some discussion. The current policy is for Hammer to calculate the total variable cost of production and delivery and add 30% for profit. Hammer argues that all costs should be taken into consideration, offering to reduce the mark-up on costs to 10% in this case. The retail stores are unhappy with the current pricing policy arguing that it results in prices that are often higher than comparable products available on the market.

Hammer has provided the following information to enable a price comparison to be made of the two possible pricing policies for one of its products.

Garden shears

Steel: the shears have 0.4 kg of high quality steel in the final product. The manufacturing process loses 5% of all steel put in. Steel costs $4,000 per tonne (1 tonne = 1,000 kg).

Other materials: other materials are bought in and have a list price of $3 per kg although Toolbox secures a 10% volume discount on all purchases. The shears require 0.1 kg of these materials.

The labour time to produce shears is 0.25 hours per unit and labour costs $10 per hour.

Variable overheads are absorbed at the rate of 150% of labour rates and fixed overheads are 80% of the variable overheads.

Delivery is made by an outsourced distributor that charges Hammer $0.50 per garden shear for delivery.

Required:

A. Calculate the price that Hammer would charge for the garden shears under the existing policy of variable cost plus 30%.

2 / 4

B. Calculate the increase or decrease in price if the pricing policy switched to total cost plus 10%.

3 / 4

C. Discuss whether or not including fixed costs in a transfer price is a sensible policy.

4 / 4

D. Discuss whether the retail stores should be allowed to buy in from outside suppliers if the prices are cheaper than those charged by Hammer.

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Question 05 (Spiral)

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5. SPIRAL

Spiral has a network of sports clubs which are managed by local managers reporting to the main board. The local managers have a lot of autonomy and are able to vary employment contracts with staff and offer discounts for membership fees and personal training sessions. They also control their own maintenance budget, but do not have control over large amounts of capital expenditure.

A local manager’s performance and bonus is assessed relative to three targets. For every one of these three targets that is reached in an individual quarter, $400 is added to the manager’s bonus, which is paid at the end of the year. The maximum bonus per year is therefore based on 12 targets (three targets in each of the four quarters of the year). Accordingly, the maximum bonus that could be earned is 12 ´ $400 = $4,800, which represents 40% of the basic salary of a local manager. Spiral has a 31 March year end.

The performance data for one of the sports clubs for the last four quarters is as follows.

  Qtr to 30 June

20X9

Qtr to 30 September

20X9

Qtr to 31 December

20X9

Qtr to 31 March

20Y0

Number of members 3,000 3,200 3,300 3,400
Member visits 20,000 24,000 26,000 24,000
Personal training sessions booked 310 325 310 339
Staff days 450 480 470 480
Staff lateness days 20 28 28 20
Days in quarter 90 90 90 90

 Agreed targets are:

  • Staff must be on time over 95% of the time (no penalty is made when staff are absent from work).
  • On average 60% of members must use the clubs’ facilities regularly, by visiting at least 12 times per quarter.
  • On average 10% of members must book a personal training session each quarter.

Required:

A. Calculate the amount of bonus that the manager should expect to be paid for the latest financial year.

Bonus calculation

  Qtr to 30 June 20X9 Qtr to 30 September 20X9 Qtr to 31 December 20X9 Qtr to 31 March

20Y0

Bonus hits
Staff on time?

On-time %

95.5% (430/450) 94.2% (452/480) 94.0% (442/470) 95.8% (460/480)  
Bonus earned? Yes No No Yes 2
Member visits Target visits 21,600

(60% ´ 3,000 ´ 12)

23,040

(60% ´ 3,200 ´12)

23,760

(60% ´ 3,300 ´ 12)

24,480

(60% ´ 3,400 ´ 12)

 
Actual visits 20,000 24,000 26,000 24,000  
Bonus earned? No Yes Yes No 2
Personal training

Target visits

300

(10% ´ 3,000)

320

(10% ´ 3,200)

330

(10% ´ 3,300)

340

(10% ´ 3,400)

 
Actual visits 310 325 310 339  
Bonus earned? Yes Yes No No 2

 

Total number of bonus hits from table above = 6

The bonus earned by the manager is 6 ´ $400 = $2,400. This represents 50% of the total bonus available.

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B. Discuss to what extent the targets set are controllable by the local manager (you are required to make a case for both sides of the argument).

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C. Describe two methods as to how a manager with access to the accounting and other records could unethically manipulate the situation so as to gain a greater bonus.

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Question 06 (Ribbon Co)

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6. RIBBON CO

A manufacturing company, Ribbon Co, has two divisions: Division P and Division Q. Both divisions make a single standardised product. Division P makes component P, which is supplied to both Division Q and external customers. Division Q makes product Q using one unit of component P and other materials. It then sells the completed product Q to external customers. To date, Division Q has always bought component P from Division P.

The following information is available:

  Component P Product Q
  $ $
Selling price 40 96
Direct materials:    
Component P   (40)
Other (12) (17)
Direct labour (6) (9)
Variable overheads (2) (3)
Selling and distribution costs (4) (1)
Contribution per unit before fixed costs 16 26
Annual fixed costs $500,000 $200,000
Annual external demand (units) 160,000 120,000
Capacity of plant 300,000 130,000

 Division P charges the same price for component P to both Division Q and external customers. However, it does not incur the selling and distribution costs when transferring internally.

Division Q has just been approached by a new supplier who has offered to supply it with component P for $37 per unit. Prior to this offer, the cheapest price which Division Q could have bought component P for from outside the group was $42 per unit.

It is head office policy to let the divisions operate autonomously without interference at all.

Required:

A. Calculate the incremental profit/(loss) per component for the group if Division Q accepts the new supplier’s offer and recommend how many components Division P should sell to Division Q if group profits are to be maximised.

2 / 4

B. Using the quantities calculated in (a) and the current transfer price, calculate the total annual profits of each division and the group as a whole.

3 / 4

C. Discuss the problems which will arise if the transfer price remains unchanged and advise the divisions on a suitable alternative transfer price for component P.

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D. Discuss the advantages of allowing divisions to operate autonomously.

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Question 07 (LES Co)

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7. LES CO

Les Co is a new business, selling high quality imported men’s ties through the internet. The managers, who also own the company, are young and inexperienced but they are prepared to take risks. They are confident that importing quality ties and selling through a website will be successful and that the business will grow quickly. This is despite the well-recognized fact that selling clothing is a very competitive business.

They were prepared for a loss-making start and decided to pay themselves modest salaries (included in administration expenses in Table 1 below) and pay no dividends for the foreseeable future.

The owners are so convinced that growth will quickly follow that they have invested enough money in website server development to ensure that the server can handle the very high levels of predicted growth. All website development costs were written off as incurred in the internal management accounts that are shown below in Table 1.

Significant expenditure on marketing was incurred in the first two quarters, to launch both the website and new products. It is not expected that marketing expenditure will continue to be as high in the future.

Customers can buy a variety of styles, patterns and colours of ties at different prices.

The business’s trading results for the first two quarters of trade are shown below in Table 1.

Table 1

  Quarter 1 Quarter 2
  $ $ $ $
Sales   420,000   680,000
Less cost of sales   (201,600)   (340,680)
Gross profit   218,400   339,320
Less expenses        
Website development 120,000   90,000  
Administration 100,500   150,640  
Distribution 20,763   33,320  
Launch marketing 60,000   40,800  
Other variable expenses 50,000   80,000  
Total expenses   (351,263)   (394,760)
Loss for quarter   (132,863)   (55,440)

 Required:

A. Assess the financial performance of the business during its first two quarters, using only the data in Table 1 above.

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B. Briefly consider whether the losses made by the business in the first two quarters are a true reflection of the current and likely future performance of the business.

3 / 3

The owners are well aware of the importance of non-financial indicators of success and therefore have identified a small number of measures to focus on. These are measured monthly and then combined to produce a quarterly management report.

The data for the first two quarters’ management reports is shown below:

Table 2

  Quarter 1 Quarter 2
Number of ties sold 27,631 38,857
On-time delivery 95% 89%
Sales returns 12% 18%
System downtime 2% 4%

The industry average for sales returns was 13%.

C. Comment on each of the non-financial data in Table 2 above, taking into account, where appropriate, the industry averages provided, providing your assessment of the performance of the business.

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Question 08 (Qruise University)

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8. QRUISE UNIVERSITY

Qruise University is one of the largest and most popular universities in the country of Richford. It had 27,000 registered students in 20X6, whereas in 20X5, the number of registered students was only 24,000. Qruise University managed to increase its student numbers in 20X6 by making the entry requirements for students slightly lower than in previous years. All courses at the university last for three years.

Qruise University has five strategic aims:

  • To provide education which promotes intellectual initiative and produces confident and ambitious graduates who have reached the highest academic standards to prepare them for success in life and the workplace.
  • To provide an organised, efficient learning environment with access to cutting edge technology and facilities.
  • To be a leader in sustainable business practices which protect the environment and support local people.
  • To provide attractive, innovative conference and event facilities, attracting clients both nationally and internationally.
  • To be recognized both nationally and internationally for the scope and relevance of their research.

Extracts from the university’s income statement for the last two years are as follows:

  20X6

$ million

20X5

$ million

Income    
Tuition fees 148.0 135.6
Research grants 3.5 4.5
Conferences and other events 18.0 16.0
Total income 169.5 156.1
     
Expenditure    
Academic staff costs 80.8 76.2
Administration staff costs 50.4 48
Premises, facilities and technology costs 7.6 8.4
Event and conference costs 8.3 8.0
Research grants 3.1 4.0
Sustainability and community assistance 1.2 2.4
Total expenditure 151.4 147.0
     
Surplus 18.1 9.1

 Every year, final year students complete an external survey run by the National Organisation for Students. In this, they have to agree or disagree with statements made.

Extracts from this for the last two years are shown below (the percentage rates show the number of students who agreed with the statements made):

  20X6 20X5
Teaching    
(1) The course is intellectually stimulating and quality of teaching high 83% 86%
Academic support    
(2) I have received good advice and support with my studies from academic staff 82% 86%
Organisation and management    
(3) The course is well organised and its administration is good 81% 90%
Learning resources    
(4) The standard of rooms, facilities and equipment is good 83% 92%
Personal development    
(5) The course has helped me develop as a person 82% 80%
Overall satisfaction    
(6) Overall, I am satisfied with the quality of the course 81% 83%

 The ‘overall satisfaction’ percentage is used by the Education Authority to set the maximum level of tuition fees that a university can charge each year and is seen as the main measure of success both internally and externally.

Other key information

  20X6 20X5
Students graduating with a First Class Honours degree (highest class attainable) 20% 28%
Employers happy with the graduates from Qruise University 72% 75%
Ratio of students to staff members 40:1 35:1
Staff retention rate 75% 90%

 The staff retention rate in 20X5 was consistent with previous years. Data gathered from students who graduated in 20X5 showed that 65% of students found a graduate job within one year of leaving compared to 68% of 20X4’s graduates.

In 20X5, Qruise University won the ‘Green Environmental’ award for their campuses, which all have extensive recycling facilities. Students were also involved in a local ‘Grow to Give’ food sharing project that year, which provided thousands of pounds worth of fresh produce to food banks offering food to poorer residents. Due to staff shortages, the university was not involved in this project in 20X6. The recycling bins have also been abandoned because of the cost of using them.

Every year, the University Research Council issues a range of prestigious awards for contributions to research. One of Qruise University’s main competitors in the area won an award in 20X5 for their contribution to some pioneering research on genetics. Qruise University has yet to win an award for research. However, in 20X5 it did win an ‘Innovation’ award for its new, innovative conference facilities which have attracted a number of new clients in the last year.

Required:

Using Qruise University’s five strategic aims, assess its performance for 20X6.

Note: There are 4 marks available for calculations and 16 marks for discussion.

  1. QRUISE UNIVERSITY

(1) To provide education which promotes intellectual initiative and produces confident and ambitious graduates who have reached the highest academic standards to prepare them for success in life and the workplace

There are various performance indicators which can be looked at to ascertain whether QU is meeting this strategic aim. First, question 1 of the survey shows that 83% of students think that the course is intellectually stimulating and the quality of teaching is high. This has gone down by three percentage points since 20X5, which is not good.

In the NOS survey, the percentage of graduates agreeing that the course has developed them as a person has increased from 80% in 20X5 to 82% in 20X6. This would indicate that QU is indeed developing confident and ambitious graduates.

However, the number of graduates achieving first class degrees in 20X6 has fallen vastly from 28% to 20%. Given that the entry requirements were only relaxed in 20X6, this should not have had any impact on results. This infers that the quality of teaching may have declined and the ratio of students to academic staff has increased from 35:1 to 40:1. It appears that, although many new students were recruited in 20X6, there were not enough new academic staff recruited to deal with the influx of students. This is shown by the fact that student numbers increased by 13% but academic staff costs only increased by 6%.

As there was presumably a pay rise in the year too, it is clear that a proportionate amount of new staff were not recruited. This failing is also reflected by the fall in the answer to question 2 from 86% to 82%, with students being less satisfied in 20X6 with the advice and support they have received. Also, the staff retention rate has gone down in 20X6, meaning that staff are less familiar with QU and therefore more likely to provide a fragmented service.

However, in 20X5 74% of employers were happy with the graduates they recruited, in 20X6 this dropped to 72%. In addition, in 20X5 only 65% of students have managed to obtain graduate jobs within a year compared to previous years. Given that QU has relaxed the entry requirements for students in 20X6, this may mean that its 20X6 recruits are not as well qualified as its 20X5. This could mean that in the future the number of graduates obtaining graduate jobs within a year and the satisfaction percentages of employers could fall further. This decision has meant that there has been a 23% increase in fee income, but it compromises QU’s ability to meet its first strategic aim.

(2) To provide an organised, efficient learning environment with access to cutting edge technology and facilities

As regards premises, the money spent on maintaining these has decreased by 10% in 20X6, despite the increased student numbers. In the NOS survey, the percentage of students satisfied with these facilities has gone down nine percentage points from 92% to 83%. This suggests that this particular strategic aim has been neglected. Students seem far less satisfied with the way that the courses are run and administered now, with a fall of nine percentage points in 5 answers to question 4. Administration staff costs have only increased by 5% despite a 13% increase in student numbers and, presumably, a pay rise during the year. It can be inferred that staff are under increasing pressure and unable to cope with the increased numbers. This is again reflected by the fall in the staff retention rate from 90% in 20X5 to 75% in 20X6.

(3) To be a leader in sustainable business practices which protect the environment and support local people

As with the above strategic aim, this one also seems to have been a little forgotten in 20X6. In 20X5, QU won an environmental award for its campuses. It also took part in a food sharing initiative which helped the local community. It has now got rid of its recycling bins and ceased to be involved in the food share project. QU’s spending on sustainability and community assistance has actually halved in 20X6. This decline in activity is partly attributable to staff shortages. All in all, this is not very good as QU is now failing to meet one of its main strategic aims.

(4) To provide attractive, innovative conference and event facilities, attracting clients both nationally and internationally

Conference and event income has gone up by 13% in 20X6, which is a good increase for QU. It has managed to control its costs relating to these events well too, since these have only increased by 4%. QU has also won an award for its conference facility and attracted a number of new clients. QU therefore appears to be focusing well on this strategic aim.

(5) To be recognised both nationally and internationally for the scope and relevance of their research

Income from research at QU has actually gone down by 13% this year, as have the associated costs. Whilst a local university has won an award for their contribution to research, QU has not been successful in this regard. The suggestion is that this aim has not been focused on in 20X6.

 

 

Overall satisfaction

In addition to the above, it should be considered that the overall satisfaction percentage for students has decreased from 83% to 81%. This could have serious implications for QU as it is the main performance indicator used both internally and externally to assess how QU is performing. As well as meaning that QU may well now attract fewer students, it will also have an impact on the fees which can be charged to students in future years. The university needs to consider how it can improve the service it is providing in order to improve overall satisfaction.

Calculations

  20X6

$m

20X5

$m

% increase/ decrease
Income      
Tuition fees 148 135.6 9%
Research grants 3.5 4.5 (22%)
Conferences and other events 18 16 13%
Total income 169.5 156.1 9%
       
Expenditure      
Academic staff costs 80.8 76.2 6%
Administration staff costs 50.4 48 5%
Premises, facilities and technology costs 7.6 8.4 (10%)
Research grants 3.1 4 (23%)
Sustainability and community assistance 1.2 2.4 (50%)
Total expenditure 151.4 147 3%
       
Surplus 18.1 9.1 99%
Student numbers 27,000 24,000 13%

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Question 09 (Sirface Ltd)

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9. SIRFACE CO

Sirface Co provides training courses for many of the mainstream software packages on the market.

The business has many divisions within Finland, the one country in which it operates. The senior managers of Sirface Co have very clear objectives for the divisions and these are communicated to divisional managers on appointment and subsequently in quarterly and annual reviews. These are:

  • Each quarter, sales should grow and annual sales should exceed budget
  • Trainer (lecture staff) costs should not exceed $180 per teaching day
  • Room hire costs should not exceed $90 per teaching day
  • Each division should meet its budget for profit per quarter and annually

It is known that managers will be promoted based on their ability to meet these targets. A member of the senior management is to retire after Quarter 2 of the current financial year, which has just begun. The divisional managers anticipate that one of them may be promoted at the beginning of Quarter 3 if their performance is good enough.

The manager of the Southeast division is concerned that their chances of promotion could be damaged by the expected performance of their division. They are a firm believer in quality, and they think that if a business gets this right, growth and success will eventually follow.

The current quarterly forecasts, along with the original budgeted profit for the Southeast division, are as follows:

  Q1 Q2 Q3 Q4 Total
  $’000 $’000 $’000 $’000 $’000
Sales 40.0 36.0 50.0 60.0 186.0
Less:          
Trainers 8.0 7.2 10.0 12.0 37.2
Room hire 4.0 3.6 5.0 6.0 18.6
Staff training 1.0 1.0 1.0 1.0 4.0
Other costs 3.0 1.7 6.0 7.0 17.7
Forecast net profit 24.0 22.5 28.0 34.0 108.5
Original budgeted profit 25.0 26.0 27.0 28.0 106.0
Annual sales budget         180.0
Teaching days 40 36 50 60  

Required:

A. Assess the financial performance of the Southeast division against its targets and reach a conclusion as to the promotion prospects of the divisional manager.

2 / 3

The manager of the Southeast division has been considering a few steps to improve the performance of their division.

Voucher scheme

As a sales promotion, vouchers will be sold for $125 each, a substantial discount on normal prices. These vouchers will entitle the holder to attend four training sessions on software of their choice. They can attend when they want to but are advised that one training session per quarter is sensible. The manager is confident that, if the promotion took place immediately, they could sell 80 vouchers and that customers would follow the advice given to attend one session per quarter. All voucher holders would attend planned existing courses, and all will be new customers.

Software upgrade

A new important software programme has recently been launched for which there could be a market for training courses. Demonstration programs can be bought for $1,800 in Quarter 1. Staff training would be needed, costing $500 in each of Quarters 1 and 2 but in Quarters 3 and 4 extra courses could be offered selling this training. Assuming similar class sizes and the usual sales prices, extra sales revenue amounting to 20% of normal sales are expected (measured before the voucher promotion above). The manager is keen to run these courses at the same tutorial and room standards as they normally provide. Software expenditure is written off in the income statement as incurred.

Delaying payments to trainers

The manager is considering delaying payment to the trainers. They think that, since their commitment to quality could cause them to miss out on a well-deserved promotion, the trainers owe them a favour. They intend to delay payment on 50% of all invoices received from the trainers in the first two quarters, paying them one month later than is usual.

B. Revise the forecasts to take account of all three of the proposed changes.

  1. Revised forecasts
  Q1 Q2 Q3 Q4 Total
  $’000 $’000 $’000 $’000 $’000
Existing sales 40.0 36.0 50.0 60.0 186.0
Voucher sales ($125 ´ 80/4) 2.5 2.5 2.5 2.5 10.0
Software training     10.0 12.0 22.0
  42.5 38.5 62.5 74.5 218.0
Less:          
Existing trainer costs 8.0 7.2 10.0 12.0 37.2
Additional training costs ($200 ´ teaching days)     2.0 2.4 4.4
Room hire 4.0 3.6 5.0 6.0 18.6
Additional room hire ($100 ´ teaching days)     1.0 1.2 2.2
Staff training 1.0 1.0 1.0 1.0 4.0
Additional staff training 0.5 0.5     1
Other costs 3.0 1.7 6.0 7.0 17.7
Software 1.8       1.8
Forecast net profit 24.2 24.5 37.5 44.9 131.1
Original budget profit 25.0 26.0 27.0 28.0 106.0

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C. Comment on each of the proposed steps and reach a conclusion as to whether, if all the proposals were taken together, the manager will improve their chances of promotion.

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Question 10 (Cint Co)

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10. CINT CO

Cint Co manufactures lenses for use by a wide range of commercial customers. The company has two divisions: the Photographic Division (P) and the Optometry Division (O). Each of the divisions is run by a divisional manager who has overall responsibility for all aspects of running their division and the divisions are currently treated as investment centres. Each manager, however, has an authorisation limit of $15,000 per item for capital expenditure and any items costing more than this must first be approved by Head Office.

During the year, Head Office made a decision to sell a large amount of the equipment in Division P and replace it with more technologically advanced equipment. It also decided to close one of Division O’s factories in a country deemed to be politically unstable, with the intention of opening a new factory elsewhere in the following year.

Both divisions trade with overseas customers, choosing to provide these customers with 60 days’ credit to encourage sales. Due to differences in exchange rates between the time of invoicing the customers and receiving the payment 60 days later, exchange gains and losses often occur.

The cost of capital for Cint Co is 12% per annum.

The following data relates to the year ended 30 November 20X6:

  Division P Division O
  $000 $000
Revenue 14,000 18,800
Gain on sale of equipment 400 –
  14,400 18,800
Direct labour (2,400) (3,500)
Direct materials (4,800) (6,500)
Divisional overheads* (3,800) (5,200)
Trading profit 3,400 3,600
Exchange gain/(loss) (200) 460
Exceptional costs for factory closure – (1,800)
Allocated Head Office costs (680) (1,040)
Net divisional profit 2,520 1,220

 

  Division P Division O
  $000 $000
* Depreciation on uncontrollable assets included in divisional overheads 320 460
     
Non-current assets controlled by the division 15,400 20,700
Non-current assets controlled by Head Office 3,600 5,200
Inventories 1,800 3,900
Trade receivables 6,200 8,900
Overdraft 500 –
Trade payables 5,100 7,200

 To date, managers have always been paid a bonus based on the return on investment (ROI) achieved by their division. However, the company is considering whether residual income would be a better method.

Required:

A. Calculate the return on investment (ROI) for each division for the year ended 30 November 20X6, ensuring that the basis of the calculation makes it a suitable measure for assessing the DIVISIONAL MANAGERS’ performance.

Return on investment

Controllable profit

  Division P Division O
  $000 $000
Revenue 14,000 18,800
Direct labour (2,400) (3,500)
Direct materials (4,800) (6,500)
Divisional overheads excl. uncontrollable depreciation (3,480) (4,740)
Exchange gain/(loss) (200) 460
Net divisional profit 3,120 4,520

 

Net assets controlled by the divisions

  Division P Division O
  $000 $000
Non-current assets controlled by division 15,400 20,700
Inventories 1,800 3,900
Trade receivables 6,200 8,900
Overdraft (500) –
Trade payables (5,100) (7,200)
Net controllable assets 17,800 26,300

 

ROI for Division P

Controllable profit/controllable assets

= $3,120/$17,800

= 17.53%.

ROI for Division O

$4,520/$26,300 = 17.19%

 

 

 

Key Note

‘A basis … suitable for measuring the divisional managers’ performance’ means that calculations should have been based on controllable profit. Whilst most items affecting profit were either clearly controllable or uncontrollable, the exchange rate gain/loss could have been argued either way, provided that the explanation in part (b) was sufficient. Similarly, the assets figure used for the calculation should have only included controllable assets.

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B. Explain why you have included or excluded certain items in calculating the ROIs in part A, stating any assumptions you have made.

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C. Briefly discuss whether it is appropriate to treat each of the divisions of Cint Co as investment centres.

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D. Discuss the problems involved in using ROI to measure the managers’ performance.

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Question 11 (Choice Co)

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11. CHOICE CO

Choice Co is an online retailer of fashion goods and uses a range of performance indicators to measure the performance of the business. The company’s management have been increasingly concerned about the lack of sales growth over the last year and, in an attempt to resolve this, made the following changes right at the start of Quarter 2.

Advertising: Choice Co placed an advert on the webpage of a well-known online fashion magazine at a cost of $200,000. This had a direct link from the magazine’s website to Choice Co’s online store.

Search engine: Choice Co also engaged the services of a website consultant to ensure that, when certain key words are input by potential customers onto key search engines, such as Google and Yahoo, Choice Co’s website is listed on the first page of results. This makes it more likely that a customer will visit a company’s website. The consultant’s fee was $20,000.

Website availability: During Quarter 1, there were a few problems with Choice Co’s website, meaning that it was not available to customers some of the time. Choice Co was concerned that this was losing them sales and the IT department therefore made some changes to the website in an attempt to correct the problem.

The following incentives were also offered to customers:

Incentive 1: A free ‘Fast Track’ delivery service, guaranteeing delivery within two working days, for all continuing customers who subscribe to Choice Co’s online subscription newsletter. Subscribers are thought by Choice Co to become customers who place further orders.

Incentive 2: A $10 discount to all customers spending $100 or more at any one time.

The results for the last two quarters are shown below, Quarter 2 being the most recent. The results for Quarter 1 reflect the period before the changes and incentives detailed above took place and are similar to the results of other quarters in the preceding year.

 

  Quarter 1 Quarter 2
Total sales revenue $2,200,000 $2,750,000
Net profit margin 25% 16.7%
Total number of orders from customers 40,636 49,600
Total number of visits to website 101,589 141,714
Conversion rate – visitor to purchaser 40% 35%
The percentage of total visitors accessing website through magazine link 0 19.9%
Website availability 95% 95%
Number of customers spending more than $100 per visit 4,650 6,390
Number of subscribers to online newsletter 4,600 11,900

 Required:

Assess the performance of the business in Quarter 2 in relation to the changes and incentives that the company introduced at the beginning of this quarter. State clearly where any further information might be necessary, concluding as to whether the changes and incentives have been effective.

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Question 12 (Novel Co)

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12. NOVEL CO

Novel Co is a company specialising in the provision of accountancy tuition courses in the private sector. It makes up its accounts to 30 November each year. In the year ending 30 November 20X9, it held 60% of market share. However, over the last twelve months, the accountancy tuition market in general has faced a 20% decline in demand for accountancy training leading to smaller class sizes on courses. In 20X9 and before, Novel Co suffered from an ongoing problem with staff retention, which had a knock-on effect on the quality of service provided to students. Following the completion of developments that have been ongoing for some time, in 2010 the company was able to offer a far-improved service to students. The developments included:

  • A new dedicated 24-hour student helpline
  • An interactive website providing instant support to students
  • A new training programme for staff
  • An electronic student enrolment system
  • An electronic marking system for the marking of students’ progress tests. The costs of marking electronically were expected to be $4 million less in 2010 than marking on paper. Marking expenditure is always included in cost of sales.

Extracts from the management accounts for 20X9 and 20Y0 are shown below:

  20X9 20Y0
  $000 $000 $000 $000
Turnover   72,025   66,028
Cost of sales   (52,078)   (42,056)
Gross profit   19,947   23,972
Marketing 3,291   4,678  
Property 6,702   6,690  
Staff training 1,287   3,396  
Interactive website running costs –   3,270  
Student helpline running costs –   2,872  
Enrolment costs 5,032   960  
Total indirect expenses   (16,312)   (21,866)
Net operating profit   3,635   2,106

On 1 December 20X9, management asked all ‘freelance lecturers’ to reduce their fees by at least 10% with immediate effect (‘freelance lecturers’ are not employees of the company but are used to teach students when there are not enough of Novel Co’s own lecturers to meet tuition needs). All employees were also told that they would not receive a pay rise for at least one year. Total lecture staff costs (including freelance lecturers) were $41.663 million in 20X9 and were included in cost of sales, as is always the case. Freelance lecturer costs represented 35% of these total lecture staff costs. In 20Y0 freelance lecture costs were $12.394 million. No reduction was made to course prices in the year and the mix of trainees studying for the different qualifications remained the same. The same type and number of courses were run in both 20X9 and 20Y0 and the percentage of these courses that was run by freelance lecturers as opposed to employed staff also remained the same.

Due to the nature of the business, non-financial performance indicators are also used to assess performance, as detailed below.

  20X9 20Y0
Percentage of students transferring to Novel Co from another training provider 8% 20%
Number of late enrolments due to staff error 297 106
Percentage of students passing exams first time 48% 66%
Labour turnover 32% 10%
Number of student complaints 315 84
Average no. of employees 1,080 1,081

Required:

Assess the performance of the business in 20Y0 using both financial performance indicators calculated from the above information AND the non-financial performance indicators provided.

Note: Clearly state any assumptions and show all workings clearly. Your answer should be structured around the following main headings: turnover; cost of sales; gross profit; indirect expenses; net operating profit. However, in discussing each of these areas you should also refer to the non-financial performance indicators, where relevant.

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Question 13 (Car Co)

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13. CAR CO

Car Co offers a range of services for car owners at its 55 service centres across the country. The car maintenance business is extremely competitive in all regions across the country. Each service centre operates autonomously, and managers are able to choose how to package up the services they offer. Car Co’s aim is to ‘make the task of car maintenance a pleasure and not a chore’.

Its national website states the following:

  • Range of service packs available, including express service and full valet
  • ‘We work whilst you wait’ service, with average wait times of only two hours
  • Watch our friendly, experienced mechanics producing high quality work
  • Freshly made tea and coffee and free internet in our comfortable lounges
  • Monthly free prize draw for all customers completing an online feedback form

Customers initially access the national website, but depending on their location, they are automatically redirected to the website of their nearest service centre so that they can view the offers available at that centre. All bookings are made through the Car Co website.

Results for one of the service centres, the Lowlands Service Centre (LSC), for the year which has just ended are given below. The column headed ‘Car Co’ shows the average figures for all of Car Co’s 55 service centres:

  Notes LSC Car Co

Average

Sales revenue ($)   760,500 890,365
Gross profit ($)   304,200 328,146
Number of mechanics: senior 1 7 7.8
Number of mechanics: junior 2 5 5.2
Number of new service packs developed 3 3 2
Number of website hits   14,000 18,260
Total number of jobs booked and completed   9,506 11,870
Number of jobs from repeat customers only   1,500 1,660
Total time spent completing jobs (hours)   23,100 24,800
Percentage of customer feedback forms showing score of 9 or 10 4 80% 70%

Notes

  • Mechanics are classified as ‘senior’ if they have been qualified for more than five years.
  • ‘Junior’ mechanics includes both trainee mechanics who are unqualified and mechanics who have been qualified for less than five years.
  • The LSC introduced three new service packs during the year:
  • Free valets for orders over $100
  • A safety check costing only $20, instead of the usual $40, for all customers booking a full service
  • A $10 air conditioning efficiency check, which usually costs $20, for all customers booking an oil change.

These three new service packs produced revenues of $66,000, $58,000 and $54,000 respectively. Two comparable new service packs developed by other centres produced revenues of $44,000 and $42,000.

  • The online feedback form asks customers to rate the centre from one to ten, with ten being the best.

The CEO of Car Co has recently attended a business seminar and heard about Fitzgerald and Moon’s building block model of performance management. The CEO is interested in how the dimensions block could be applied at Car Co. The dimensions of performance identified in the model are: competitiveness, financial performance, quality of service, flexibility, resource utilisation and innovation.

 Required:

A. For each of the dimensions of the building block model, calculate one performance indicator for LSC and one for the Car Co average using the data available. Briefly justify your choice of performance indicator and discuss LSC’s performance relative to the other Car Co service centres.

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B. Explain how the standards and rewards blocks support the dimensions block in Fitzgerald and Moon’s building block model.

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Question 14 (Red Co)

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14. RED CO

Red Co manufactures and sells fire safety equipment and also provides fire risk assessments and fire safety courses to businesses. It has been trading for many years in the country of Nauru, where it is the market leader.

Five years ago, the directors of Red Co established a similar operation in its neighbouring country, Tuvalu, renting business premises at various locations across the country. The fire safety market in Tuvalu has always been dominated by two other companies, and when Red Co opened the Tuvalu division, its plan was to become market leader there within five years. Both the Nauru division (Division N) and the Tuvalu division (Division T) usually restrict themselves to a marketing budget of $0.5 million per annum but in 20X3, Division T launched a $2 million advertising campaign in a final push to increase market share. It also left its prices for products and services unchanged in 20X3 rather than increasing them in line with its competitors.

Although the populations of both countries are similar, geographically, the country of Tuvalu is twice as large as Nauru and its customers are evenly spread across the country. The products and services offered by the two divisions to their customers require skilled staff, demand for which is particularly high in Tuvalu. Following the appointment of a new government in Tuvalu at the end of 20X2, stricter fire safety regulations were immediately introduced for all companies. At the same time, the government introduced a substantial tax on business property rents which landlords passed on to their tenants.

International shortages of fuel have led to a 20% increase in fuel prices in both countries in the last year.

Summary statements of profit or loss for the two divisions for the two years ended 30 November 20X2 and 30 November 20X3 are shown below.

  Division T Division T Division N Division N
  20X3 20X2 20X3 20X2
  $’000 $’000 $’000 $’000
Revenue 38,845 26,937 44,065 40,395
Material costs (3,509) (2,580) (4,221) (3,385)
Payroll costs (10,260) (6,030) (8,820) (7,700)
Property costs (3,200) (1,800) (2,450) (2,320)
Gross profit 21,876 16,527 28,574 26,954
Distribution and marketing (D&M) costs (10,522) (7,602) (7,098) (5,998)
Administrative overheads (7,024) (6,598) (12,012) (11,974)
Operating profit 4,330 2,327 9,464 8,982
         
Employee numbers 380 241 420 385
Market share 30% 25% 55% 52%

 

Required:

Using all the information above, assess the financial performance of Division T in the year ended 30 November 20X3. State clearly where further information might be required in order to make more reasoned conclusions about the division’s performance.

Note. Up to seven marks are available for calculations.

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