Franchising for you Ltd (F4U) Case Solve

F4U:

Case History:

Franchising for you Ltd (F4U) markets a range of franchises which it makes available to its customers, the franchisees. F4U supplies the franchise with information of the mode of operation, detailed operation schedules and back-up advice (by telephone, internet) and undertake national advertising. Each franchisee must arrange for its own premises.

1. Contribution per franchise = sales revenue – variable cost

= $20000 - $6000

= $14000

Net operating cash flow eah year before Taxation = (14000 * 300) – 600000 = 3600000

Net operating cash flow each year after taxation = 3600000 * 70% = 2520000

Net present value (NPV) at a discount rate of 11%

Net operating cash flow – initial investment – development costs

= (2520000 * 4.231) – ( 6000000) – (1000000 * 0.812) – (1000000 * 0.731)

= $3,119,120

2. Intellectual capital

Intellectual assets, or ‘ intellectual capital’ as they are sometimes called can be divided into three main types.

1. External assets. These include the reputation of brands and franchises and the strength of customer relationship.
2. Internal assets. These include patents, trademarks and information held in customer databases.
3. Competencies: these reflect the capabilities and skills of individuals.

3. A performance measurement system (PMS)

• Financial measures are traditionally backward looking
• Financial measures take no account of the intangible value drivers
• Fixation with bottom profit pushes for short term decision to boost earning in short term
• Alternative perspectives are needed to satisfy demand of providing a sustainable competitive environment

4. Franchise fee pricing strategy

Maximax

Demand/price Maximum NPV

270/$22000 $4274183

300/$20000 $4007630

355/$18000 $4348226

So, here we select the price of $18,000.

Maximin

Demand/price Maximum NPV

270/$22000 $4274183

300/$20000 $4007630

355/$18000 $4348226

So, here we select the price of $22,000.

Minimax regret

Variable cost Price ($’000)

$’000 $18 $20 $22

5 0 340596 74043

6 177702 355404 0

7 429446 444255 0

Maximum regret 429446 4445255 74043

Maximax regret strategy is that which minimises the maximum regret ($74,043).

RRR Group

OVERVIEW

The RRR Group (RRR) provides roof repair, refurbishment and renewal services to individual customers on a nationwide basis. RRR operates a large number of regional divisions, each of which offers a similar range of services. RRR expects divisional management to prepare its own annual budget by focusing on the achievement of a net profit figure set at group level. This budget is currently used for planning and reporting.

CASE FINDINGS

1. Evaluate the extent to which Alpha’s 20y0 budget is achievable and consistent with beyond budgeting:

Budget 20y0	$m		% increase on 20x9
Sales Revenue	99		10
Costs
Cost of Sales	66		10
Marketing	7.2		-15.29
Staff Training	3		-25
Remedial Work on orders	1		25
Customer Enquiry Costs (($1.5m/15,000)X15,500)	1.55		3.33
Customer Complaint related Costs	0.25		25
TOTAL COSTS	79		5.33
NET PROFIT	20		33.33
Number of Customers Enquiries	15,500		3.33
Customer Enquiries Placed	11,000		10

• Sales revenue is budgeted to increase by 10% from the 2009 actual level. It is questionable whether this is likely to be achievable given cost changes that are planned as discussed below.
• Cost of sales has the same percentage relationship to sales (66·7%) as in 2009. Note that the corresponding figure for 2008 was 62·5%. The percentage differences may be influenced by the change in mix of work – repairs, refurbishment, renewals that are planned for 2010.
• Marketing expenditure has been reduced by $1·3m which is a 15% reduction from the 2009 actual figure. It must be asked whether demand is sufficiently buoyant to achieve the planned 10% sales increase with this marketing reduction.
• Staff training has been reduced to $1·0m which is a 25% reduction from 2009. Will the quality of work be reduced through this reduction and lead to increased costs, remedial work and customer complaints in 2010 and future years?
• Uptake of orders from customer enquiries is planned at 71% compared with 66·7% in 2009 and 55% in 2008. Is this forecast improvement realistic or achievable? This requires very careful consideration especially given the planned decrease in marketing expenditure in the 2010 budget.

Problems relating to the likely achievement of the 2010 budget and its inconsistency with the ‘beyond budgeting’:

• ‘Stretch goals’ beyond budgeting is intended to focus managers on managing change and competitive success in the marketplace. Thus it encourages managers to look outward and respond to the challenges in their environment instead of concentrating their efforts on fixed targets such as budgets.
• ‘Evaluation and rewards should be based on relative improvement contracts’. Until 2009, no such evaluation and reward processes seem to have been in place. The question indicates that a bonus system will be implemented in 2010 using a set of Key Performance Indicators as an incentive to the overall achievement of goals and the creation of value.
• ‘Action planning focusing on a strategy achieving continuous value creation in the Group’. There is no evidence of strategy being applied in the drawing up of the budget for 20x0. It is based on historic cost and activity data within the division, with no reference to corporate objectives and how resources will ensure the meeting of these objectives.

2. Staff bonus calculation: Year ended 30 November 2009 using Key Performance Indicators:

The KPI appraisal and bonus process provides a broad range of indicators that may be monitored, both individually and collectively over time in respect of the relative improvement in Alpha Division. The analysis may also be used in order to give a spectrum of measures against which to compare the Alpha division relative improvement against that of other divisions in RRR plc.

In addition, the factors which improve or detract from the size of the bonus earned are clearly shown. This should act as an additional incentive for staff, particularly where an improvement in the weighted score for any particular element is required. For example, in profit versus that of competitor, this shows a negative score in the 2009 comparison.

During 1990:

Case History:

During 1990 a printing company designed and installed a Management Information System that met the business needs of a commercial environment which was characterized at the time. A radical change in the business environment has resulted in the following outcomes.

1. The development of a Divisionalised structure with four profit centers that utilize each other’s services.
2. Empowerment of team leaders and devolved decision making.
3. Considerable outscoring of activities.
4. A significant proportion of the employees work part time and/or on temporary contracts.
5. Customers now commonly operate JIT systems requiring immediate replenishment of inventories.
6. The typical customer requires specialist low volume but complex high value printing.

REQUIREMENT:

Required the significant changes in the Management Information System that would probably be required to meet the needs of this new situation. Explain the reasons for your recommendation.

ANALYSIS:

DIVISIONALISED STRUCTURE:

Performance reports covering both financial and operational matters would be required for each of the four profit centers. This requires greater system required. The system would also have to deal with more complexity as cost and revenues would need to be allocated appropriately. The MIS would need to able to provide information about controllable and uncontrollable costs, as only controllable costs should be included in the divisional performance reports. The organisation would probably need to provide information on competitor’s prices to enable appropriate transfer prices to be set.

EMPOWERMENT AND DEVOTED DECISION MAKING:

The MIS would need to capture information that may have been previously held in the heads of senior managers. This would ensure that the information upon which team leaders base decision is complete. Empowered team leaders would need both financial and non-financial information. Teams may carry out the activities but team leaders may not know the financial implications on these activities. Information must be provided quickly and in users-friendly formats if the reason for empowerment is flexibility.

OUTSOURCING:

The MIS would therefore need to provide information on activities, cost driver volumes and cost driver rates. The MIS must be able to provide information that allows management to access whether the quality of work carried out is to the standard specified. Environmental scanning should be used on a continuous basis to ensure that activities cannot be carried out internally for less than the cost of outsourcing.

PART-TIME WORKING AND TEMPORARY CONTRACTS:

The capacity of the MIS must be able to cope with this expansion in users. Storage and may need to be expanded. The information on the MIS would need to be structured in such a way that certain sections were only accessible to certain members of staff. The MIS may therefore need to be modified to ensure that it can be easily understood and used effectively by those with the company for shorter periods.

CUSTOMER’S JIT SYSTEMS:

There would be a need for electronic interchange of data with customers to facilitate the necessary close relationship. Previously the inventory control system could have been relatively simple as inventory levels were not critical to the success of the business. Now company must be able to respond immediately to consumers’ demands for finished goods. The inventory control system within the MIS must therefore be able to provide information about minimum inventory levels, reorder cycles and economic order quantity to ensure that raw materials are always available to produced finished goods.

LOW VOLUME, COMPLEX, HIGH VALUE PRINTING:

The MIS should be able to provide information to enable activity based costing to be used. If jobs are priced on a cost plus basis, the appropriate amounts of overheads need to be apportioned to jobs on the basis of their use of the organization’s resources to ensure realistic prices are charged.

GMB

History of the case:

GMB is a company that designs, produces and sells a number of products. Functions can be identified from design through the distribution of the product and for each function a number of activities can be differentiated which can be identified by the s principal drivers. The company is active in promoting a product focus for the design, dedicated product lines and product marketing. It also has been seen that the cost may be identified at the unit, batch, and product sustaining levels.

Introduction of the case:

GMB is a company that designs, produces and sells a number of products. The method of calculating all the values for 377 order numbers are shown in brackets and also indicates that expenses items should be regarded as product unit, batch product sustaining or business level costs. All the expense items are adjusted to its total cost for ordering number and it comprises 5000 units of products Zeta and the order will provide the batches of 1000 products.

Problems: the benefit of an activity based system as the basis for product cost/profit estimation may not be straightforward. A number of problems may be identified.

1. The selection of relevant activities and cost drivers may be complicated where there are many activities and cost drivers in complex business situations.
2. There may be a difficulty in collection of data to enable accurate cost drivers rate to be calculated. This is also likely to require the extensive data collection and analysis system.
3. The problem of cost driver denominator level ‘may also prove difficult. This is similar to the problem in a traditional volume related system.
4. This is linked to the problem of fixed or variable cost analysis. For example the cost per batch may be fixed. Its impact may be reduced. However, where the batch size can be increased without a proportionate increase in cost.
5. The achievement of the required level of the management skill and commitment to change may also detract from the implementation of the new system.
6. Management may feel like that the activity based approach contains too many assumptions and estimates about the activities and cost drivers. There may be doubt as to the degree of increased accuracy which it provides.
7. Materials price may be higher than necessary due to in efficient sourcing of materials.

Prepare a statement of total cost for order number 377, which analysis the expense items into sections for each of four levels, with sub totals for each level where appropriate. The four levels are:

1. Unit base cost;
2. Batch related cost
3. Product sustaining (order level) cost
4. Business facility sustaining (overall level)

Oder number 337

Summary total cost statement

Unit based cost	$'000	$'000
direct material cost (180x5000)	900
direct labor cost(150x5000)	750
Power cost (120x5000)	600	2250
batch related cost:
Design word (30000x5)	150
Machine setup (34000x5)	170
production scheduling (60000x5)	300
selling- batch expending)	300
admin- invoicing and accounting (24000x500	120
distribution (12000x5)	60	1100
Product sustaining cost:
engineering design and support (per order)	350
Production line maintenance (per order)	1100
marketing (per order)	200	1650
total cost (excluding business/facility sustaining cost		5000
business/ facility sustaining cost:
relating to production, administration, selling &
distribution based on overall business/facility time used
30%x5000000		1500
total cost order		6500
number of batches= 5000/1000

Conclusion:

Material price may be higher than necessary due to inefficient sourcing of materials. This may be overcome through efforts of review sourcing policy and possibly provide additional training to staff responsible for the sourcing of materials. The number of machine set ups per batch may be due to lack of planning of batch sizes. It may be possible for the batch sizes this order to be increased 1250 units which would reduce the numbers of batches required to fulfill the order from five to four. This should reduce overall costs. The amount of production line maintenance required per order may be reduced be examining causes such as level of skill of maintenance carried out by GMB’s own staff or out sourced provision. Action would involve re training of own staff or recruitment of new staff or changing of outsource providers.

Identify and discuss the appropriateness of the cost drivers of any two expense value in each of levels (i) and (ii) above and one value that relates to level (IV)

A cost driver is a factor that determines the level of resources required for an activity. This may be illustrated by considering cost for each of the four levels in order number 377.

Unit based cost:

Direct material cost are driven by the quantity, range, quality and price of materials required per product unit according to the specification of the order.

Direct labor cost is driven by the number of hours required per product unit and the rate per hour that has been agreed for each labor grade.

Batch related costs:

The number of machines set ups per batch is the cost drivers for machines used. The number of designs hours per batch is the cost drivers for design work.

Product sustaining cost:

The number of marketing visits to a client per order is the cost drivers for machines cost chargeable to the order. The number of hours of production line maintenance per order is the cost driver for production line cost.

Business sustaining cost:

These costs are absorbed at 30% of total cost excluding business sustaining costs. This is an arbitrary rate which indicated the difficulty in identifying suitable cost drivers for the range of residual cost in this category. Whenever possible efforts should be made to identify aspects of this residual cost that can be added to the unit, batch or product related analysis.

The cost drivers are useful in that they provide a basis for an accurate allocation of the cost of resources consumed by an order. In addition investigation of the cost driver occurring at its present level allows action to be considers that will lead to a reduction in the cost per unit of cost drivers. The amount of production line maintenance cost which is required per order may be reduced by examining causes such as level of skill of maintenance carried out by GMB’s own staff or out sourced provision. Action would re training of own staff or recruitment of new staff or charging of out source providers.

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