ACCA

Paper P3 Business Analysis

Tuition Mock December 2011 Question Paper
Time Allowed 15 minutes 3 hours Reading and planning Writing

This paper is divided into two sections: Section A This ONE question is compulsory and MUST be attempted Section B TWO questions ONLY to be attempted

DO NOT OPEN THIS PAPER UNTIL YOU ARE READY TO START UNDER EXAMINATION CONDITIONS

 The Accountancy College Ltd, October 2011 All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without the prior written permission of The Accountancy College Ltd.

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This is a blank page. Question 1 starts on page 4.

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Section A This ONE question is compulsory and MUST be attempted

The following information should be used when answering question 1.

Angus Cairncross has recently been appointed as Head of Strategic Operations to the main board of Global Industries plc. This company is a UK-based conglomerate organisation, which had achieved significant expansion during the late 1960s and 1970s when focusing on core businesses was not the fashion. The company has managed to maintain a leading position within the UK but is increasingly meeting competition from foreign competitors, both at home and abroad. Angus, prior to this recent appointment, had been Managing Director of one of Global Industries' subsidiary companies, Control Systems Ltd. This subsidiary company had focused on building control systems, including central heating, air conditioning and security equipment. The market had been mainly in the industrial sector as distinct from the general housing market. This subsidiary had traditionally not been a significant profit earner for Global Industries but Angus had been able to radically improve the position by his ability to control costs and, with judicious capital investment, improve the output per employee. He had also identified new markets overseas, particularly in China, and the rapidly developing countries of South East Asia. The recent economic problems faced by these countries had only marginally affected Control Systems' business and now sales are again following an upward trend. The Chairman and Managing Director of Global Industries are both impressed with Angus and are hoping that his proven abilities in managing a focused company can be transferred to managing a conglomerate. Recently Global Industries has experienced a downturn in profits. The variety of businesses incorporated in the Company is large. The presence in industrial markets is considerable, ranging from design and construction within the nuclear power industry, railtrack construction, components for the motor vehicle assembly industry and the building control systems. As can be imagined the demand for these products is volatile and depends upon the state of economic activity within a country. So as to avoid over- dependence on one market Global Industries has set up sales and manufacturing facilities in overseas markets. This has enabled Global Industries to break into new foreign markets. Without a manufacturing presence the company would find it difficult to overcome trade barriers, and transport costs. It is also benefiting from access to cheaper labour and from local government grants so as to attract foreign investment. Apart from the industrial sector Global Industries is also heavily involved in the defence industry, particularly in weapon systems and avionics. This is also an uncertain environment with demand being mainly determined by government policy which is highly dependent on the state of public finances. Finally Global Industries has a significant position within the consumer durable industry. It manufactures electric cookers and refrigerators within its kitchen appliance subsidiary, and also has recently purchased a number of franchises in the automobile distribution sector. The problem which Global Industries is facing is that it appears to be exposed in too many markets and product areas. Its strategy of diversification has

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enabled it to be less dependent upon one market or one industrial sector. However it has created a difficult control system for management. Most of the technologies in which it operates are complex and the markets are dynamic, responding to increasing social, technological and political change. It has proved impossible to manage these industries from the centre, because no central organisation could possibly cope with the complexities of such a widespread business. Consequently the business is organised on divisional lines with each subsidiary reporting to the centre on a financial basis only. Each subsidiary is given financial targets by the centre (after consultation with the subsidiary) and then strategy formulation, implementation and control are delegated to the subsidiary companies. Because there appears to be little synergy between the companies their corporate and brand names are not even related to each other. At the end of a financial year most of the profits are returned to the Global Industries Headquarters, with a proportion being available for re-investment. The company acts in a shareholder role. It takes no active part in management but if profits from a subsidiary are considered to be inadequate then the likelihood of funds for investment in innovation or on new capital equipment will be low. In the final resort the subsidiary may be sold off. Angus has sympathy with this management philosophy. Its attitude towards delegation and the freedom to develop strategies had benefited him at Control Systems. However he also is concerned with a lack of support from the centre. Each subsidiary, by acting as an independent company has to provide its own support infrastructure R & D, marketing and sales, finance and human resources. He believes that there must be some benefit in developing an organisational structure which can provide some direction and help, other than the Global Industries' Headquarters controlling the subsidiaries only through financial discipline. However Angus appears to have a more urgent task to attend to as The Board has become very concerned about the performance of its kitchen appliance subsidiary. Over the past few years the performance of this company has deteriorated. This subsidiary originally produced and marketed these appliances within the UK market. However over time it acquired five foreign companies with their own product brands - two in Europe, two in the Far East and one in South America. The management at that time decided that it would be worthwhile continuing to promote these products under their original brand names. It also believed that by maintaining separate production facilities the kitchen appliance subsidiary could still appear to be a local company, so customising products for distinctive markets. Initially this had seemed to be a sensible strategy. Sales actually increased for a short time. However over the past three years sales have fallen significantly. Competition is mainly from one major global company who has grown rapidly over the past few years by pursuing a focus strategy. Its strategy has been to concentrate on a restricted number of models, both of cookers and refrigerators, promoted under a single corporate brand name. It has also decided to source its products from just two manufacturing sites. Its marketing strategy has also been centralised, with apparently little reference to local demand conditions. Initially the Global Industries' kitchen appliance subsidiary attempted to correct its position by increasing its promotion. ww w. st u d yi n t e ra ct i v e . or g 5

However, the inability of the company to halt the slide in sales, and the resultant loss in profits, now means that Global Industries is now unwilling to finance any increased expenditure. Whereas Angus still believes there is profit potential within the kitchen appliance industry, the majority of the members of the Board of the Global Industries plc do not believe that the subsidiary can be turned around and is considering disposing of the company. Unless the Board can see an improvement in sales, or at least be presented with a strategic plan which will identify opportunities to turn around the situation, then it will look for a buyer or starve the subsidiary of cash, milk the current operations and then withdraw from that sector. Angus has analysed the company accounts and has been able to draw up the following table. The figures for the competitor's internal costs are estimates based on media expenditure statistics and assessments on costs for new product development. Whilst these figures cannot be guaranteed they should give a sound guide to the current situation and the relative competitive positions. Table 1 shows selected data and is not intended as a comprehensive set of accounts.

Table 1: million 2009 Global Industries' kitchen appliances Sales Domestic Overseas Total Cost of sales of Global Industries Domestic Overseas Total Gross profit (domestic and overseas) Expenses of which: Marketing R&D Administration Operating profit (loss) Number of employees Work in progress Inventory 2010 2011 2012 (forecast)

14.2 8.5 22.7 8.8 4.8 13.6 9.1 6.4 2.0 3.0 1.4 2.7 1,300 3.5 2.4

13.5 7.5 21.0 8.2 4.9 13.1 7.9 6.9 2.2 3.1 1.6 1.0 1,350 3.7 2.9

12.8 7.2 20.0 7.8 5.0 12.8 7.2 7.4 2.5 3.2 1.7 (0.2) 1,250 4.0 3.2

11.4 7.0 18.4 7.5 5.2 12.7 5.7 8.0 2.7 3.4 1.9 (2.3) 1,250 4.2 4.1

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Competitor: Sales revenue Cost of sales Gross profit Expenses of which: Marketing R&D Administration Operating profit Number of employees Work in progress Inventory

18.0 10.4 7.6 4.6 1.4 2.2 1.0 3.0 800 2.7 1.9

19.5 11.1 8.4 4.9 1.5 2.2 1.2 3.5 850 2.4 1.8

22.5 12.6 9.9 5.4 1.7 2.4 1.3 4.5 950 2.2 2.0

25.0 13.8 11.2 6.3 2.0 2.8 1.5 4.9 1,000 1.9 2.1

Required (a) As Angus Cairncross, prepare a report identifying the main problems which the kitchen appliance subsidiary has, particularly when compared with its major competitor. (20 marks) Discuss the benefits and problems which Global Industries plc is likely to experience, operating as a decentralised group of companies, using mainly financial controls as the major management control system. Suggest how the company can provide more help from the Headquarters, without becoming over-involved in day-to-day operations. (10 marks) Examine the factors that should be considered before a company decides to dispose of a subsidiary. Consider how each of these factors might relate to the disposal of the kitchen appliance subsidiary by Global Industries plc. (20 marks) (Total 50 marks)

(b)

(c)

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Section B TWO questions ONLY to be attempted

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Airtite was set up in 2000 as a low cost airline operating from a number of regional airports in Europe. Using these less popular airports was a much cheaper alternative to the major city airports and supported Airtite's low cost service, modelled on existing low cost competitors. These providers had effectively transformed air travel in Europe and, in so doing, contributed to an unparalleled expansion in airline travel by both business and leisure passengers. Airtite used one type of aircraft, tightly controlled staffing levels and costs, relied entirely on on line bookings and achieved high levels of capacity utilisation and punctuality. Its route network had grown each year and included new routes to some of the 15 countries that had joined the EU in 2004. Airtite's founder and Chief Executive, John Sykes, was an aggressive businessman ever willing to challenge governments and competitors wherever they impeded his airline and looking to generate positive publicity whenever possible. John is now looking to develop a strategy which will secure Airtite's growth and development over the next 10 years. He can see a number of environmental trends emerging which could significantly affect the success or otherwise of any developed strategy. Airtite has seen its fuel costs continuing to rise reflecting the uncertainty over global fuel supplies. Fuel costs currently account for 25% of Airtite's operating costs. Conversely, the improving efficiency of aircraft engines and the next generation of larger aircraft are increasing the operating efficiency of newer aircraft and reducing harmful emissions. Concern with fuel also extends to pollution effects on global warming and climate change. Co-ordinated global action on aircraft emissions cannot be ruled out, either in the form of higher taxes on pollution or limits on the growth in air travel. On the positive side European governments are anxious to continue to support increased competition in air travel and to encourage low cost operators competing against the over-staffed and loss-making national flag carriers. The signals for future passenger demand are also confused. Much of the increased demand for low cost air travel to date has come from increased leisure travel by families and retired people. However, families are predicted to become smaller and the population increasingly aged. In addition there are concerns over the ability of countries to support the increasing number of one-parent families with limited incomes and an ageing population dependent on state pensions. There is a distinct possibility of the retirement age being increased and governments demanding a higher level of personal contribution towards an individual's retirement pension. Such a change will have a significant impact on an individual's disposable income and with people working longer reduce the numbers able to enjoy leisure travel. Finally, air travel will continue to reflect global economic activity and associated economic booms and slumps together with global political instability in the shape of wars, terrorism and natural disasters. John is uncertain as to how to take account of these conflicting trends in the development of Airtite's 10-year strategy and has asked for your advice.

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Required (a) Using models where appropriate, provide John with an environmental analysis of the conditions affecting the low cost air travel industry. (15 marks) Explain how the process of developing scenarios might help John better understand the macro-environmental factors influencing Airtite's future strategy. (10 marks) (Total 25 marks)

(b)

There are several different methods of strategy formulation. Most strategists would argue, for instance, that public sector organisations mainly favour a logical, rational approach. The senior partners of the world famous private sector management consultancy firm SPK are presently considering both the issue of their own strategy formulation and making some changes to direction of the company. SPK only deals with traditional "blue chip" companies. SPK is renowned for networking and has access to key decision makers through the personal contacts of its partners and senior managers. These contacts are felt to be at the heart of its business success. SPK places a lot of trust in the decisions made by its relatively small core of partners and senior managers who foster close relationships with clients and identify consultancy opportunities. These individuals draw together and then lead teams of (normally) freelance consultants and academics to fulfil their consultancy briefs. Partners and senior managers are judged on the client profile and profitability levels within their personal portfolios. Individually, they are highly skilled but tend to have definite fixed opinions and to be strong willed. In addition, they work independently when deciding which business areas to target and the nature of work undertaken. Required (a) (b) Discuss the main approaches to strategy recommend the most appropriate for SPK. formulation and (15 marks)

Analyse the reasons for public sector organisations generally adopting a rational approach to strategy formulation and suggest how, in the absence of profitability, they can measure performance. (10 marks) (Total 25 marks)

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Glaspac is a manufacturer and installer of replacement plastic windows. Glaspac prides itself on its added security features. While there are some national competitors, most are regional and recently two of Glaspac's competitors have merged. Glaspac operates in a national market and has agents who display products and distribute promotional literature in some shopping malls and large stores throughout the country. These agents collect details of potential customers for sales executives to follow up and give detailed quotations. At a planning meeting two years ago, Glaspac agreed that it could realistically achieve a turnover of $400,000 per quarter within three years. At present, it only achieves a turnover of $300,000 per quarter, a fall of $50,000 from two years ago. Required (a) Analyse, by reference to gap analysis, Glaspac's position and the available options implied by the technique. (12 marks) (b) Discuss the relationship between gap analysis and scenario planning in the strategic process. Making reference to Glaspac, advise how these techniques might be used together. (13 marks) (Total 25 marks)

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