Casestudies

Case1 Case2 Case3 Case4 Case5 Case6 Case7 PaceLeisurewearplc(1) Carpetrightplc GadaboutTravelLtd PaceLeisurewearplc(2) Landlord:investmentappraisal BlueHillsCountryPark Homelandplc

You may be required to undertake a case study for at least one of your assignments. A case study tends to differ from the more traditional accounting exerciseinthreeways: Cases tend to be longer and more complex than traditional exercises. They alsotendtodealwithmorethanoneaspectofabusiness. Cases often contain information that is irrelevant and that needs to be ignored. There is no one single, correct solution. The proposed solution will rely on assumptionsandjudgementsmadebythestudent.

In these ways, case studies reflect real life. In reality, problems are often complicated,multifacetedandyoumayhavetoseparateouttherelevantfromthe irrelevant data. Often there is no uniquely correct solution. Thus case studies can provideanopportunitytohandlemuchmorerealisticandinterestingproblemsthan cantraditionalexercises. A difficulty with case studies is that the problem to be solved is not always obvious or clearcut. It is therefore a good starting point to try to identify what the problem really is. You must be able to distinguish between the causes of the problemanditssymptoms.Forexample,afallinprofitabilitymaybeasymptomof someunderlyingcausesuchasapoorpricingpolicy. Trynottowaffle.Itisimportanttogettothepoint.Marksinanexaminationwhen dealingwithacasestudyareusuallyawardedforaclearandconciseexplanationof theproblemsandanyproposedsolutionslong,tortuousexplanationsmayindicate that you have not got to the heart of the matter. Furthermore, donotincludelarge chunksofthecasestudyinyourfinalreportorpresentation.This,too,maysuggest that you have not graspedthekeyissuesandthatyouaresimplyrepeatingrather thanusingtheinformationprovided. Working in groups is sometimes an effective way to approach solving a case study.Thisisbecausepeoplecansparkoffeachothertocomeupwithideasthat couldhelptowardsasolution.Donotbetooquicktodismissideasfromothersthat do not run along lines youhavealreadydeveloped,anddonotbecriticalofideas that come from individuals who are not seen as the academic high flyers. Good

ideasdonotalwayscomefromexpectedsources.Themoresupportivethegroupis towards all its members, the more likely it is to work effectively and arrive at a feasiblesolution. Sometimes an assignment involves giving a presentation. If this is the case, thoughtmustbegiventohowthesolutionistobepresentedtomakethemaximum impact on the audience. This may mean the use of overhead projector slides or even of video, depending on the circumstances. Check with your tutor about the availabilityofnecessaryequipment.

1 PaceLeisurewearLtd(1)
This is absolutely typical of British banks. As soon as you have any success they wanttopulltheplugandstopyoutrading.JillDempseywasveryangry.Sheisthe managing director of Pace Leisurewear Ltd and had just received a letterfromthe companysbankrequiringasignificantreductionintheoverdraft.Thisisridiculous, agreed Mike Greaves, the production director. Last year we had a cracking year and it looks set tocontinue.WehadabigorderinfromArenajustthismorning.If wecantkeepuptheoverdraft,wewontbeabletofulfilthatorder.Arenawasone of several national chains of casual and sportswear stores that was placing substantial orders with Pace, usually to be sold under the Pace label but in some casesunderthestoresownbrandlabel. PaceLeisurewearLtdwasstartedbyJillDempseyandMikeGreavesfiveyears ago. The business is a designer and manufacturer of casual and leisure clothes aimed particularly at the younger, higherincome market. Before starting the company,bothhadbeenemployedasseniormanagerswithVeraniplc,alargeUK clothes manufacturer. They decided to form Pace Leisurewear after their ideas for developinganewrangeofclothesforyoungerpeoplehadbeenrejectedbyVerani. Although their former employer liked the ideas proposed, it was restructuring its operations after three consecutive years of losses and had decided to focus on certaincorebrandsaimedatmeetingtheneedsofolderpeoplerequiringsmartday and occasion wear. The proposals by Jill and Mike did not, therefore, fit with the strategiesthatVeranihadjustbeguntoimplement. Fromtheoutset,JillandMikedecidedthatPaceLeisurewearwouldbeadesign andmarketing led business. Both felt that many of the problems experienced by Veranicouldbetracedtoweaknessesintheseareasandtheyweredeterminedthat this would not occur in their newly formed business. Much of the forward planning wasconcernedwithintegratingtheproductdesignanddevelopmentwiththesales and marketing operations of the business. The new company had taken a lot of trouble and spent a lot of moneyonemployingayoungandtalenteddesignteam, led by Jane Barker who had been employed previously as a chief designer for a leadingsportswearbrand.TherangeofclothesdesignedbyJaneandherteamwas greeted with enthusiasm by the major buyers, and this was converted into firm orders by the marketing team led by Jill Dempsey. The order book began to grow and,forthenewseason,ordershadreachedtheirhighestlevelever. Pace Leisurewear began trading during a period of recession when people did not have a great deal of money to spend on clothes. However, sales started to increasesignificantlyastheeconomybegantocomeslowlyoutofrecessionandas export markets in France and Switzerland were opened. Jill and Mike were both surprised and delighted by the speed with which the sales of the business had growninrecentyearsandbythegrowingbaseofregularcustomers.Theorderjust receivedfromArenawasseenasparticularlyimportant.IfArenabecamearegular customer,thesalesofthecompanywerelikelytoincreaserapidlyoverthenextfew yearsandwouldestablishPaceLeisurewearasamajorplayerinthemarket. Jill and Mike had both invested their life savings in the business andhadtaken out large mortgages on their respective houses to help finance the new company.
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However, this provided only a relatively small amount of the total ordinary share capital needed. In order to raise the remaining share capital, friends, family and business contacts were approached. The largest shareholder of the business was KeebleEstatesLtd,ownedbyDavidandJohnKeeble.ThetwoKeeblebrothershad madelargeprofitsbylandspeculationovertheyearsbutwerekeentodiversifyinto otherareasastheirbusinesshadbeenparticularlyhardhitbytherecentrecession. They had known Jill for many years and were convinced that she and Mike would makeasuccessofthenewbusiness. TheboardofdirectorsofPaceLeisurewearLtdandtheirshareholdingswereas follows: JillDempsey MikeGreaves JaneBarker DavidKeeble JohnKeeble Managingdirectorandmarketingdirector(350,000shares) Productiondirector(350,000shares) Designdirector(20,000shares) Chairman(1,000,000sharesownedjointlywithbrotherJohn throughKeebleEstates) Nonexecutivedirector

In addition to his role as production director, Mike tended to look after financial matters. Though the company had accounts staff who dealt with the daytoday transactions, there was no one within the company who had any great financial expertise.Whentherewasaproblem,thecompanysauditorswerenormallyasked foradvice. Onthedaythattheletterfromthebankwasreceived,aboardmeetingwasdue to take place to consider the draft accounts of the business for the year that had ended two months earlier. At this meeting, the letter from the bank was also distributedtoboardmembersfordiscussion. MikeGreavesbeganthediscussionbysaying: Weve just received the draft accountsfromtheauditors,whichseemtoconfirm our success. Profit has more than doubled. I really cant see how the cash situationissopoor.Iknowthatwespentalotonthatadditionalplantandthatwe didnt get anything from the old machines we got rid of, but most of that was covered by the bank loan. Really,thecashsituationshouldbeevenbetterthan the profit level implies because the expenses include about 2.8 million for depreciationandwedonthavetowriteachequeforthat. Jill Dempsey, who was still angry at what she regarded as the highhanded attitudeofthebank,pointedtothedifficultiesthatthebanksdemandswouldcause: Thebankwantsustoreducetheoverdraftbyhalfoverthenextsixmonths!This iscrazy.Itriedtoexplainthatwehaveimportantorderstofulfilbutthemanager wasnt interested. How on earth can we find this kind of money in the time available?Wearebeingaskedtodotheimpossible. BothMikeandJillhad,beforethemeeting,hopedthattheKeeblebrotherswould bepreparedtohelpoutbypurchasingfurthersharesinthecompanyorbymakinga loan.However,itwassoonmadeclearbyDavidKeeblethatfurtherinvestmentwas notapossibleoption.KeebleEstateshadbeenexperiencingconsiderableproblems
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over recent years and simply did not have the money to invest further in Pace Leisurewear.Indeed,theKeeblebrotherswouldbepreparedtoselltheirsharesin Pacetogeneratemuchneededcashfortheirailingcompany. Findingaprospectivebuyerfortheshareswasnot,however,alikelyprospectat this point. Both David and John Keeble had been heavily involved in recent years with the problems of Keeble Estates and had taken little interest in the affairs of Pace Leisurewear. The board meeting made them realise that they should have been much more attentive, and they now faced the prospect of being major shareholdersoftwofailedcompaniesunlessthingscouldberadicallyimproved. TheaccountsofPaceLeisurewearforthepasttwoyearsaresetoutbelow. Profitandlossaccountfortheyearended31December: Yearbeforelast 000 Turnover Costofsales Grossprofit Operatingexpenses Operatingprofit(beforeinterestandtaxation) Interestpayable Profitbeforetaxation Taxation Profitaftertaxation Dividendpaidandproposed Retainedprofitfortheyear Retainedprofitbroughtforwardfrom previousyear Retainedprofitcarriedforward 14,006 7,496 6,510 4,410 2,100 432 1,668 420 1,248 600 648 2,626 3,274 Lastyear 000 22,410 11,618 10,792 6,174 4,618 912 3,706 780 2,926 800 2,126 3,274 5,400

Balancesheetasat31December: Yearbeforelast 000 000 Fixedassets Currentassets Stocks Tradedebtors Otherdebtors Cash Creditors:amountsfallingdue within oneyear Tradecreditors Othercreditors Taxation Dividends Bankoverdraft Netcurrentassets Creditors:amountsfallingdue withinoneyear Loancapital Capitalandreserves Ordinarysharesof0.50each Retainedprofit 8,600 2,418 1,614 268 56 4,356 5,820 3,744 402 8 9,974 Lastyear 000 000 14,470

1,214 248 420 600 2,482 1,874 10,474

2,612 402 780 800 4,250 8,844 1,130 15,600

3,600 6,874 3,600 3,274 6,874

6,600 9,000 3,600 5,400 9,000

The board of directors was not able to agree on a way of dealing with the financial problem faced by the company. Jill believed that their best hope was to continue to wrangle with the bank over its demands. She felt that there was still a chance that the bank could be persuaded to change its mind once the draft accountsforlastyearweremadeavailableandoncethebankwasinformedofthe implicationsforthecompanyofpayingoffsuchalargepartoftheoverdraftinsuch ashortperiodoftime.MikeandJane,ontheotherhand,werenotoptimisticabout the prospects of changing the banks position. The company had breached its overdraftlimitonseveraloccasionsoverthepastfewyearsandtheyknewthatthe patienceofthebankwasnowwearingthin. The directors believed that the only real solution was to look for someone who waspreparedtomakeasignificantinvestmentinthebusiness.Theyfeltthatonlya large injection of new funds could keep the business on track. Like Jill, the other board members believed that the draft accounts demonstrated the success of the business over recent years and that this evidence would make the business attractive to a potential investor. The Keeble brothers rejected both of theseviews

as being impractical. In addition, theywereagainsttheideaofintroducinganother majorshareholdertothecompanyasthiswaslikelytodilutetheirinfluenceoverthe future direction of the business. The brothers believed that drastic and immediate action was required by the board, although theywerenotsurewhatformofaction shouldbetaken. After several hours of discussion, it was clear that the financial issue was not going to be resolved at the meeting. Instead, it was agreed that expertise from outsidethecompanyshouldbesoughttohelpthecompanyfindafeasiblesolution to the problem. The board decided to approach Drake Management Consultants, whichspecialisesinhelpingbusinesseswithfinancialproblems,andtoaskthefirm to produce aplanofactionfortheboardsconsideration.Jillagreedtocontactthe firmofconsultantsonbehalfoftheboardandtoagreethetermsofreferenceforthe work required. She was, however, apprehensive about what the proposed plan of action would contain. Immediately after the board meeting she discussed her concernswithMike.Shesaid,Itseemswehavetopayapenaltyforoursuccess.I onlyhopethispenaltywontinvolveundoingallourgoodworkovertheyears. Required: AssumethatyouareamemberofDrakeManagementConsultants.Prepareareport fortheboardofdirectorsofPaceLeisurewearLtdthatanalysestheproblemsfaced by the company and that sets out a detailed plan of action for dealing with its financingproblem.

2 Carpetrightplc
Carpetrightplcisacarpetretailerthatoperatesanetworkofstoresthroughoutthe UK and aims to be the largest and most profitable carpet retailer in the UK. The market for floor coverings has not been very buoyant in recent years and for Carpetrightsyearended26April2001therewasnogrowthinthemarketatall. Given the general state of the market and the ambition of the business, Carpetright has committed itself to increasing sales by increasing its share of the floor coverings market. At present, the UK market is very fragmented, with around 60 per cent of the total market being supplied by thousands of small independent retailers. Thecompanyoperatesthroughfourtradingformats: Carpetrightisavalueformoneytradingformataimedatthelowerandmiddle sectorsofthemarket. Carpet Depot is a superstore and showroom format offering a wide range of moreexpensiveandbrandedproducts. Harris Carpets (named after the Chairman of Carpetright plc, Lord Harris) operatesfromhighstreetandoutoftownsites. Harris Carpet at home aims to compete with the high street for the 50 to 60 per cent of shoppers who do not buy their floor coverings in outoftown centresandoperatesfrom17vans.

BytheendofApril2001,thecompanyhad325storesintotal,comparedwith321 atthepreviousyearend. Theprofitandlossaccountandcashflowstatementfortheyearended26April 2001andthebalancesheetatthatdateareshownbelow,alongwithextractsfrom thenotestotheseaccounts. Required: From theinformationprovided,commentonthefinancialperformanceandposition ofCarpetrightplcfortheyearended28April2001fromtheviewpointof: (a) Aprivateshareholderwhoholds1percentoftheordinaryshares. (b) A carpet manufacturer which has been asked to supply the company with a largequantityofcarpetsoncredit.

Profitandlossaccount fortheyearto28April2001 Yearto Yearto 28April2001 29April2000 000 000 322,917) 304,818) (140,610) (138,275) 184,642) (3,440) (137,499) 974) 44,677) 154) (279) 44,552) (12,837) 31,715) (20,428) 11,287) pence 42.0 41.9 164,208) (2,488) (125,560) 693) 36,853) 38) (334) 36,557) (10,944) 25,613) (17,927) 7,686) pence 33.3 33.3

Turnover Costofsales Grossprofit Distributioncosts Administrativeexpenses Otheroperatingincome Operatingprofit Profitondisposaloffixedassets Netinterestpayable Profitonordinaryactivitiesbefore taxation Taxonprofitonordinaryactivities Profitforthefinancialperiod Dividendspaidandproposed Retainedprofitfortheperiod

Note 1,2

3 3 5

6 14

Basicearningspershare Dilutedearningspershare

7 7

There are no differences between the Companys historical cost profit and that recordedintheprofitandlossaccount(2000:nil). All turnover, operating profit and the profit on disposal of fixed assets of the Companyarisefromcontinuingoperations. Statementoftotalrecognisedgainsandlossesfortheyearto28April2001 000 000 Profitforthefinancialperiod 25,613 31,715 Exchangeratemovement 14 1 Totalrecognisedgainrelatingtotheyear 25,613 31,716

Balancesheet at28April2001 28April 28April 2001 2001 000 000 90,297) 28,453) 11,144) 16,220) 55,817) (93,474) (37,657) 52,640) 12 13 (4,699) (332) 47,609) 14 14 14 14 756) 12,395) 42) 34,416) 47,609) 29April 2000 000 29April 2000 000 70,986)

Tangiblefixedassets Currentassets Stocks Debtors Cashatbankandinhand Creditors:amountsfalling duewithinoneyear Netcurrentliabilities Totalassetslesscurrent liabilities Creditors:amountsfalling dueaftermorethanoneyear Provisionsforliabilitiesand charges Netassets Capitalandreserves Calledupsharecapital Sharepremiumaccount Capitalredemptionreserve Profitandlossaccount Equityshareholdersfunds

Note 8 9 10

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22,268) 11,783) 8,565) 42,616) (75,239) (32,363) 38,363) (2,674) (111) 35,578) 755) 11,653) 42) 23,128) 35,578)

These accounts were approved by the Board of Directors on 25 June 2001, and weresignedonitsbehalfby: LordHarrisofPeckham SJWinning Directors

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Cashflowstatement fortheyearto28April2001 Yearto Yearto Yearto 29 28April 28April April 2001 2001 2000 000 000 000 58,832) Yearto 29April 2000 000 47,129)

Note 20 Netcashinflowfrom operatingactivities Returnsoninvestmentsand servicingoffinance Interestreceived Interestpaid Interestonfinanceleases Netcashoutflowfrom investmentsand servicingoffinance Taxation UKCorporationTaxpaid Taxpaid Capitalexpenditure Paymentstoacquiretangible fixedassets Receiptsfromsalesof tangiblefixedassets Netcashoutflowforcapital expenditure Equitydividendspaid Netcashinflowbefore financing Financing IssueofOrdinaryshares Purchaseofownshares Capitalelementoffinance leaserentals Netoutflowfromfinancing Increaseincashinthe period

286) (243) (300)

99) (408) (158)

(257) (10,504) (10,504) (23,624) 1,092) (22,532) (18,515) 7,024) (7,783) 3,649) (5,597)

(467)

(5,597)

(4,134) (17,590) 19,335)

743) (1,218) (475) 6,549)

197) (7,961) (531) (8,295) 11,040)

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NoteReconciliationofnetcashflowtomovementinnetfunds 2001 000 6,549) 5,119) 11,668) 3) (3,369) 8,302) 2000 000 11,040) (2,475) 8,565) ) (3,446) 5,119)

Increaseincashintheperiod Openingnetfunds/(debt) Exchangedifference Financeleases Closingnetfunds

NoteAnalysisofchangesinnetfundsduringtheyear Exchange difference 2001 000 000 3 16,220) (1,103) 3 15,117) (6,815) 3 8,302)

Cashatbankandinhand Overdraft Financeleases Netfunds

2000 Cashflow Other 000 000 000 8,565) 7,652) ) (1,103) 8,565) 6,549) (3,446) 1,218) (4,587) 5,119) 7,767) (4,587)

Notestotheaccounts 1Principalaccountingpolicies (a)Accountingconvention TheAccountsarepreparedunderthehistoricalcostconventionandinaccordance withapplicableaccountingstandards. The following accounting policies have been applied consistently in dealing with items which are considered material in relation to the Companys financial statements. (b)Turnover Turnover represents the value of goods sold to customers excluding value added tax.

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(c)Depreciation Depreciationisprovidedtowriteoffthecostoffixedassetsonastraightlinebasis overtheirestimatedusefullivesasfollows: Freeholdandlongleaseholdbuildings Shortleaseholdbuildings Fixturesandfittings Plantandmachinery Computers Motorvehicles Freeholdlandisnotdepreciated. (d)Stock Stockisvaluedatthelowerofcostandnetrealisablevalue. (e)Deferredtaxation Deferredtaxationiscalculatedundertheliabilitymethodandisonlyprovidedwhere thereisareasonableprobabilitythataliabilitywillcrystallise. (f)Leasedassets Assetsfinancedbyleasingagreementsthatgiverightsapproximatingtoownership areheldunderfinanceleasesandincludedintangiblefixedassetsanddepreciated overtheshorteroftheirestimatedusefullivesortheperiodofthelease.Rentalsare apportioned between reductions in thecapitalobligationsincludedincreditorsand thoseamountsrelatingtofinancecharges,whicharechargedtotheprofitandloss accountataconstantperiodicrateofcharge. Alloperatingleaserentalsarewrittenofftotheprofitandlossaccountonastraight linebasisoverthetermofthelease. Income under operating leases is credited to the profit and loss on a receivable basis. (g)Pensions The Company operates a defined benefit pension scheme. The cost of providing pension benefits is spread over the expected working lives of pension scheme members.TheCompanyalsooperatesadefinedcontributionscheme,contributions towhicharechargedagainstprofitsastheybecomepayable. (h)Accountingfornewstores Benefitsreceivedasincentivestosignleases,intheformofreversepremiumsand postopeningrentfreeperiods,arespreadonastraightlinebasisovertheperiodto thefirstrentreview. Preopeningcostsareexpensedtotheprofitandlossaccountasincurred. 2%p.a. Lengthoflease 10%to15%p.a. 10%to15%p.a. 15%to20%p.a. 25%p.a.

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(i)Foreigncurrency The results of overseas operations are translated at the average rate ofexchange duringtheperiodandthebalancesheetattheraterulingatthebalancesheetdate. Exchangedifferencesarisingonthetranslationofopeningnetassetsaredealtwith through reserves. In addition, exchange differences between the results translated atanaveragerateandaclosingratearedealtwiththroughreserves. 2Segmentalanalysis TurnoverisattributabletocarpetretailingactivitiesintheUKandSouthernIreland. No analysis of turnover, operating profit or net assets is shown because Southern Irelanddoesnotrepresentamaterialpartoftheresultsorassets. 3Profitonordinaryactivitiesbeforetaxation Profitonordinaryactivitiesbeforetaxationisstatedaftercharging: 2001 000 8,147 55 16 37,066 522 66 300 146 974 233 2000 000 7,547 56 12 35,345 424 289 158 39 693 152

Depreciation Auditorsremuneration Auditwork Nonauditfeespaidtotheauditorsandtheirassociates Amountspayableunderoperatingleases Rents Plantandmachinery Interestonbankoverdraft Interestonfinanceleases Otherinterest Andaftercrediting: Rentreceivable Interestreceivable

4Staffanddirectors The average number of persons employed by the Company (including Directors) wasasfollows: 2001 Number 2,677 216 2,893 2000 Number 2,489 194 2,683

Stores HeadOfficeandWarehouse

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Theaggregatepayrollcostsofthesepersonswereasfollows: 2001 000 47,498 4,046 682 52,226 2000 000 41,714 3,630 561 45,905

Wagesandsalaries Socialsecuritycosts Pensioncosts

5Taxonprofitonordinaryactivities 2001 000 13,389 (552) 12,837 2000 000 11,020 (76) 10,944

UKCorporationTaxat30%(2000:30%) Overprovisioninpriorperiod

6Dividends 2001 000 Ordinary Paid11p(2000:10p)pershare Proposed16p(2000:13.5p)pershare Underprovisioninpriorperiod 8,316 12,102 10 20,428 2000 000 7,736 10,189 2 17,927

7Earningspershare Thecalculatedbasicanddilutedearningspersharefortheyearto28April2001is basedonearningsof31,715,000(2000:25,613,000). The weighted average number of shares used in the calculation of basic earnings per share for the year to 28 April 2001 was 75,541,628 (2000: 76,972,848). The weighted averagenumberofsharesusedinthecalculationofdilutedearningsper sharewas75,624,153(2000:77,040,558). Share options outstanding at less than fair market value of 82,525 (2000: 67,710) representthedifferencebetweenthebasicanddilutedweightedaveragenumberof shares.

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8Tangiblefixedassets
Freehold landand buildings 000 Cost: At29April2000 Additions Disposals At28April2001 Depreciation: At29April2000 Chargeforperiod Disposals At28April2001 Netbookvalue: At28April2001 Atbookvalue: At29April2000 25,357 11,803 37,160 847 312 1,159 36,001 24,510 Long leasehold landand buildings 000 3,394 3,394 64 25 89 3,305 3,330 Short leasehold buildings 000 10,610) 2,335) (270) 12,675) 1,897) 570) (71) 2,396) 10,279) 8,713) Fixtures and fittings 000 51,852) 8,310) (1,390) 58,772) 26,374) 5,762) (879) 31,257) 27,515) 25,478)

Plantand machiner y 000 13,872) 5,852) (318) 19,406) 4,917) 1,478) (186) 6,209) 13,197) 8,955)

Total 000 105,085) 28,300) (1,978) 131,407) 34,099) 8,147) (1,136) 41,110) 90,297) 70,986)

Computerequipmentcapitalisedunderfinanceleases 2001 2001 Cost Depreciation 000 000 8,564 143 2000 2000 Cost Depreciation 000 000 3,977

Costanddepreciationincluded inplantandmachineryabove Depreciationchargeforthe year

If the total freehold land and buildings and long leasehold land and buildings are valuedat40,554,000at28April2001,thebuildingelementsubjecttodepreciation is18,053,000.

9Stocks Allstockisheldintheformoffinishedgoodsforresale.

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10Debtors 2001 000 Amountsfallingduewithinoneyear: Tradedebtors Otherdebtors AdvanceCorporationTaxrecoverable Prepaymentsandaccruedincome 3,033 371 7,740 11,144 2000 000 2,442 512 1,110 7,719 11,783

11Creditors:amountsfallingduewithinoneyear 2001 000 1,103 2,116 42,962 18,081 12,102 7,432 8,485 1,193 93,474 2000 000 772 38,399 12,173 10,189 5,115 7,483 1,108 75,239

Bankoverdraft Obligationsunderfinanceleases Tradecreditors Accrualsanddeferredincome OrdinaryDividendspayable VAT CorporationTaxpayable PAYEandNationalInsurance

The Companys unsecured bank overdraft is repayable on demand and carries a commercialinterestratewhichmovesinlinewiththeBankofEnglandbaserate.A UKfacilityof20,000,000willbereviewedon18July2001andanIrishPuntfacility of 1,500,000 will be reviewed on 31 October 2001. Both facilities are reviewed annually. The Company has excluded short term debtors and creditors from all financial instrumentdisclosures.

12Creditors:amountsfallingdueaftermorethanoneyear 2001 000 4,699 2000 000 2,674

Obligationsunderfinanceleases

The maturity of obligations under finance leases are all payable between two and fiveyears.

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13Provisionsforliabilitiesandcharges Amountsprovidedandunprovidedinrespectofdeferredtaxationaresetoutbelow: 2001 Provided 000 332 332 332 2001 Unprovided 000 2,079 2,100 4,179 4,179 2000 2000 Provided Unprovided 000 000 332) 2,012 332) (221) 111) 1,984 3,996 3,996

Acceleratedcapital allowances Capitalgainsrolledover AdvanceCorporationTax recoverable

Themovementsonthedeferredtaxaccountaresetoutbelow: 000 111 221 332

At29April2000 AdvancedCorporationTaxrecoverable At28April2001

14Sharecapitalandreserves 2000 2001 1,000,000 1,000,000 754,720 756,402

Ordinarysharesof1peach Authorised100,000,000(2000:100,000,000) Issuedandfullypaid75,640,243(2000:75,471,978)

Themovementinsharecapital,sharepremiumaccountandprofitandlossaccount comprises:
Share capital 000 755 1 756 Share premium account 000 11,653 742 12,395 Capital Profit redemption andloss reserve account 000 000 42 23,128 1 11,287 42 34,416 Shareholders funds 000 35,578 743 1 11,287 47,609

Balanceat29April2000 Issuedsharecapital Exchangeratemovement Retainedprofitfortheperiod Balanceat28April2001

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Reconciliationofmovementsinshareholdersfunds 2001 000 31,715) (20,428) 11,287) 1) 743) ) 12,031) 35,578) 47,609) 2000 000 25,613) (17,927) 7,686) ) 197) (7,961) (78) 35,656) 35,578)

Profitforthefinancialperiod Dividends Retainedprofitfortheperiod Exchangeratemovement IssueofOrdinaryshares Purchaseofownshares Netincrease/(decrease)inshareholdersfunds Shareholdersfundsat29April2000 Shareholdersfundsat28April2001

At 28 April 2001 options over Ordinary shares under the Carpetright Executive ShareOptionSchemewereoutstandingasfollows: First Last Exerciseprice Ordinary exercise exercise perOrdinary Shares date date share(pence) 1,689 June1996 June2003 148 15,000 February1999 February2006 442 35,107 July2000 July2007 471 181,400 October2000 October2004 512 26,557 October2000 October2004 527 5,693 October2000 October2007 527 115,000 January2002 January2006 221 11,152 January2003 January2010 538 8,848 January2003 January2007 538 34,760 January2004 January2011 504 20,240 January2004 January2008 504 During the period 168,265 Ordinary shares were issued in consequence of the exercise of options under the Executive Share Option Scheme for a total considerationof743,284.

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15Financialcommitments (a)Capitalcommitments Capitalcommitmentsat28April2001forwhichnoprovisionhasbeenmadeinthe Accountswereasfollows: 2001 000 3,835 2000 000 4,477

Authorisedandcontracted

Of the above capital commitments contracted for but not provided, 1,674,000 (2000: 2,601,000) relates to the development of retail merchandise management systems, which has been fully funded by a leasing facility provided by Siemens FinanceLimitedfollowingtheperiodend. (b)Operatingleasingcommitments At28April2001theannualcommitmentsinrespectoflandandbuildingsandother assetsunderoperatingleaseswereassetoutbelow: 2001 Landand buildings 000 Operatingleaseswhichexpire: Withinoneyear Betweenoneandfiveyears Overfiveyears 75 182 41,822 42,079 2000 2001 Landand Other buildings 000 000 18 440 458 201 174 33,325 33,700

2000 Other 000 69 159 228

16Financialinstruments Details of financialriskmanagementandinterestratepoliciesarecontainedinthe Directorsreport. (a)Currencyexposure NetmonetaryassetsandliabilitiesoftheCompanythatarenotdenominatedinthe localfunctionalcurrencyareasfollows: Netforeigncurrencymonetaryassetsand(liabilities) 2001 000 (1,688) 2000 000

Irishpunt

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17Subsidiaryundertakings At 28 April 2001 the Company had nine wholly owned subsidiary undertakings as follows: IssuedOrdinary sharecapital 2 2 2 2 2 2 2 2 2 Countryof incorporation GreatBritain GreatBritain GreatBritain GreatBritain GreatBritain GreatBritain GreatBritain GreatBritain GreatBritain

CarpetDepotLimited CarpetrightofLondonLimited HarrisBedsLimited HarrisCarpetsathomeLtd HarrisCarpetsLimited HarrisCarpetsDirectLimited harriscarpetsdirect.comLimited HarrisFurnishingsLimited PremierCarpetsLimited

Each subsidiary undertaking has never traded and is dormant for Companies Act purposes. Given the immateriality of these undertakings, group accounts have not beenprepared.

18Contingentliabilities Therewerenocontingentliabilitiesrequiringdisclosureattheyearend(2000:nil).

19Pensionscosts The Company operates a pension scheme providing benefits based on final pensionable pay. The assets of the scheme are held separately from those of the Company, being invested in a Managed Fund operated by the Clerical Medical InvestmentGroup.Thecontributionsaredeterminedbyaqualifiedactuaryusingthe projected unit method. The most recent actuarial review was at 6 April 1999 when the market value ofthefundwas3,154,536excludingthevalueofanyAdditional Voluntary Contributions and at which date the actuarial value of the assets represented 106% of the benefits accrued to members after allowing for expected futureincreasesinearnings.Theassumptionswhichhavethemostsignificanteffect on the results of the valuation are that the yield on the fund exceeds salary increases by 2% per annum and that immediate annuities can be bought at rates with an underlying interest rate of 8%. The pension charge for the year was 348,379(2000:294,277).ThecontributionsoftheCompanyandemployeeswere 12.6% and 5% of earnings respectively. Contributions totalling 38,005 (2000: 36,657) are included in creditors and have been paid to the fund since the year end. In addition, the Company also operates a defined contribution pension scheme which employees have the right to join on request after fulfilling the eligibility conditions. Contributions are made by the employees which, up to an upper limit, are matched by the company. The assets of the scheme are held separately from those of the Company and are invested by the National Provident Institution. The
21

contribution by the Company for the year was 354,625 (2000: 280,382). Contributions totalling 68,958 (2000: 56,537) are included in creditors and have beenpaidtotheschemesincetheyearend.

20 Reconciliation of operating profit to net cash inflow from operating activities 2000 2001 000 000 44,677) 36,853) 8,147) 7,547) 670) (6,187) (745) (1,039) 12,940) 3,089) 58,832) 47,129)

Operatingprofit Depreciation (Increase)/decreaseinstocks Increaseindebtors Increaseincreditors Netcashinflowfromoperatingactivities

20Relatedparties Related party transactions which require disclosure are detailed in the Directors Report. ThiscasestudyisreproducedwithpermissionofCarpetrightplc.

22

3 GadaboutTravelLtd
Gadabout Travel Ltd (GT) organises holidays abroad for UK clients.Thecompany charters planes and books hotels. The charter arrangements are such that the air operators include all UK transport costs, airport charges and so on in the charter price. The contracts with the hoteliers require them to deal with all local arrangements, including transfers from airports to hotels and local activities where these are a feature of particular holidays. All holidays are booked by clients and paidthroughUKtravelagents.Byhavingtodealonlywithairlines,hotelsandtravel agents,GTisabletobeadministrativelystreamlinedand,itsmanagementbelieves, efficientandpricecompetitive. GTs holidays are of two types: summer beach holidays and winter sports holidays. The company charges a flat rate for all holidays, distinguishing only betweenthebeachholidaysandthewintersportsones.AnunusualfeatureofGTs holidays is the fact that full payment must be made with booking. Although this is unusual, GT is able to sustain this policy by being very pricecompetitive. The managementbelievesthatanypossiblelossofcustomthroughfollowingthispolicy is outweighed by the knowledge that bookings, once made, are certain from the companyspointofview. Furtherinformationaboutthecompanyandforecastsfornextyearareas follows: (i) Travel agents deduct a 10 per cent commission from the full price of each holiday before remitting the other 90 per cent to the company at the time of booking. (ii) Winter sports holidays have a cost to the customer of 350 each and beach holidayscost300each. (iii) FlightsandhotelaccommodationarebookedbyGTassoonasthebookingis received from a customer. Airline charges for both types of holiday are 100 perpassenger.Hotelchargesare125forbeachholidaysand150forwinter sports holidays. Both airline and hotel charges must be paid in the month in which the holiday was originally due to be taken. If a holiday is cancelled by thetimethatpaymentisduetotheairlineandhotels,theyaccept60percent oftheseamountsinrespectofthecancelledplaces.Airlineandhotelcharges for later cancellations have to be made in full. ItisnotGTspracticetomake anyrefundstoitsclients,irrespectiveofthedateofcancellation.Thecompany tendstoknowfromexperiencewhatpercentageofholidaysbookedislikelyto becancelled. (iv) At 31 December this year the company has received 660 bookings for winter sportsholidays.Table1showstheestimatedbookingsandcancellations.

23

Table1 Holidaysbooked Winter Beach 660 700 150 740 980 120 860 40 660 450 100 80 80 70 50 110 360 400 Holidaystaken Winter Beach 540 520 790 230 200 370 890 1,070 600 Holidayscancelled Winter Beach 40 50 70 20 20 30 80 90 60

PreJan Jan Feb Mar Apr May June July Aug Sept Oct Nov Dec

The Holidays cancelled columns of Table 1 show the month for which the cancelledholidaywasintendedtobetakenatthetimeofbooking.Pastexperience suggests that, of the holidays that are cancelled, 50 per cent will be cancelled beforepaymentisduetotheairlinesandhotels,and50percentwillbecancelled laterthanthis. GTs outline balance sheet as at 31 December this year is expected to look as follows: Fixedassets Freeholdlandandbuildings Equipmentandfurniture 210,000 57,000 267,000

Currentassets Prepaidrate Cash

500 21,200 21,700

Currentliabilities Accruedelectricity Trade creditors (660 winter sports (350 10%))

1,500 207,900 209,400 (187,700) 79,300) 79,300)

Sharecapitalandreserves

(v) SalariesatGTwillbe20,600foreachmonthoftheensuingyear.Thesewill bepaidduringthemonthinwhichtheyareincurred.

24

(vi) Electricity is expected to be the same as this year at about 1,500 each quarter,payableon1January,1April,andsoon. (vii) The business rate is also expected to be the same as this year at 2,000 in total,payableintwoequalinstalmentson1Apriland1October. (viii) Repairs are expected to cost about 100 each month, payable in the month concerned. (ix) Depreciation is to be charged at the rate of 20 percentonthebookvalueof theequipmentandfurniture.Nodepreciationistobechargedonthebuilding. (x) Staff will incur costs for travelling on behalf of the company. These are expected to be at the rate of 3,500 each month during the months when holidaysarebeingtakenbyclients.Duringeachoftheotherthreemonths,the figurewillbe500. Thecompanyhasalwaysadoptedthepolicyofrealisingtheprofitonaparticular holidayinthemonthinwhichitistaken. Required: Prepare a monthbymonth cash budget and a budgeted profit and loss account, both for next year, and a budgeted balance sheet as at the end of next year. You should also make some comments on the companys plans and on the policy of waitinguntilholidayshavebeentaken,orwereduetobetaken,beforerealisingthe profitonthem.

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4PaceLeisurewear(2)
(ContributedbyJohnBoston) "Why is it that the money men undo all our good work?" asked Jill Dempsey, despairingly.MikeGreaves,theProductionDirectorofPaceLeisurewear,decidedit wasbestnottoreplytoherquestion:Jillhadalotofreasontobeunhappyfollowing theappointmentofPeterDrakeasa"companydoctor"onemonthearlier. PeterhadbeenapproachedbyPaceLeisurewearattheendofFebruaryinorderto suggestaplanofactiontoimprovethecompany'sfinancialposition,andeventshad then moved quickly. Peter was the senior consultant in Drake Management Consultants,whospecialiseinhelpingbusinesseswithfinancialproblems,andhad been approached following some very difficult discussions with the company's bankers and the largest shareholders, the Keeble brothers. The bank had insisted that the company reduce its overdraft, which was 4.25 million at the end of December,andhadwrittentothecompanyinFebruaryrequestingthattheoverdraft behalvedbytheendofJune.AtaboardmeetingattheendofFebruaryJillwanted to continue to wrangle with the bank over its demands, which she felt to be unreasonable because the company was growing fast and producing large profits (2.926 million after tax for the year to 31st December, up from 1.248 million the year before). However, David and John Keeble had decided that the company neededtointroducesomeoutsideexpertiseinordertoturnthecompanyround,and hadlookedtoDrakeManagementConsultantsfirstlyforadviceandthen,following their report, to Peter Drake himself to take an executive role. The Keeble brothers knew that Pace Leisurewear, whilst having a very talented designer of fashion clothes (Jane Barker, the Design Director) and experienced Marketing and Productiondirectors(JillDempseyandMikeGreavesrespectively),didnothavethe leveloffinancialexpertisethatitrequired.TheysawthatPeterDrakewasanexpert whowouldbesupportedbyboththecompany'sbankersandtheauditors,andthey toldtheboardthatthecompanyneededtosortitselfoutfinancially,anditcouldnot continue to test the patience of the bankers, who had already been faced with brokenpromisesfromPaceLeisurewear,andhadgrantedaloantothecompanyof 6.6million,inadditiontotheoverdraft. PeterDrakemadesomebigchangeswithinthefirstmonth.Hehadacloselookat both stock and debtors, with the intention of freeing up asmuchcashaspossible, andstartedtoimplementpoliciestoreduceworkingcapital.Hefounditnecessaryto make provisions against some of theoldstockitems(mainlyitemsfromlastyear's fashions) which totalled 1.3 million, and he wrote off 600,000 ofdebtorswhenit wasrealisedthattwolargecustomerswereinliquidation.Hestatedanintentionthat PaceLeisurewearshouldworktowardsanidealpositionwhereproductionwouldbe undertakenonlyonreceiptofanorder(withdeposit)andwheredeliverieswouldbe madeonreceiptofcash,citingthetransientnatureofthe"ragtrade"forthesetough policyaims.

26

JillDempseydidnotliketheappointmentofPeterDrake,especiallyasshewasthe mostvisiblecasualtyofhisreorganisation.ShehadbeentheManagingDirectoras wellasMarketingDirector,butwasnowonlyMarketingDirector.Petertookoverthe ManagingDirector'sresponsibilities,alongwithoverseeingfinancialmatters,which werepreviouslylookedatbyMikeGreaves,whohadbeenadvisedbytheauditors whentheydidtheirannualaudit.Jilldidn'ttrustPeterDrakewhenhesaidthatallof theteamshouldkeeptheirareasofexpertise,andfelthewasouttosackher.She was also very angry by his insistence that the 800,000 dividends that were proposedbutnotpaidattheFebruarymeetingshouldbecancelled:shewouldhave received nearly 39,000 if these had been paid, and was now having to abandon her plans to move into the lovely big house that she had been wanting to buy for severalyearsbecauseshecouldnolongerafforditthankstohim.Hedidn'teven know the fashion industry: she knew that customers demanded credit, and would purchaseelsewhereifthecompanywouldstopgivinganycredit.Buttheworstofhis decisionswerethetwowriteoffs,whichtookthecompanytoalossof1.404million for the quarter. "He's only been here a month, but we're nowmakingourfirstever loss and he'schargingus25,000amonthtoscrewitup",shefumedtoanyone whowouldlisten. Not that many did listen to her any more. Mike seemed almost relieved to concentrateonlyonproduction.JaneBarker,theonlyotherexecutivedirector,was really only interested in her designs, and the Keeble brothers, who between them held 1 million shares in the company, were too busy with their other business interests to do any more than agree to whatever Peter suggested in his frequent telephonebriefings,itseemedtoJill.Shefeltletdownbythebrothers,too:shehad knownthemforyearsandtheyhadencouragedherselfandMiketoriskalltheirlife savingsandstartupthecompany,buttheyhadsaidinFebruarythattheywantedto sell their shareholding as soon as the company's prospects improved. Where was theirloyalty? JilldecidedthatshewoulddemandthesackingofPeterDrakewhentheBoardmet in a couple of days. On the agenda were two topics: the plans for the next three months and the figures for the three months to the end of March, which show the loss.SheaddedathirdtodebatetheretentionofPeterDrake.

Required: 1. YouaretopreparetheProfitandLossAccountforthequartertoMarch, alongwiththeBalanceSheetattheendofMarch,astatementshowingin simpletermsthecashmovementsoftheperiod,andananalysisofthe results. (Appendix 1 contains the opening Balance Sheet and last year's Profit and Loss Account, along with any other necessary information for the three monthstoMarch).

27

2.

You are to prepare also theprojectedfinancialstatementsforthequarterto June,basedontheassumptionsinAppendix2,andtoprovideananalysisof theexpectedperformanceofboththecompanyandPeterDrake.

28

Appendix1

BalanceSheetasatlast31December 000 Fixedassets CurrentAssets Stock Debtors Otherdebtors Cashatbank Cashinhand Creditors:amountsfallingdue within1year Tradecreditors Othercreditors Taxation Dividends Bankoverdraft NetCurrentAssets Creditors:amountsfallingdue after1year Loancapital 000 000 14,470

5,820 3,744 402 0 8

9,974

2,612 402 780 800 4,250

8,844 1,130

1,130 15,600

6,600 9,000

CapitalandReserves Ordinarysharesof0.50each Retainedprofit

3,600 5,400 9,000

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(i) ProfitandLossAccountfortheyearendedlast31stDecember

Turnover CostofSales GrossProfit Operatingexpenses Operatingprofit(beforeinterestandtaxation) Interestpayable Profitbeforetaxation Taxation Profitaftertaxation Proposeddividend Retainedprofitfortheyear Retained profit brought forward from previous year Retainedprofitcarriedforward

000 22,410 11,618 10,792 6,174 4,618 912 3,706 780 2,926 800 2,126 3,274 5,400

30

Furtherinformationrelevanttothethreemonthsto31stMarch (Allnumbersarein000s) Salesforthequarterwere6,300,andallwereoncredit. Cashreceiptsfromdebtorstotalled5,804. Debtorwriteoffstotalled600. Purchasesofstocktotalled2,800(alloncredit),and2,790waspaidtocreditors. Stockwriteoffstotalled1,300. CostofGoodsSoldtotalled3,600. Operating expenses (excluding depreciation) were 900, all of which were paid immediatelyasincurred.Thisfigureincludes25forPeterDrake'ssalaryforMarch. Thedepreciationexpensewas904.Therewerenopurchasesoffixedassets,nor anydisposals. Interestexpensesfortheperiodwere400. Other debtors, other creditors and cash in hand remained constant. The taxation wasnotduetobepaiduntilSeptember. TheBoarddecidedinFebruarythatnodividendsregardingthepreviousyearwould bepaid.Thenetlossforthequarterwas1,404.

Appendix2

Furtherinformationrelevanttothethreemonthsto30thJune (Allnumbersarein000s) Salesforthequarterwillbe6,300,andallwillbeoncredit. Cashreceiptsfromdebtorswilltotal6,650. Debtorwriteoffswilltotal150. Purchases of stock will total 2,160 (all on credit), and 2,110 will be paid to creditors. Therewillbenostockwriteoffs. CostofGoodsSoldwilltotal3,600. Operating expenses (excluding depreciation) will 875, all of which will be paid immediatelyasincurred.ThisfigureexcludesPeterDrake'ssalaryforthequarter. Thedepreciationexpensewillbe904.Therewillbenopurchasesoffixedassets, noranydisposals. Interestexpensesfortheperiodwillbe278. Otherdebtors,othercreditorsandcashinhandwillremainconstant.Thetaxationis notduetobepaiduntilSeptember.

31

5Landlord:investmentappraisal
(ContributedbyJohnBoston) Youhaverecentlygraduatedfromuniversityandhaveajobwithanannualsalaryof 20,000.Youhavealsojustinherited20,000fromyourgrandmother,GrannyElsie, whostipulatedinherwillthatyoumustusethemoneytoinvestinaprojectthatwill provide a good return, and which will help secure the financial future of you, her favourite grandchild. After much thinking you have decided to buy a house in the city of your university which you will rent out to students and for which you will handlealltheadministrationandrepairwork,asyouareplanningtostayinthecity for the foreseeable future, and happen to be competent at most straightforward repair work that would be necessary to maintain ahouse.Forthepurposesofthis case study you can assume that youhavealreadygotsuitableaccommodationfor yourself,andwillnotbeplanningtomoveintothepropertythatyoubuy. You have contacted the banks and building societies and realise that you will be abletoborrowuptothreetimesyourannualsalary,butwillhavetopayinterestat halfofonepercentabovetheirnormalvariablemortgagerateduetotheincreased risk which follows from renting out a property. You do not have to borrow the full amount, and will be happy to borrow less than this maximumlevel if you find you havenoneedforit. You have contacted the universitys accommodation office, who tells you that studentswanttorentpropertiesclosetotheuniversity,butwhodoesnotspecifyto youthebestareasforrentingtostudents.Shetellsyouthatstudentsarelookingto rent good quality properties, and that the property you rent should, ideally, be classed by the accommodation office as A grade. She does not tell you the requirements of an A grade, except that the property must be structurally sound andbeingoodcondition.Shedoesnotspecifytherentalthatyouwouldbeableto charge,northenumberofweeksayearforwhichrentalwillbereceivable,butdoes agree that your property can be placed on their register free of charge. It is expectedthatagoodproperty,intherightlocation,willbedesiredbystudents,and thatyoushouldbeabletorentalltherooms. Thecitycouncilinformyouthatfireregulationsapplytopropertiesofthreefloorsor more, but not to properties oftwofloorsorless.Giventhatthefittingoffiredoors, escapeladders,etc.willbeextremelyexpensive,youdecidetolimityoursearchto propertiesforwhichtheregulationswillnotapply.

32

You will want to find a property that is structurally sound, although you are willing andableyourselftoredecoratethroughoutthepropertybeforerentingcommences. Ifyouseeapropertyrequiringstructuralwork,youestimatethatthefollowingcosts apply: Reroofing Electricalrewiring Installation of gas central heating Replacement of all windows anddoors 3,000 2,000 3,000 2,500

Assume that no other type of structural work would possibly be required if a propertyrequiredmorethanthisitwouldnotbesuitableforpurchase. If you purchase a property for 60,000 or over stamp duty will be payable immediately to the government at 1 per cent of the full purchase price if the purchasepriceislessthan60,000nostampdutywillbepayable. You estimate that providing necessary furniture and fixtures and fittings will cost 5,000. You reckon on spending 700 on legal fees and 400 on survey costs before you make a purchase, which you anticipate will occur in June in order that youwillhavethepropertyreadyforviewingsinAugustpriortoletting commencinginSeptember. Youaretoassumethatyouwillrentthehouseoutfor10years,attheendofwhich you will sell the property for the purchase price paid (including the structural work performed) plus the growth of 1 per cent each year, this reflecting the anticipated increaseinpropertypricesovertheperiod.Deductfromthesalesfigure2percent ofthefinalsalespriceachieved,whichwillbethesellingagentscharge. Annualcostswillincludeinsuranceat300andrepairsat1,000. Required: Youaretoprepareanappraisalforasuitablepropertyusingtheinformationabove, makinganyassumptionsthatyouconsiderreasonable.Thiswillbepresentedalong withabriefsummaryreportandevidencesupportingyourassumptionsseedetails fromyourlecturer. Youwillneedto: 1.Identifyapropertythatiscurrentlyonthemarket(hint:estateagentswillgiveyou propertydetails,andyourlocalpaperwillhaveapropertyfeatureonceaweek) andestimatetherequiredstructuralworks. 2.Consider the amount of rent receivable each year. This assumption is to be backed up with appropriate evidence such as examples of rental agreements thatillustrateanyrelevanttermsandconditions,thelocationofthepropertyand thenumberoflettablerooms.

33

3.Assume that the revenues and costs identified in your first year will not change withinflation(orotherwise)duringthe10yearperiod. 4.Ignoretaxation(includingMIRASrelief),waterratesandCouncilTax. 5.Assume that a normal variable rate mortgage is charged at a rate of 1 per cent abovethebaselendingrate. 6.Showthesensitivityoftheappraisaltochangesinthevariablemortgageinterest rate. 7.Provideappropriateevidencetosupportyourassumptions.

34

6BlueHillsCountryPark
(ContributedbyGrahamClayton) BlueHillsCountryParkisalargeleisureparksituatedinNorthDevon.Itopenedin Year0andoffersawiderangeofindoorandoutdooramusementsforchildren(and indeed many parents) of all ages. Thus family groups are a prime market for the park. Blue Hills is owned and runbythePalmerfamilyandhasbeenbuiltonland previously used for dairy farming. Jenny Palmer is the managing director of Blue HillsCountryParkLtd(whichhasatradingyearendof31December).Herhusband and fatherinlaw are fellow directors, but most of their time is spent running the familyfarmwhichadjoinsthepark. It is now September Year 5 and Jenny has returned recently from a trip to Florida whereattheEvergladesFunParkshesawtheOlympicSlideinoperation.Thisis adryslopetobogganrun.Customerssitinsmallplastictoboggans,arewinchedup tothetopofahillandthenrunatsomespeeddownanaluminiumtrackbacktothe start of the ride. She was impressed by the rides popularity (there were large queues throughout the day) and is convinced that it would be equally popular at Blue Hills. She has spoken to the management of Gulf Stream Industries Inc. (the manufacturer and patent holder of the Olympic Slide) and has a verbalagreement withthemthatshecouldopen(withadifferentname)suchafacilityinDevon.She planstocalltherideTheKresstaRunandfeelsthatasitwouldbetheonlyoneof itskindinEngland,itwouldgeneratea5percentperannumcompoundgrowthin visitors to Blue Hills. Although time is short, the Run could be built by the end of Year5andinoperationbythestartofthenewyear(i.e.JanuaryYear6). YouhavebeenaskedbyJennytoadviseheronthefinancialviabilityoftheKressta Run.Thefollowinginformationhasbeenmadeavailabletoyou: AveragevisitorsperdayinYear5 (includinganestimateforOctobertoDecember):1,050 NumberofdaysthatBlueHillsisopentothepublicinYear5:360 Entrance fee per person (all pay the same price and the amusements are thenfree):4.00 Variablecostpervisitor:0.25 Fixedcostsperquarter:200,000 StaffemployedatBlueHills(40oftheseareparttime):55 Averageexpenditureperheadbyvisitorsinthecafeteria/giftshop:2.00 Standardmarkuponcostpriceinthecafeteria/giftshop:100%

35

DetailsofthecostsofinstallingtheKresstaRun(allofwhichwillattractcorporation taxallowancesof25percentreducingbalanceperannumfromYear5)are: LandscapingofTopField(autumnYear5) Aluminiumtrack(autumnYear5) Costof60plastictoboggans(autumnYear5) Conversion of barn in Top Field to be a control centrefortheRun(autumnYear5) Cost of winching equipment for the toboggans (autumnYear5) 30,000 90,000 60,000 25,000 35,000

ThemanagementofGulfStreamhaveadvisedJennythattheequipmentwilllastfor four years from the start of operations. Jenny is adopting a prudent approach and feelsthattheequipmentwillhavenoscrapvalueattheendofYear9.GulfStream willbechargingBlueHillsafixedamountof40,000perannum(Year5prices)for fouryears(fromYear6)forthepatentrightthatcoversitsinvention. She estimates that four extra staff will be employed to operate the Kressta Run. Theywillbepaid8,000perannumeach(Year5prices).Theannualrunningcosts oftheRunwillbe(Year5prices): Maintenance Electricity Specialadditionalinsurancecover 20,000 10,000 15,000

In addition Jenny informs you that in April Year 5 the Palmers received planning permission for the barn in Top Field. This would cost 5,000 to convert and, according to Jenny, there is a local couple interested in buying the converted propertyatapriceof35,000(Year5prices).Theearliestdatethattheconversion andsalewouldbecompletedistheendofYear6.(Ignorealltaximplicationsofthis property.) There are no plans to increase the entrance fee to Blue Hills in the foreseeable future. However, staffcostsandrunningcosts(maintenance,electricity,insurance) areexpectedtoriseby4percentperannumfromthestartofYear6.

Required: Advise Jenny Palmer as to whether she should proceed with this venture. You should assume, in the first instance, that Blue Hills Country Park Ltd would use a moneycostofcapitalof7percent.(Youshoulduseacorporationtaxrateof25per cent throughout and note that the tax is payable 12 months after the end of the relevant trading year.) Would your advice to Jenny change if any of the following, mutuallyexclusivesituationsarose: (i)visitorgrowth(compound)perannumwas3percentratherthan5percent,or (ii)theannualinflationrateforstaffandrunningcostswas7percentratherthan4 percent,or

36

(iii)

management used a money cost of capital of 10 per cent rather than 7 per cent.

You are advised to construct a spreadsheet model to aid you with this exercise. If you can get the model to work properly then you clearly understand the interrelationships(andeffects)ofalloftheinformationgiveninthecase.

37

7Homelandplc
Jack Bennett, who had previously worked as a purchases manager for a large furniture retailer, started Homeland plc fifteen years ago. His job as a purchases manager had involved aconsiderableamountoftraveland,duringabuyingtripto Sweden, he was drawn to the product rangeofaparticularfurnituremanufacturer. Although he wanted to place a large order with the manufacturer, his employer rejected the idea. He was convinced, however, that the furniture would be very popularintheUKandthatitwastoogoodanopportunitytobemissed.Hetherefore decided to start his own business to import and sell the furniture to UK furniture retailers.

Homelandplcwasnotanimmediatesuccessandduringthefirstfewyearsofitslife itwasfarfromcertainthatitwouldsurvive.However,abreakthroughoccurredwhen a department store began to place large orders for the furniture. This was soon followedbyordersfromotherlargeretailersandthebusinessthenenteredaperiod of sustained growth. The rate of growth since the initial breakthrough has been steady rather than spectacular. During the period from 1998 to 2002, for example, thesalesrevenueofHomelandplcgrewatarateofaround5percentayearand profitsincreasedbyaround6percentayear.

Attheendof2002JackBennettwastakenillandwasadvisedbyhisdoctortostop working. He had, until his illness, been both Chairman and Chief executive of Homeland plc and had been the driving force behind the performance of the business.Althoughhehadintendedforhisson,Daniel,totakeovereventually,he had not envisaged this happening until some years into the future. At the time of Jacks enforced retirement, Daniel was not even working for the business. After graduatinginmarketingfiveyearsearlier,heworkedintheUSforalargefurniture retailertogainexperience.Nevertheless,hewasaskedbyhisfathertoreturntothe UK and take over Homeland plc. Despite Daniels lack of experience of the UK

38

business environment, Jack Bennett had faith in his son and, as he was the controlling shareholder, no one could challenge his decision that Daniel should replacehim.

The abridged financial statements for Homeland plc at the time that Jack stepped downasChairmanandChiefexecutivearesetoutbelow:

Incomestatementfortheyearto31December2002

000 Salesrevenue Less:Costofsales Grossprofit Less:Overheads 14,945 10,460 4,485 3,010 1,475 Addincomefrominvestments Netprofit Less:Corporationtax 100 1575 315 1,260 Less:Dividendpaid Retainedprofit 800 460

Balancesheetasat31December2002
000 000 Balancesheet Noncurrentassets Freeholdlandandbuildings Fixtures,equipmentandvehicles netofdepreciation 1,450 7,950 6,500

39

Tradeinvestments

1,200 9,150

Currentassets Inventories Receivables Bank 1,750 1,340 540 3,630 Less:Currentliabilities Payables 910 2,720 Netassets 11,870

Equity Ordinary1shares Retainedprofit 2,000 9,870 11,870

Daniel took over the business during a period when competitive pressures in the retail furniture sector were increasing. He soon became aware of these pressures from the board of directors, whohadallworkedforthebusinessforseveralyears. Oncealertedtothedifficultiesfacedbyitscustomers,Danielcommissionedafirmof marketing consultants to examine the trends in the retail furniture sector and to suggest how Homeland plc should position itself to take account of changes in its customerbase.Theconsultantsreportedthattheretailfurnituresectorwouldsoon go through a period of consolidation and this would mean that smaller furniture retailerswouldeitherbeswallowedupbylargerretailersorwouldbeforcedoutof business. To ensure that Homeland plc was able to survive consolidation in its customer base, the consultants argued that the business had to grow. They were convinced that Homeland plc would be better placed to meet the needs of its customers,whowouldbefewerinnumberbutlargerinsize,ifitwereitselfamuch larger business. The recommendations set out in the report of the consultants

40

chimed with Daniels own experience in the US and so he decided that Homeland plchadtobecomeabiggerplayerinthemarket.

At the beginning of 2003 Daniel embarked on an expansion plan for the business thatwouldrequirebothskillandnerve.Heimmediatelydoubledthesizeofthesales team and set the sales director ambitious sales targets. He also entered into agreements with a number of Scandinavian furniture manufacturers to buy large quantitiesoffurnitureoverthenextthreeyears.Inordertosecurethebestpossible prices,theseagreementshadtobebindingandsotherewasconsiderablepressure on the sales force to meet the targets that had been set. During the threeyear period 2003 to 2005, Homeland plc succeeded in meeting its sales targets and gaining greater market share. Daniel, however, wasnotsatisfiedwiththeprogress that had been made and felt that there was much more to be done. He was convinced that Homeland plc needed to be an even more dominant force in the marketinordertodealsuccessfullywiththelargefurnitureretailers.

Unfortunately, further growth was being constrained by a lack of finance. The business had an overdraft facility, which had been exceeded many times, and the bank was now demanding a halving of the existing overdraft balance. Daniel decided that a new issue of shares would help to put the business back on track, however, the existing shareholders were unable to raise the funds to buy new shares.Hethereforesetupameetingwithadevelopmentcapitalprovider,Vulturus Ltd,toseewhetheritwouldbepreparedtohelpfundfurtherexpansion.Ameeting between Daniel and the senior directors of Vulturus Ltd took place toconsiderthe proposaltookplaceinearly2006.Atthemeeting,Danielpointedoutthatalthough much progress had been made, the business was only half way through its expansion plans. At the meeting, he also submitted the financial statements of Homelandplcforthethreeyearperiodsincehetookoverfromhisfather,andwhich aresetoutbelow.

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Abridgedfinancialstatementsforthe3yearsending31December

Incomestatement

2003 000

2004 000 18,900 14,175 4,725 3,705 1,020 100 1,120 224 896 800 96

2005 000 22,700 17,800 4,900 3,900 1,000 1,000 200 800 800

Salesrevenue Less:Costofsales Grossprofit Less:Overheads

16,650 12,050 4,600 3,500 1,100

Addincomefrominvestments Netprofit Less:Corporationtax

100 1,200 240 960

Less:Dividendpaid Retainedprofit

800 160

2003 000 Balancesheet Noncurrentassets Freehold buildings Fixtureandequipment netofdepreciation 1,580 8,080 Tradeinvestmentsatcost 1,200 9,280 Currentassets Inventories 2,150 2,720 land and 6,500 000

2004 000 000

2005 000 000

6,500

6,500

1,800 8,300

2,420 8,920

1,200 9,500

8,920

3,400

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Receivables Cash

1,800 120 4,070

2,310 5,030

3,000 6,400

Less:Currentliabilities Payables Bankoverdraft 1,320 1,320 2,750 12,030 Less liabilities Loan(Repayable2006) 12,030 600 12,126 600 12,126 Noncurrent 1,600 204 1,804 3,226 12,726 1,920 674 2,594 3,806 12,726

Equity Ordinary1shares Retainedprofit 2,000 10,030 12,030 2,000 10,126 12,126 2,000 10,126 12,126

Although Homeland plc was a public limited company, it was not listed on a recognisedstockexchange.However,Danielwaskeenforthebusinesstobecome listed and felt that it should be floated immediately after the current expansion phase was completed in three years time. He, therefore, saw Vulturus Ltd as providingbridgingfinancetohelpHomelandplcthroughtheperiodleadinguptoa publicflotation.

The Bennett family owned most of the shares of Homeland plc and Daniel was prepared to issue a further 100,000 shares to Vulturus Ltd to help finance the business. He expected Vulturus Ltd to pay 8 a share. Daniel pointed out that a similarbusinesslistedontheLondonStockExchangehadaprice/earningsratioof 22 times and so the shares of Homeland plc were a real bargain thatVulturusLtd shouldsnapupquickly.Danielwasrelaxedabouttheoutcomeofthemeetingashe

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felt that he held all the cards. The business was a great investment for those who wereabletoseeitspotentialand,ifVulturusLtddidnotseeit,otherssurelywould.

Required: (a)AnalysetheperformanceandpositionofHomelandplcovertheperiod thatDanielBennetthasbeenChairmanandChiefexecutiveand commentonthechangesthathaveoccurredsinceJackBennettretired. (b) ExaminetheofferthathasbeenmadetoVulturusLtdandstatewhether ornotyoufeeltheoffershouldbeaccepted. (c)WhatadvicewouldyougiveDanielconcerningthefutureofHomeland plc?

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