ACCA APM Past Exam Rewritten - Q: Freuchie - Longer Case Q1
Q. FREUCHIE (SEPT/DEC 21)
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Exhibit 1 – Company information
Company Information |
Freuchie Retail (Freuchie) is a family-owned business which sells a range of clothes from a chain of shops across Beeland. Freuchie’s mission is ‘to deliver returns to shareholders above the average for the retail sector by providing a superior customer experience from the appearance of the stores to the attractive range of clothes which are sold with enthusiasm’. |
The board feels that performance has been poor compared to other similar retailers in the past five years. As a result, a new chief executive officer (CEO) was appointed a year ago and has spent this time conducting a fundamental review of the business. The review has identified a number of areas for improvement including those associated with performance reporting and management. |
Exhibit 2 – Performance reporting: quantitative
2. Performance Reporting: Quantitative |
The CEO is concerned that performance towards this mission and its subsidiary objectives are not being usefully discussed at board meetings. He believes that the fault lies in the board’s performance report for annual strategic review. Therefore, he wants you to do an assessment of the current performance report in two parts in light of his concern (see Appendix 1 for the most recent example). The first part of the assessment should consider the quantitative elements of the report and can include some discussion of improved indicators and also, more generally, should take into account what is best practice for reporting performance. |
Exhibit 3 – Performance reporting: narrative
3. Performance Reporting: Narrative |
The second part of the performance reporting assessment should be a review and rewrite of the current narrative commentary on the report. The CEO believes the current commentary is especially weak and wants a critical assessment of it, followed by an improved example based upon what you consider to be the crucial aspects of Freuchie’s performance. He stated that the improved example commentary should consist of no more than four points in order to focus attention on the key areas. You should include figures to illustrate the points you have included using the data given where it is available but some can be left blank to be filled in later if the underlying data is not available. |
Exhibit 4 – Operational gearing and cost structure
4. Operational Gearing and Cost Structure |
The CEO was at a business networking meeting recently where one speaker, a highly regarded management consultant, made a number of comments about fixed and variable costs, operational gearing, and the importance of these to the operation of a store. The CEO did not understand the presentation, complaining that there was too much jargon. He wants to understand what operational gearing is and how it relates to fixed and variable costs. Therefore, he wants a calculation of operational gearing for Freuchie using current data (Appendices 1 and 2) and an assessment of the implications of the result for Freuchie’s management. |
Exhibit 5 – What gets measured, gets done
5. What Gets Measured, Gets Done |
At the same business networking meeting, another CEO mentioned that she found the quote ‘What gets measured, gets done’ a useful starting point for thinking about the management implications of new performance indicators. She then used another list of jargon phrases that Freuchie’s CEO did not follow. As a result, the CEO wants an assessment of the problems that the quote identifies and also, how phrases such as ‘tunnel vision and sub-optimization’ might link to the quote. He wants illustrations from Freuchie’s business. |
Exhibit 6 – Appendix 1 Freuchie Retail: Strategic Performance Report Year to 30 June 20X5
Budget 20X5 |
Actual 20X5 |
Actual 20X4 |
Costs and Profit as a % of Revenue |
Change of Previous Year |
|
Revenue |
$641 |
$638.1 |
$577.7 |
10.50% |
|
Cost of Sales |
$380.5 |
$378.9 |
$342.1 |
||
Gross Profit |
$260.5 |
$259.2 |
$235.6 |
40.60% |
10.00% |
Staff Costs |
$136.2 |
$135.8 |
$123.1 |
21.30% |
10.30% |
Other Operating Costs |
|||||
- Rent and Property Costs |
$71 |
$71 |
$63.4 |
||
- Marketing |
$34 |
$34 |
$34 |
5.30% |
0.00% |
- Head Office Costs |
$11.9 |
$11.7 |
$11.9 |
||
Total |
$116.9 |
$116.7 |
$109.3 |
18.30% |
6.80% |
Operating Profit |
$7.4 |
$6.7 |
$3.2 |
1.00% |
109.40% |
Finance Costs |
$4.9 |
$4.9 |
$4.8 |
||
Group Profit Before Tax |
$2.5 |
$1.8 |
-$1.6 |
0.30% |
|
Tax |
$0.5 |
$0.4 |
-$0.3 |
||
Group Profit After Tax |
$2 |
$1.4 |
-$1.3 |
0.20% |
|
Other Data: |
|||||
- Number of Employees |
5,103 |
4,607 |
10.80% |
||
- Dividend Per Share ($) |
$0.51 |
$0.51 |
0.00% |
||
- Inventory Obsolescence/Loss Write-Downs ($m) |
$13.1 |
$12.7 |
3.10% |
||
- Number of Stores |
42 |
38 |
10.50% |
||
Commentary: - Overall performance is satisfactory as the business has maintained its dividend. - Revenue is up by 10.50% on the previous period. - Gross margin has held at about 41%. - Inventory write-downs were in line with the increased stock held at stores. |
Exhibit 7 – Appendix 2 Freuchie – Additional Data
Cost of Sales Includes: |
Budget 20X5 |
Actual 20X5 |
Actual 20X4 |
|
Insurance |
$18.2 |
$18.2 |
$16.2 |
Utilities |
$12 |
$11.9 |
$10.8 |
Depreciation |
$17 |
$17 |
$15.3 |
Total |
$47.2 |
$47.1 |
$42.3 |
Staff Costs: |
|||
The employees are all paid an annual salary as a fixed sum stated in their contract, except for a bonus pool of 1% of revenue which is divided up between the sales staff who exceed their target revenue. |
Required:
It is now 1 September 20X5.
Write a report to the chief executive officer (CEO) of Freuchie to respond to his instructions for work on the following areas:
(i) Current performance reporting: quantitative (17 marks)
(ii) Current performance reporting: narrative (10 marks)
(iii) The calculation of operational gearing and its implications (8 marks)
(iv) The quote ‘What gets measured, gets done’ (5 marks)
Professional marks will be awarded for the demonstration of skill in communication, analysis and evaluation, scepticism and commercial acumen in your answer. (10 marks)
(Total: 50 marks)
Answer:
Report
To: The board of Fruechie Retail (Frueuchie)
From: An Accountant
Date: Sept 20X5
Subject: Performance reporting and management issues at Freuchie
Introduction:
This report evaluates both the quantitative and narrative aspects of the current performance report used by the board for strategic review. Next, the meaning and calculation of operational gearing are discussed for Freuchie as are the implications of the results. Finally, the quote ‘What gets measured, gets done’ is discussed, along with certain other pieces of jargon with illustrations from the situation at Freuchie.
(i) – Refer to Chapter 6 Knowledge (Performance Reports for Management)
1. Relevance to Objectives (Up to 5 marks):
2. Data Completeness and Appropriateness (Up to 7 marks):
3. Presentation Quality (Up to 5 marks):
4. Comparative Analysis (Up to 4 marks):
(ii) Narrative Assessment of Performance Reporting:
1. Clarity and Relevance (Total: 5 marks):
The narrative in the report doesn't adequately substantiate if the business is on track to meet its mission.
The focus on dividends without elaborating on total returns to shareholders or a clear statement on their capital's return is a significant oversight. Furthermore, there's only an indirect reference to subsidiary strategies via revenue growth, which is tied to sales enthusiasm.
Absence of specifics on store aesthetics, clothing range, and the appeal of items offered is a missed opportunity for clarity. For instance, the gross margin difference between years (from 40.8% to 40.6%) should be explicitly mentioned, not implied.
2. Recommendation for Improvement (Total: 5 marks):
Overall, it's essential for RetailX's narrative to align more closely with its mission and key performance areas. A sharper focus, accompanied by relevant figures, can significantly enhance the clarity and relevance of the performance report.
(iii) Operational Gearing and Cost Structures:
Commentary on the General Meaning of Operational Gearing (3 marks):
Operational gearing is a metric that gauges the business risk associated with how shifts in sales volumes might influence profit declines, especially when fixed costs aren't adequately covered. A higher ratio signifies increased risk.
Essentially, it's defined as the ratio of contribution to operating profit, where contribution is the difference between revenue and variable costs. If the contribution is substantial but the operating profit remains low, as evidenced by Freuchie, it suggests that fixed costs are only marginally met.
This situation makes the company susceptible to potential losses with even slight revenue reductions, as seen in 20X4. Precise measurement of operational gearing is challenging since most costs have both fixed and variable components. In our analysis, costs have been distinctly classified based on their predominant behavior.
Calculations (5 marks):
Budget 20X5 |
Actual 20X5 |
Actual 20X4 |
|
Revenue |
$641.0m |
$638.1m |
$577.7m |
Cost of Sales |
$380.5m |
$378.9m |
$342.1m |
Adjusted for: |
|||
- Other fixed costs noted |
$47.2m |
$47.1m |
$42.3m |
- Variable element of staff costs |
$6.4m |
$6.4m |
$5.8m |
Contribution |
$301.3m |
$299.9m |
$272.1m |
Operational Gearing = Contribution/PBIT |
40.7 |
44.8 |
85.0 |
Breakdown of the Adjustments (in relation to marks):
Commentary on Results (2 marks):
Freuchie's results highlight the inherent risks associated with high fixed costs. The comparison between this year's and the previous year's data underscores the sensitivity of the company's profitability to revenue fluctuations.
A mere 10.5% change in revenue transitioned Freuchie from a loss-making venture to a profitable one, also amplifying the operating profit. Such financial behavior typifies Freuchie as a high-risk business, prone to volatile financial outcomes.
(iv) What gets measured, gets done
Tutorial note: Refer to Chapter 1 Knowledge Framework.
Marking scheme:
Section |
Subsection |
Criteria |
Maximum Marks |
(i) Performance Report Assessment |
Aim of performance report |
1 mark |
1 |
Breaking down mission |
Up to 3 marks (e.g., identify priority of objectives, pick out strategies, comment on connections) |
3 |
|
Assessment of whether report meets mission |
Up to 11 marks (e.g., clear statement of inadequacy for mission, addressing each of the elements of the mission, information for relevant decision-making by the board) |
11 |
|
Other points |
Up to 5 marks (e.g., answering where growth is coming from, lack of information on capital for return on capital for shareholders, liquidity given poor profits, data overload, general presentation) |
5 |
|
(ii) Commentary Assessment |
Comments on existing commentary |
Up to 5 marks (e.g., achieving its mission, measurement of three subsidiary strategies, relevance and accuracy of points made) |
5 |
Proposed new commentary |
1 mark for observing the requirement to have a max of four points and up to 4 marks for considering each point individually |
5 |
|
(iii) Operational Gearing Assessment |
Commentary on the general meaning of operational gearing |
Up to 3 marks |
3 |
Calculations |
1 mark each for: |
||
- Revenue minus variable costs - Variable costs (excludes other operating costs) - Variable costs (excludes insurance, utilities, and depreciation) - Handling staff costs correctly - Operational gearing |
|||
Commentary on results |
Up to 2 marks |
2 |
|
(iv) General Assessment |
1 mark per point |
1 per point |
|
Professional Marks |
Communication |
|
17 |
Analysis and Evaluation |
|
10 |
|
Scepticism |
|
10 |
|
Commercial Acumen |
|
40 |
|
Total |
50 |
Categories: : Advanced Performance Management (APM)