FIRST ILLUSTRATIVE SCRIPT AND EXAMINERS’ COMMENTS The commentary below follows the order and numbering of the script, with reference to the topics in the marking key It should be read in conjunction with the review of the Second Illustrative Script and full Examiners‟ Report for this session Examiners’ comments – overview This script was well within the top 25% of all assessed scripts It is a clearly-presented report dealing with many of the key issues, offering sound commercial advice where applicable, and of about average length The content is highly focused, addressing the case requirements as presented without introducing irrelevant material A particular feature is the inclusion of the candidate‟s own derived figures to illustrate key arguments e.g WW‟s existing receivables days ratio in relation to the proposed PQR / Funtimes invoice terms: it would have been better still if the workings for these had been provided! Good grades were earned for the executive summary and for all three main topics, as well as across the four areas of Professional Skills In essence, this was a well-balanced script The candidate went a long way towards success by the simple technique of dealing with all the main components of Requirement (including KPIs) and Requirement (including ethical issues and the „matters for consideration‟) Most areas of Requirement were also tackled but coverage of underlying assumptions was relatively brief Terms of reference and executive summary Overall, the executive summary was good, admirably serving the purpose of distilling the key issues and drawing the audience into the report itself – just what an executive summary is supposed to It addresses the main points covered in the body of the report on Requirements and 2, restating the key figures and conclusions, but is briefer on Requirement Overall, it is longer than the guideline 10% of the total script, but not unduly so It could have achieved even better grades by covering the ethical issues (there are marks available for ethics under three of the four skills headings) and being more balanced across the requirements After appropriate terms of reference (and a helpful listing of key abbreviations), the executive summary begins with a neat series of sentences setting out the main findings under the three case requirements It then goes on to address each in turn On Requirement 1, the candidate comments on all the principal areas (including KPIs), and gives both £ and % figures Mention is made of the largest clients and Quinto, and the margin changes are explained by reference to cost areas The section ends with two pertinent recommendations Similarly under Requirement 2, the candidate addresses all the key elements and applies sound professional scepticism towards the data provided, including Mustang‟s KPIs It also makes the sensible commercial recommendation to offer part of the consideration in a contingent form In contrast, the key points at Requirement are made quite tersely, and there is no reference to the ethical issues This perhaps suggests that the candidate was running out of time towards the end of the executive summary, although (unlike in many scripts) there is a clear recommendation here – not to tender An irritating feature throughout is the use of the past tense (“KPIs were analysed and found to be mixed ”; “we advised thorough due diligence ”); an executive summary is contemporaneous with the report of which it forms a part and so should be written in the present tense © The Institute of Chartered Accountants in England and Wales 2011 Page of 13 Analysis of Watchwell’s financial performance [Requirement 1] This part of the report achieved a large number of competent grades It is set out clearly with an introduction and then a section dealing in turn with each of the main captions from the exam requirements It gives due emphasis to key clients and the 2010 acquisition Quinto, making judicious reference to industry issues where relevant It would have done better still by including more about margins and underlying costs The commentary on revenue comprises an overall comparison with the prior year, with industry norms and (for large clients) with forecasts, and an analysis of the two business streams The section on key contracts goes into an impressive amount of detail, including (in relation to Quinto) the sensible recommendation to “carry out thorough due diligence on acquisition targets in order to avoid overpaying for contracts in future” On the client Jonas, the candidate suggests that it offers further scope for growth; in fact, revenue is more likely to decline as its work on Olympics accommodation must necessarily soon end The section on public sector clients sets their decline in revenue neatly in its PEST context, with a well-researched quote from a senior industry figure However, despite such detailed coverage, this script misses out on further competent grades by not considering revenue per hour, whether overall or by client, and indeed it does not mention hours here at all In discussing gross margin, the candidate again makes good use of industry context by noting: “While these are only slight decreases and the gross margin still exceeds the industry average, they may be a sign of trends to expect for future years.” (S)he cleverly rationalises the fall in gross margin by stating the average hourly pay rate – albeit without showing how this was calculated – and links this to KPI Similarly, the paragraph on operating margin focuses on payroll expense However, the candidate fails to realise that the % rise in head office staff numbers is almost the same as in their costs and, as a result, in the next sentence explains why it is not the same! The same sentence mentions some other cost headings (e.g recruitment) but only in passing and so fails to state that they have risen sharply or to give reasons why The section on KPIs covers all six (as set out in Exhibit 13), with the correct figures for the two that had to be calculated (KPI and KPI 2) The candidate makes comparisons with industry averages but omits to refer to WW‟s own targets The figures for staff turnover, sickness days and training days are all astutely linked to the overall question of WW‟s reputation The increase in utilisation is explained as being due to synergies in mobile security, but this is flawed as all the KPIs relate just to manned guarding The candidate concludes with three „key recommendations‟ – all sensible and all logically derived from the foregoing analysis Assessment of proposal for Mustang acquisition [Requirement 2] This was also answered very well The candidate again begins with a brief introduction before going on, within a section headed „Valuation‟, to summarise the results of his/her calculations in a table that clearly shows the maximum and minimum values of each division and for Mustang overall This is immediately followed by a note of caution that Mustang‟s figures may be unreliable The candidate correctly draws on WW‟s poor experience with other recent acquisitions and uses this to advise WW on the starting-point for its negotiations on price However, there is insufficient scepticism applied to the figures for any of the three divisions The assumptions are dealt with in Appendix 2, where the candidate gives a range of values for each division, but they are not then developed in the main narrative part of the report Thus for mobile security, there is no questioning of the new £30k revenue or the reduced margin; and for security consultancy, there is no commentary on the likelihood of achieving Peter Ross‟ projections The last paragraph of this section covers Mustang‟s KPIs – something that many candidates omitted to As at Requirement 1, the KPIs are benchmarked against industry standards, with appropriate scepticism being applied © The Institute of Chartered Accountants in England and Wales 2011 Page of 13 The script then deals with the rest of the scenario under the heading „Strategic considerations‟ Although this does address many of the key points, it would perhaps have been safer to use headings closer to the wording of the exam paper (“factors to consider in appraising Mustang’s client contracts and profile of business activities”) The candidate lists five advantages and three disadvantages of the acquisition These are mostly relevant and well-expressed, especially the last two disadvantages, where the candidate adopts a very pragmatic approach towards (i) the problematic Alpha, Bravo, Charlie districts and (ii) the fee dispute, showing excellent „thinking outside the box‟ However, this section does also have a number of shortcomings: The first advantage estimates the extra annual revenue that would arise (£789k), but this is not supported by a calculation or otherwise apparent from the figures at Appendix The third advantage falls into the same trap as in many other scripts by treating the 50%-female workforce as a plus point, not recognising that Mustang was much smaller and so when converted to an absolute figure this percentage would have little impact on WW Also in line with many other scripts, the first disadvantage fails to recognise WW‟s inherent existing competence in security consultancy through its Packryte tender and through the directors‟ wider knowledge of the industry Coverage of Requirement ends with a section headed „In conclusion‟, where the candidate succinctly brings together the main output from the earlier analysis Overall, the script achieved another good set of CC and SC grades here It would have done better still by more challenging of the assumptions and by saying more about security consultancy generally Evaluation of PQR / Funtimes tender [Requirement 3] This was another good section that gained over 50% of competent grades, spread across all four skills areas The candidate has made many key relevant points After another concise opening paragraph, the script moves straight into describing the benefits and risks of tendering, making reference as it goes along to Corey‟s „matters for consideration‟ It begins by estimating the likely size of the enlarged contract, focusing on the number of hours involved This is somewhat ironic, given that hours are not mentioned at all in the answer to Requirement 1, where there was more to say about them In dealing with two of Corey‟s „matters‟, the candidate refers back to WW‟s experience with the police in relation to the client Hyacinth (Exhibit 10) and also – this time with the correct focus – discusses female staff quotas In addressing the risks, the candidate develops a series of good points about training; invoicing; seasonality; TUPE; licensing; and the reputational impact of the Funtimes riot In all cases, the points are well thought through For example, the proposed change in invoice terms from 30 to 45 days is linked to WW‟s existing receivables days ratio (albeit that this is yet another figure for which no workings are given); the reference to „peaks and troughs‟ shows an understanding of utilisation; and the question-mark over Logos‟ accreditation is supported by another pertinent quote from a senior industry figure The analysis is followed by an „In conclusion‟ paragraph, which advises WW not to tender While this was not the majority view, the candidate has backed up the advice with sound judgement and an excellent final sentence encapsulating WW‟s commercial dilemma: “Entering a price war with Logos will only damage WW’s margins as well as their reputation for quality guarding services.” The section ends with a set of „ethical considerations‟ This mentions one of the two issues (insider information) introduced at the foot of Corey‟s letter but ignores the other (bribery) The candidate gives the right advice here, albeit by a roundabout route Although this passage appears brief, the candidate has earned some good grades for ethics by dealing with some of the other ethical matters arising on the tender earlier in the section © The Institute of Chartered Accountants in England and Wales 2011 Page of 13 Overall paper The script is generally well written Apart from the style of the executive summary (see above), it is marred only by inconsistency in treating „WW‟ as singular or plural and inelegant punctuation of „however‟ clauses‟ Overall, it has met the requirements, is balanced across the main topics and demonstrates a strong, commercial understanding of the case scenario Appendices The candidate has included two Appendices: Appendix 1: Review of WW‟s performance in the year ended 30 June 2011 Appendix 2: Proposed price for acquisition of Mustang‟s contracts (from October 2011) Appendix tabulates the key figures used for Requirement 1, including revenue by key client measured against both prior year actual figures and current year forecasts Throughout, variances are given in both absolute £ and % terms Two additional features are (i) that industry averages are shown against WW‟s KPIs and (ii) that average cost per man hour has been calculated Both of these have enhanced the narrative at Requirement in the body of the report Some further analysis – of revenue per hour by key client – would have further enhanced both the Appendix itself and the main report Appendix sets out clearly the calculations for the three divisions of Mustang and overall, with workings to show how figures have been derived and what assumptions have been made For two of the divisions – and then for the business as a whole – the candidate has indicated both a „high‟ and a „low‟ figure The added value in this Appendix lies in (i) a column showing the gross profit margin for each manned guarding contract and (ii) the asterisked footnotes reflecting the assumptions made about each of these contracts The first two footnotes are sensible, but the third is questionable: it shows contract being retained at a loss, but it is more likely that Mustang would not re-tender in such a circumstance © The Institute of Chartered Accountants in England and Wales 2011 Page of 13 ILLUSTRATIVE SCRIPT REPORT TO: The Board of Directors, Watchwell Ltd FROM: Rosslyn Chartered Accountants DATE: 27 July 2011 SUBJECT: Analysis of Watchwell‟s performance in the year ended 30 June 2011, and evaluation of options for expansion PRIVATE + CONFIDENTIAL © The Institute of Chartered Accountants in England and Wales 2011 Page of 13 Terms of Reference: This report has been prepared for the Board of Watchwell Ltd in the light of two potential new acquisition targets: the contracts of Mustang and a merger between PQR and Funtimes It deals with the following matters: 1) Analysis of Watchwell‟s performance for the year ended 30 June 2011 2) Evaluation of the proposal to acquire contracts from Mustang, including calculations on suggested prices 3) Consideration of the benefits and risks involved in re-tendering for PQR‟s contract now that they have merged with Funtimes The report is based on Watchwell‟s management accounts for the y/e 30 June 2011, which have not been audited, and upon information provided by Mustang, PQR and Funtimes, which has not yet been verified The report has been prepared solely for the use of Watchwell‟s directors and is not for external distribution Abbreviations used: WW – Watchwell Ltd SIA – Security Industry Authority ACS – (SIA) Approved contractor scheme Executive Summary: The report‟s analysis of WW‟s performance this year is, on the whole, encouraging, although some areas are highlighted for the directors‟ attention in future years The evaluation of the proposed acquisition of Mustang includes several potentially significant disadvantages, but overall seems to warrant further negotiations and work on the acquisition The evaluation of the opportunity to re-tender for PQR, newly merged with Funtimes, raises some serious questions for the directors of WW, and suggests that WW should not proceed with the re-tender Details covered in the main body of the report were as follows (See also figures in appendix 1) 1) It was noted that impressive revenue growth of 33% had been achieved this year, largely thanks to the growth of Ardwicke stores, PQR, Jonas and Quinto contracts Caution was deemed necessary with the public sector clients whose revenue had fallen below forecasts because of public sector cuts Profit margins appeared to have held up: decreasing only slightly in the face of higher wages and administrative costs The gross profit margin fell from 22.4% to 21% and the operating margin from 12.1% to 10.3% KPIs were analysed and found to be mixed: utilisation and training days were both improved on 2010, with utilisation of 90% being particularly impressive given the industry average of 85% The directors should aim to maintain this Staff turnover and average sick days were both up, however Turnover from 21% to 24%, and sick days from 7.1 to 8.2 While still lower than industry averages, the increases in these KPIs may indicate problems with staff morale The directors were advised to investigate and try to solve any problems found, as poor morale will threaten WW‟s reputation if it leads to poor client service Key recommendations included: – – to monitor margins carefully as rising costs and pressure on charge rates threaten to reduce profitability to diversify services where possible, as WW is currently very reliant on manned guarding and upon one client, Ardwicke © The Institute of Chartered Accountants in England and Wales 2011 Page of 13 2) The valuation of Mustang was calculated based upon WW‟s usual multiples of expected gross profit The valuations were then amended, using different assumptions (see appendix 2) to give a more prudent estimate The range of values produced was from £352k to £451k, a significant variance We advised the directors to start negotiations with the lower amount, especially as there is some doubt over Mustang‟s figures We advised thorough due diligence work be carried out on Mustang‟s information especially as some of their reported KPIs seemed unusually high: staff turnover of 17% and utilisation of 93% We advise scepticism towards these KPIs until due diligence work has been carried out Non-financial factors were also considered: The key advantage was a good strategic fit, with female staff, a good approach to staff training and strong historic growth making Mustang an attractive acquisition target Disadvantages were noted, most importantly pertaining to question marks over the future viability of the security consultancy division without any of Mustang‟s directors, as well as questions over whether WW are prepared to accept the increased risk of operating in deprived high crime areas Alpha, Bravo and Charlie Our recommendation was to proceed with due diligence work but to consider offering part of the consideration in a contingent form, depending on the future performance of the contracts 3) The PQR / Funtimes tender was felt to offer certain advantages: – – – Revenue growth of £1,789k depending upon charge rates An opportunity to benefit from increased security needs during the Olympics Opportunities to work with local police However, the risks involved were serious: – – Potential threats to WW‟s reputation as staff inherited from Logos are not all SIA licensed – possible loss of ACS approval would be fatal for WW Reputational risks arising from a recent riot at a Funtimes festival We therefore recommended WW not to proceed with this re-tender and to accept the loss of PQR‟s contracts if necessary 1) Performance Analysis Overall this has been a positive year for WW, with revenue growth continuing, in line with the stated strategic objective of increasing the company‟s income Analysis of the financial statements does however bring to light some warning notes which are discussed in more detail below Revenue Total revenue has increased by £4,660k to £18,924k (33%), While this does not yet bring WW into the league of the Infologue.com Top 20 firms, it represents significant growth; far higher than the 2-4% predicted per annum from 2011-2015 for the manned security market as a whole Manned guarding has committed more to this growth than mobile security, having increased by 34% compared to 6% (see appendix 1) This is in line with expectations given WW‟s historic focus upon manned guarding, however may indicate a need to devote more attention to expanding the mobile security division and so diversifying WW‟s range of services In terms of revenue mix, as discussed above, the mobile security division has fallen behind manned guarding, now making up less than 5% of total revenue compared to 6% in prior years Within manned guarding, the revenue growth witnessed this year is largely down to factors: © The Institute of Chartered Accountants in England and Wales 2011 Page of 13 An increase in revenue from Ardwicke stores of £2,304k or 63% to £5,980k This is in line with expectations as Ardwicke have opened new Quickfood stores in 2010/11 While there is the opportunity of further expansion, outside Dorset, WW should be wary of relying too heavily upon this one contract which comprised nearly 32% of total revenue in 2011 Increases in revenue from PQR and Jonas Construction totalling £1,169k Again this was in line with expectations, as both clients were expanding their operations during the year Unlike Ardwicke, these two clients have generated revenue which meets or exceeds that forecast for 2011 by WW This makes them valuable clients for future years and WW should be careful not to neglect their contracts while focusing on expansion The newly acquired Quinto contracts have generated £1,077k of revenue this year However this was lower than forecast as WW had expectations based upon information which turned out to include inaccuracies While Quinto‟s new revenue is valuable to WW, the poor performance against forecast (10% lower revenue) is a warning that WW must carry out thorough due diligence on acquisition targets in order to avoid overpaying for contracts in future The only really negative area of revenue this year is in respect of the public sector clients Dorset Hospital, Soton College and Granville University The revenue from these has fallen by £173k to £3,229k, a decrease even greater than was forecast (see appendix 1) This appears to be because of public sector cuts resulting from the Coalition‟s spending review WW should expect further cuts to follow, and while this may lead to outsourcing opportunities (as police numbers are cut), the mood of austerity may also spread to the private sector David Mundell, the Group Sales director of an Infologue.com Top 20 firm, recently noted at a security seminar that „the current market for guarding solutions is “the most price driven” he has ever witnessed WW should be prepared for further pressures on their charge rates and revenues Margins Both the gross margin and operating margin have increased this year by £775k to £3,970k and £226k to £1,946k respectively This appears to have been driven by revenue growth (Ardwicke, PQR, Jonas and Quinto) rather than cost-savings, however, as the company‟s margins have decreased the gross profit margin has fallen from 22.4% to 21% and the operating profit margin from 12.1% to 10.3% While these are only slight decreases and the gross margin still exceeds the industry average, they may be a sign of trends to expect for future years Gross margins appear to have been reduced by higher wage costs; the average hourly pay rate has risen from £6.89 to £7.05, and wages as a proportion of revenue from 78% to 79% Operating margins have been squeezed by an increase in all administrative expenses, but most notably head office salaries, which have gone up by £313k to £1,082k (41%) This is very high even given the increase in head office staff from 24 to 33 It seems likely that the company‟s rapid expansion is requiring more management time and effort in terms of working on advertising, recruitment and in professional fees relating to potential acquisition targets KPIs Revenue per man hour worked is up from £11.73 to £11.91 which is good, however it is necessary to absorb the higher staff costs; as discussed above, wages as a proportion of revenue have increased from 78% to 79% Utilisation has increased from 89% to 90% which is very encouraging, especially as the industry average is 85% This reflects WW‟s efforts at achieving synergies, especially within the mobile security division WW should continue to strive for high utilisation as this impacts directly upon the company‟s profit margins Training days also represent an encouraging measure of WW‟s performance this year; they have increased from 4.3 to 6.9, reflecting additional compulsory courses attended by staff this year WW should aim to keep this KPI high, as well trained staff are critical to the company‟s reputation and thus its success The only really discouraging KPIs relate to staff morale: staff turnover has increased from 21% to 24%, and sick days from 7.1 to 8.2 While the turnover figure is lower than the industry average these are worrying trends, as poor staff morale may lead to issues with employees and so to poor client service This will damage WW‟s reputation and eventually cause them to lose business © The Institute of Chartered Accountants in England and Wales 2011 Page of 13 Key recommendations WW needs to remain vigilant regarding its margins to ensure that these are not squeezed unduly by lower contract prices and rising wage costs WW should consider diversifying its product range and client base to avoid becoming too reliant on key contracts WW should investigate the reasons behind its falling staff-related KPIs and attempt to resolve any issues Otherwise it risks future problems with employees and potential damage to its reputation 2) Evaluation of Mustang’s contracts The opportunity to acquire Mustang‟s contracts has recently come up, and is attractive in terms of revenue growth However, WW need to ensure that they pay a fair price to reflect the value of the contracts, as well as to consider the wider implications of the acquisition upon WW‟s business strategy Valuation Appendix shows various valuations based upon certain assumptions and using WW‟s standard multiples of gross profit The values of the different divisions have been assessed separately, and in each case, assumptions have been altered to produce a maximum and minimum potential value These are summarised as follows: Manned guarding Mobile security Consultancy Min £114k £170k £ 68k £352k Max £124k £192k £135k £451k A key point to note at this stage is that no due diligence work has yet been carried out on the information provided by Mustang Given WW‟s experiences with Tyro Guards and Quinto, they should therefore be wary of taking Mustang‟s figures and assertions at face value Rosslyn advise that we undertake thorough due diligence on all of the information supporting the valuation, as far as is practically possible We would therefore recommend WW to open negotiations with a low offer, in the region of £350k, in order to avoid overpaying for the contracts Subsequent findings from due diligence may affect the later negotiations, either reducing or increasing the value At first sight, several of Mustang‟s stated KPIs seem very high: Utilisation of 93% compared to industry average of 85% and staff turnover of 17% compared to industry average of 25% It may be that Mustang really is achieving these impressive rates, however we would advise WW to be cautious in their approach to the acquisition Strategic considerations The acquisition seems likely to bring many advantages to WW, both financially and strategically: Advances WW‟s strategy of revenue growth, bringing in an estimated £879k of revenue for the y/e 30 June 2012 This will help WW in their stated aim of entering the Infologue Top 20, although there are risks involved in excessively steep growth patterns (see below) Nevertheless, this is a tried and tested means of growth for WW, and they have plenty of cash available to make acquisitions The directors should monitor cashflow carefully however, as the high initial investment in acquisition consideration and working capital could lead to liquidity problems Mustang seems to represent a good strategic fit with WW in that 50% of its guards are female This would benefit WW as certain of their retail clients such as Hyacinth prefer to have women guards for their female staff and customers © The Institute of Chartered Accountants in England and Wales 2011 Page of 13 Mustang also has a good attitude towards training its staff, with days of annual training This should mean that staff attain a high level of professionalism and so enhance WW‟s reputation for high quality security guards Acquisition of Mustang‟s contracts would also make WW less reliant upon Ardwicke stores, which helps them to diversify their risk There are also certain disadvantages to be considered, however: While the consultancy division represents good service diversification for WW, and is an area into which they have previously considered expanding, WW need to consider their current competencies As Mustang‟s directors will not transfer to WW, there is a risk that expertise in the area of security consultancy will be lost This could lead WW to lose business, or even worse, to give inappropriate advice and risk facing legal claims from clients WW should try to include some training sessions from Mustang‟s directors within the acquisition negotiations, to enhance their own industry expertise Mustang appears to operate in areas (Alpha, Bravo + Charlie) which are considered dangerous and which WW currently will not work in This brings additional risks of legal cases from clients as well as danger to employees, which will also drive up insurance premiums WW directors need to make a reasoned decision as to whether they are prepared to deal with these risks Mustang is currently in dispute with a client over fees receivable WW should investigate whether they normally have problems with credit control on these contracts, as this would affect WW‟s liquidity They should also enquire from Mustang‟s lawyers (if given permission) whether there are any other disputes outstanding In conclusion The Mustang contracts certainly seem to warrant further investigation as they are potentially a good means of increasing revenue and market share for WW However, we would recommend: WW carry out thorough due diligence on Mustang‟s figures and to review their ACS certificate and latest ACS annual audit report To consider opening negotiations with a conservative offer somewhere around £350k To consider whether they have sufficient security consultancy expertise to keep this division viable To decide whether the levels of risk involved in accepting contracts in Alpha, Bravo and Charlie can be mitigated to an acceptably low level 3) Evaluation of the proposal to re-tender for the PQR / Funtimes contract: This is a particularly important decision for WW as it not only involves the potential to secure new business but also involves the possible loss of one of WW‟s key clients, PQR There are many obvious benefits available from the proposed contract: The PQR / Funtimes merger will double PQR‟s current guarding hours, from 146k to 292k Assuming charge rates remain the same; this would mean potential revenue growth of £1,789k, taking the combined contract to £3,578k [WW should ask for details of the mix of staff likely to be required by Funtimes (in terms of security) in order to assess what charge rates will apply to the additional hours.] This represents significant revenue growth for WW Funtimes‟ involvement in the 2012 Olympics gives WW an opportunity to take advantage of the extra business which will become available due to the high numbers of tourists expected to visit Weymouth Winning this tender would also avoid the loss of PQR‟s current contract, which, in 2011, was 9.5% of WW‟s total revenue (£1,789k) As PQR have plans to acquire more stadiums and venues across England, they represent a valuable client to WW; one which could lead to future expansion outside Dorset © The Institute of Chartered Accountants in England and Wales 2011 Page 10 of 13 The PQR / Funtimes contract appears to fit well with WW strategically in some respects For example, 30% of their staff are female, which complements WW‟s existing reputation for being able to provide female guards to retail clients The contract also brings the possibility of working with the police and potentially thereby securing future outsourcing contracts as the public sector cuts continue to bite WW has received high praise from the police when working with them on Hyacinth‟s contract; therefore they seem well placed to make the most of this opportunity There are, on the other hand, severe disadvantages immediately apparent from the proposed contract: The invitation to tender notes that all Funtimes staff will have to undergo days of additional specific training funded by WW This may involve significant extra cost, and if the training is very specific to the Olympics, have little long term benefit for WW The tender invitation also notes that the invoice period will be 45 days This is, as far as we are aware, longer than WW‟s current standard (30 days), and may affect credit control and liquidity WW already has increased receivables days this year (from 42 in 2010 to 46 in 2011 (after taking VAT off receivables)) This will require substantial initial investment in working capital, which will tie-up some of WW‟s cash reserves A key selling point of the tender seems to be opportunity to participate in security relating to the Olympics, however it should be remembered that this is a one-off event and will involve peaks and troughs of activity WW may therefore have difficulties sourcing enough well trained staff during busy periods, and may suffer very low utilisation during periods when it will still have to pay the wages of the additional staff taken on Because of the recent TUPE legislation, WW would be required to take on Logos‟s staff if it won the tender We know from the example of Tower that Logos has a history of employing unlicensed staff and providing poor standards of service There is a major risk to WW, therefore acquiring unlicensed and ill qualified staff who will potentially damage the company‟s reputation It seems from the tender document that Logos may not have been ACS approved, as only 80% of its staff were SIA licensed (ACS requires 85% licensed and 15% with licences pending) The assistant director of the SIA was recently quoted as having said “it is increasingly the case that buyers will only ask ACSregistered companies to tender” It is therefore critical that WW maintains its ACS-approved status, and should be very wary of taking on unlicensed staff Recent press coverage shows only too well the problems which have arisen for Funtimes following a riot in June this year at their festival With concert goers injured, £100,000 of damage done and £10,000 stolen, this was disastrous in terms of reputation Even if WW were to improve Funtimes security services (they provide a far superior service to that of Logos) there remains a risk of reputational damage purely by association to Funtimes WW should not risk damage its current client relationships by appearing to provide a lower quality of security In conclusion WW should not, in our view, proceed with applying to re-tender for this contract The risk of association with Funtimes appears to exceed the opportunity cost of losing PQR‟s business The directors could consider holding out for renewal of PQR‟s contract alone (not Funtimes) but if this is really not possible they should withdraw and seek business elsewhere Entering a price war with Logos will only damage WW‟s margins as well as their reputation for quality guarding services Ethical considerations Although perhaps not intentionally, Corey Thwaites has behaved unethically by notifying us of Logos‟ tender proposal and offering to reveal its terms to Watchwell As chartered accountants we are bound by an ethical code and must at all times maintain integrity and professionalism We therefore recommend that WW decline Corey‟s offer, as it would not be ethical to benefit in negotiations from this inside knowledge We would not advise WW to attempt to undercut Logos (who often operate at a loss in order to gain market share) © The Institute of Chartered Accountants in England and Wales 2011 Page 11 of 13 Appendix 1: Review of WW‟s performance in the year ended 30 June 2011 Revenue - manned guarding - mobile security Revenue mix within manned guarding - Ardwicke PQR Granville Uni Soton College Dorset Hospital Jonas Other Against forecasts: 2011 - Ardwicke PQR Granville Dorset Hospital Soton College Jonas Quinto Other Gross profit margin - Gross profit Operating profit margin - Operating profit 2011 £000 2010 £000 17,998 926 18,924 13,391 873 14,264 2011 £000 2010 £000 5,980 1,789 1,413 912 904 1,452 5,548 17,998 3,676 1,280 1,443 1,031 928 792 4,241 13,391 Forecast £000 Actual £000 6,252 1,857 1,431 1,022 920 1,452 1,200 4,926 19,060 5,980 1,789 1,413 912 904 1,452 1,077 4,471 17,998 Actual 2011 Actual 2010 21.0% 3,970 10.3% 1,946 22.4% 3,195 12.1% 1,720 2011 2010 Variance £000 % 4,607 53 4,660 Variance £000 % 2,304 509 (30) (119) (24) 660 1,307 90% 24% 6.9 8.2 £11.91 79% 89% 21% 4.3 7.1 £11.73 78% £7.05 £6.89 63% 40% (2%) (12%) (3%) 83% 31% Variance £000 % (272) 68 (18) (110) (16) (123) (455) (1,062) (5%) 4% (1%) (11%) (2%) (10%) (9%) (6%) Variance £000 % 775 24% 226 13% Variance KPIs Utilisation Staff turnover Training days Sickness days Revenue per hour worked (manned guarding) Wages as proportion of revenue (manned guarding) 34% 6% 33% 1% 3% 2.6 1.1 £0.18 Industry average 85% 25% 80% 2011 = (14,423 – 192) 17,998 Average cost / pay rate per man hour (Based on 40 hour week) (manned guarding) © The Institute of Chartered Accountants in England and Wales 2011 Page 12 of 13 Appendix Proposed price for acquisition of Mustang‟s contracts (from Oct ‟11) Manned guarding Contract Expires Weekly hours 30 Sept 12 30 June 13 30 Sept 11 * 168 48 108 Guards per shift Charge rate £9.50 £8.85 £8.00* Pay rate £6.08** £6.10 £6.80 *50% chance of winning re-tender for yrs, but at reduced rate (*) Annual charge 1) 2) 3) 248,976 176,717 179,712 605,405 Annual pay Other costs Gross margin GPM 159,345 121,805 152,755 433,905 35,056 26,797 33,606 95,459 54,575 28,115 (6,649) 76,041 22% 16% (4%) 13% rd On the assumption that the contract is retained: Multiple of 1.5 (WW standard) x gross = £114,062 Assuming Contract is lost on re-tender: Multiple of 1.5 (WW standard) x (76,041 + 6,649) = £124,035 (***) On costs increased to 22% to match existing contracts of Mustang and reflect changes in ER‟s NICs and other costs (**) Pay rate has been increased to reflect minimum wage from Oct 2011 (*) Change rate has been reduced to £8.00 to reflect an estimate of the lower rate if re-tender is won Mobile security: On basis of current figures (y/e June 2011) x gross margin = £192,000 Allowing for new contract bringing additional revenue, margin falling to 50% and write off of £20k receivable currently disputed: £‟000 Revenue (160k + 30k – 20k) = 170 Margin at 50% = 85 Based on WW‟s standard multiple of = £170,000 Security consultancy: Using WW‟s standard multiple of for other (non-manned guarding) contracts, based on 2011 figures Value would be = £34k x = £68,000 Based on predicted double revenue and same gross margin = 52 x 2.0 x 65% x = £135,000 Total value: Sum of higher estimates = £451,000 Sum of lower (more prudent) estimates = £352,000 © The Institute of Chartered Accountants in England and Wales 2011 Page 13 of 13 ... 18 ,924 13 ,3 91 873 14 ,264 2 011 £000 2 010 £000 5,980 1, 789 1, 413 912 904 1, 452 5,548 17 ,998 3,676 1, 280 1, 443 1, 0 31 928 792 4,2 41 13,3 91 Forecast £000 Actual £000 6,252 1, 857 1, 4 31 1,022 920 1, 452 1, 200... 1, 022 920 1, 452 1, 200 4,926 19 ,060 5,980 1, 789 1, 413 912 904 1, 452 1, 077 4,4 71 17,998 Actual 2 011 Actual 2 010 21. 0% 3,970 10 .3% 1, 946 22.4% 3 ,19 5 12 .1% 1, 720 2 011 2 010 Variance £000 % 4,607 53... (11 9) (24) 660 1, 307 90% 24% 6.9 8.2 11 . 91 79% 89% 21% 4.3 7 .1 11 .73 78% £7.05 £6.89 63% 40% (2%) (12 %) (3%) 83% 31% Variance £000 % (272) 68 (18 ) (11 0) (16 ) (12 3) (455) (1, 062) (5%) 4% (1% )