Wednesday 28 July 2010 (4 hours) CASE STUDY CANDIDATE NUMBER DO NOT TURN OVER UNTIL YOU ARE TOLD TO DO SO When instructed: a b check that your question paper contains all the required pages The Institute’s consecutive page numbering may be found under the base line at the foot of each page; enter your candidate number in the box provided above Number each page of your answer consecutively using the space provided at the top right of each sheet Ensure that your candidate number is written on each page of your answer After the instruction to stop writing at the end of the paper, you will be given five minutes to assemble your answer in this folder Fasten your complete script inside this folder using the hole in the back page and the tag provided Do not include your question paper in the folder Answer folders and examination stationery, used or unused, must not be removed from the Examination Hall Question papers may, however, be retained by candidates Your answer must be submitted on the paper provided by the ICAEW in the Examination Hall Any pre-prepared papers, or papers comprising annotated exhibits from the case material, included in your answer WILL NOT be marked by the examiners ICAEW USE ONLY © The Institute of Chartered Accountants in England and Wales 2010 of 15 List of exhibits The following exhibits were included in the material provided as Advance Information: About you (Robin Tyler) and your employer (Kreem Ltd) The cosmetics and toiletries industry: Background The cosmetics and toiletries industry: Business models The cosmetics and toiletries industry: Regulation All about Kreem Ltd Memo from Rameet Sharma (Director of Finance and Business Planning) to all members of the board: Business review for the year ended 30 June 2009 Kreem Ltd: Management accounts for the year ended 30 June 2009 Kreem Ltd: Summary of arrangements with Retail Division customers Kreem Ltd: Summary of arrangements with HCC Division customers 10 Kreem Ltd: Supplier profiles 11 Kreem Ltd: Financial forecasts 12 Email from Henry Johnstone (Product Director) to Rameet Sharma: Packaging arrangements 13 Recent press articles 14 Kreem Ltd: Example product label The following items are newly provided: 15 Email from Rameet Sharma to you: Review of results and business planning 16 Kreem Ltd: Management accounts for the year ended 30 June 2010 17 Fax from Edwina Michaels (Purchasing Director, Longmore Hotels) to Roddy Ryan (Sales and Distribution Director, Kreem Ltd) 18 Email from Henry Johnstone to Rameet Sharma: Packaging arrangements – update 19 Recent press articles © The Institute of Chartered Accountants in England and Wales 2010 of KREEM LTD Case Study requirement You are Robin Tyler, a final-year trainee Chartered Accountant working for Kreem Ltd (Kreem), one of the UK's leading toiletries companies Requirement You are required to prepare a draft report for the Kreem board, as set out in the email dated 28 July 2010 from Rameet Sharma to you (Exhibit 15) Your report should comprise the following four elements: • • An executive summary Your responses to the three detailed requirements set out in Exhibit 15, including financial appendices (as required) State clearly any assumptions that you make All workings should be attached to your answer Your report should be balanced across the three detailed requirements, and the following time allocation is suggested: Reading and planning Performing calculations and financial analysis Drafting report hour hour hours Marks allocation All of the marks in the Case Study are awarded for the demonstration of professional skills, allocated broadly as follows: Applied to the four elements of your report (as described above) • Assimilating and using information • Structuring problems and solutions • Applying judgement • Drawing conclusions and making recommendations Applied to your report as a whole • Demonstrating integrative and multidisciplinary skills 20% 30% 25% 20% 95% 5% 100% Approximately 15% of the marks are awarded for the executive summary and 10% for the appropriate discussion of ethical issues within your answer to the requirements In planning your report, you should be aware that not attempting one of the requirements will have a significantly detrimental effect on your chances of success, as will not submitting an executive summary In addition, as indicated above, all four skills areas will be assessed under each of the four elements of your report Accordingly, not demonstrating your judgement and failing to include appropriate conclusions and/or recommendations in each element of your report will affect your chances of success © The Institute of Chartered Accountants in England and Wales 2010 of EXHIBIT 15 EMAIL From: To: Date: Subject: Rameet Sharma, Director of Finance and Business Planning Robin Tyler 28 July 2010 Review of results and business planning At our next board meeting, in addition to discussing the annual results, we will be focusing on business planning I have been asked to brief the other directors on two topics: (i) the possible sales contract with a potential new HCC customer, the Longmore chain of hotels; and (ii) strategic issues in relation to our packaging supply arrangements I am attaching the following relevant documents: • • • • Management accounts for the year ended 30 June 2010 (Exhibit 16) The proposal from Longmore (Exhibit 17) An email from Henry Johnstone about our packaging supply arrangements (Exhibit 18) Various recent press articles (Exhibit 19) I would like you to prepare a draft report to the Kreem board, comprising: An analysis of the company's performance for the year to 30 June 2010 Your analysis should cover (i) revenue, costs and EBITDA compared with actual figures for the year to 30 June 2009 and forecast figures for the year to 30 June 2010; and (ii) changes in working capital A comparison between (i) the proposal for Kreem to become exclusive toiletries supplier to a new HCC customer, Longmore, and (ii) renewal of the existing contract with Mangold, on the basis that (owing to a conflict of interest) Kreem is not able to undertake both contracts Your comparison should cover the contract period (1 January 2011 – 31 December 2013) It should include sensitivity analysis on selling price and a discussion of the assumptions affecting the other elements in your calculations You should also set out the risks to Kreem of each contract and your recommended option A discussion of the proposal to diversify our packaging supplies by transferring a proportion of our annual requirement from Jugson to Tryphik in 2011 Your discussion should consider the general benefits and risks to Kreem of having multiple sources rather than a single source for its packaging supplies It should also address the specific operational and ethical aspects (including corporate responsibility) of transferring some of the packaging work to this new supplier based outside the UK I look forward to reading your draft report Rameet © The Institute of Chartered Accountants in England and Wales 2010 of EXHIBIT 16 Kreem Ltd: Management accounts for the year ended 30 June 2010 Income statement Revenue Cost of sales Gross profit Other costs EBITDA Depreciation and amortisation Operating profit Net interest payable Profit on ordinary activities before taxation Tax charge on profit on ordinary activities Profit for the financial year Notes 1, Statement of financial position 24,375 146 24,521 Total assets Cash flow statement Operating profit for the year Depreciation and amortisation (Increase) in inventories (Increase) in receivables Increase in trade payables (Decrease) in other payables and accruals (excluding tax) Net cash inflow from operating activities Net cash flow from returns on investment / servicing of finance Taxation paid Financial investment: Purchase of non-current assets Net cash inflow before financing Net cash outflow from financing: Repayment of loan due to KdK Increase in cash in the year © The Institute of Chartered Accountants in England and Wales 2010 2,383 7,789 5,080 15,252 39,773 Shareholders' equity Ordinary share capital Retained earnings Non-current liabilities: Loan due to KdK Current liabilities Total liabilities 37,388 (14,995) 22,393 (13,999) 8,394 (1,683) 6,711 (1,400) 5,311 (1,487) 3,824 £000 Non-current assets Intangible assets Tangible assets Current assets Inventories: Finished goods Receivables Cash at bank and in hand £000 2,500 15,927 18,427 12,000 9,346 39,773 £000 6,711 1,683 (763) (2,060) 710 (364) 5,917 (1,400) (1,253) (105) 3,159 (3,000) 159 of Note 1: Segmental analysis £000 Revenue (see also Note 2) Retail Division HCC Division 30,595 6,793 37,388 Gross profit Retail Division (including £2,754,000 attributable to Wychdean) HCC Division Note 2: Revenue by customer Tongwell Eddlestone Nutra Wychdean (6 months from January) Other Sprague Hotels Alfresco Conference Centres Mangold Hotels Xanthus Cruises Sales volumes (000 units) 18,030 4,363 22,393 Retail £000 12,737 5,183 3,544 5,835 3,296 30,595 HCC £000 2,464 2,217 1,039 1,073 6,793 Total £000 12,737 5,183 3,544 5,835 3,296 2,464 2,217 1,039 1,073 37,388 33,739 7,857 41,596 Sales volumes for Retail Division include 6,757,000 units in respect of Wychdean Note 3: Cost of sales Manufacture and production Packaging Product management teams Note 4: Other costs Sales and distribution R&D and product testing Design and creative teams Advertising and marketing Head Office support (finance, legal, admin, property, HR, IT) Note 5: Receivables Trade receivables Other receivables and prepayments £000 10,845 3,372 778 14,995 4,990 571 1,507 3,959 2,972 13,999 7,535 254 7,789 Included within trade receivables is £1,577,000 due from Wychdean Note 6: Current liabilities Loan due to KdK Trade payables Other payables and accruals (including taxation & social security) © The Institute of Chartered Accountants in England and Wales 2010 3,000 4,179 2,167 9,346 of EXHIBIT 17 From: Edwina Michaels, Purchasing Director, Longmore Hotels, Richmond, Surrey, UK To: Roddy Ryan, Sales and Distribution Director, Kreem Ltd Date: 22 July 2010 BY FAX: STRICTLY CONFIDENTIAL Dear Mr Ryan, As you may know, we are a chain of 75 UK hotels, with 3,750 bedrooms in total As part of an ongoing rebranding exercise, we are looking to change our toiletries supplier and are approaching you to discuss an initial contract for three years from January 2011 to 31 December 2013 The existing supplier will not be re-tendering We see ourselves as direct competitors of Mangold, Airview and Bullover, and as a result our proposal is subject to Kreem Ltd not supplying any of these companies while you have a contract with us We consider ourselves a very attractive proposition, particularly in view of our expansion plans (see below) The proposal Our plans (which are not to be disclosed to other parties without our express permission) are as follows: Year to 31 December 2011 2012 2013 Average number of hotels Average number of bedrooms Average occupancy rate 75 3,750 70% 90 4,500 80% 150 7,500 85% The lower occupancy rates for 2011 are due to the fact that all our 75 existing hotels will be undergoing a rebranding and refurbishment during the year to 31 December 2011, during which all bedrooms will be closed for an average of two months This rebranding and refurbishment (following which the hotels will be known under the name Longmore Prestige) is a prelude to a major two-part expansion programme: A significant UK expansion, taking place over 2012 and 2013 Our first venture into Europe, starting in 2014 We are in initial negotiations with property developers for sites near Paris and Amsterdam Thus there is potential for an even larger contract in due course We envisage your toiletries being supplied in dual-branded bundles of four items, in your standard small sizes (namely: bar of soap, bottle of liquid soap, bottle of bath foam and bottle of shower gel), with one bundle per room irrespective of the number of guests staying in that room We propose a contract price per bundle of £1.00 which, subject to negotiation, would remain in place for the entire duration of the contract Other than during refurbishment, every bedroom in each hotel is open every day of the year (including Christmas) Our public washrooms not form part of the proposed contract © The Institute of Chartered Accountants in England and Wales 2010 of Our environmental policy According to recent industry surveys, travellers are increasingly choosing to stay at hotels with sound environmental policies and practices We at Longmore pride ourselves on our environmental policies Some hotels automatically throw away any unopened bottles and sachets of toiletries as part of the morning room cleaning, or at the end of a guest's stay, but our approach is that any unopened items are left in the room for the next night or next guest Based on our experience with our existing supplier, we would assume an allowance of 20% for non-replacement when calculating our annual purchase requirements Other opportunities All of our hotels have retail shops, which contribute significant amounts of revenue every year As part of our contract, we would be looking to supply regular-sized bottles of your toiletries in these shops, at prices to be negotiated with you We also provide links to our suppliers' websites, where we take a share of any resulting revenue from sales of suppliers' products: we would be pleased to discuss such an option with you These initiatives could potentially add an average of 10% to your revenue from the contract for each of the three years Other information Our latest audited financial statements show that we earned revenues of £210 million and made a profit before tax of £9.2 million in the year to 31 December 2009, both up 7% on the previous year We believe that Kreem would be an exceptional complement to the changes in progress at Longmore We have no doubt that the strength of the Kreem brand and superb quality of its products will resonate well with our guests The Longmore relaunch focuses on what matters most to guests – modern, contemporary hotels with efficient, friendly service and a great night's sleep Top-quality bathroom products can only add to this overall impression We look forward to discussing our proposal with you, on a strict 'no obligation' basis Yours sincerely Edwina Michaels For and on behalf of Longmore Hotels © The Institute of Chartered Accountants in England and Wales 2010 of EXHIBIT 18 EMAIL From: To: Date: Subject: Henry Johnstone, Product Director Rameet Sharma, Director of Finance and Business Planning 20 July 2010 Packaging arrangements – update This is an update on developments since my last email, dated 26 May (Exhibit 12) Daniella Wood, the Head of Customer Relations at Jugson, was not able to convince me that the service would improve, so I met with several of the Jugson directors on Monday They assured me that the problems were being actively addressed, as the personnel responsible for providing us with poor service have now left the company Nevertheless, I have been continuing to explore the option of transferring some of our packaging to other suppliers My team has produced a shortlist of such companies, and from these I particularly like Tryphik, which is based in France From our research, Tryphik appears to have sufficient capacity and suitable design processes Another benefit is that, with one of the Xanthus cruise liners being moored off the French coast, Tryphik may be able to supply direct to the ship without the need to use Oloros (our distributor) The initial intention would be to transfer up to 25% of our business to Tryphik once the exclusive contract with Jugson expires at the end of 2010 The arrangement would be for a one-year 'trial' period, with prices, invoices and payments set in euro A major point of appeal is Tryphik's understanding of the toiletries business It has contracts with several large multinationals, some of which have been in place for over 20 years Here are some quotes we have obtained from senior figures at four existing Tryphik customers in the UK: "They are quite simply the best They understand our needs and we always feel as though we are their most important customer, if not their only one Once when their software broke down, they worked round the clock to ensure our bath foam order was fulfilled on time." "They were brilliant when we wanted to redesign our packaging as part of a rebranding for our sauces and other food products We hadn't done this before and they led us through each step of the process A word of warning though: they can be very expensive!" "Their attention to detail on recycling, biodegradability and safety is superb They even offered to come in and give us free staff training on ecological sustainability of toiletries!" "We use Tryphik as one of three companies that packaging for us Their designers are really creative but they can sometimes misunderstand instructions from our manufacturing department – this may have something to with language and cultural barriers." You will appreciate that we need to be certain of our security of packaging supplies and to come to a decision soon Henry © The Institute of Chartered Accountants in England and Wales 2010 of EXHIBIT 19 Recent press articles Cosmetics company criticised for moving manufacture overseas Review, 23 July 2010 UK cosmetics company Ellis Ltd, founded and wholly owned by Lucy Ellis, has been severely criticised for transferring its manufacturing supply contract from its outsourcing partner in Scotland to a company based in Asia, where production costs are 30% lower, with the loss of 150 jobs Trade unions reacted angrily at the announcement "Ms Ellis has no commitment to her workforce and is a very poor example to the rest of the sector," one representative said, "This is confirmation that her motive is making even greater profit at the expense of UK manufacturing and her loyal staff Ellis cosmetics can no longer be said to be UK products." The growth of India as a software and call centre economy has seen British companies transfer thousands of posts overseas while low-cost east European companies have benefited from the switch of manufacturing capacity In a brief statement, Ms Ellis claimed that the move to Asia had in fact saved highly-skilled jobs in Scotland A third of the workforce now has a science background: some had contemplated emigrating to the US, potentially adding to the so-called 'brain drain' – loss of technical expertise from the UK She added that the move would result in a substantial increase in the company's total output; and this, in conjunction with the planned launch of Ellis cosmetics in Russia, would create new jobs in the UK EXCLUSIVE! Tryphik denies animal role Daily News, 28 July 2010 Packaging supplier Tryphik, no stranger to controversy, has vigorously denied claims made last night by an unnamed source that it knew of the scandal surrounding toiletries company Merjoram, for which it designs and makes bath foam bottles Film available on YouTube appears to show Merjoram clearly testing products on animals, although it has insisted for many years that it strongly opposes animal testing Previous experience has shown that the UK public can react very strongly towards animal testing in the toiletries industry, sometimes boycotting companies known or believed to be involved or implicated (however indirectly) in such activity Tryphik has issued a statement saying that it is seeking clarification from Merjoram and that, if the testing is confirmed, it would cease supplies immediately and start legal action for damages against Merjoram Ugly Jugson? Toiletries Today, 28 July 2010 Packaging company Jugson could be in trouble over its awarding of contracts Its directors are said to have made misrepresentations over a number of years about the company's capabilities, as well as providing excessive hospitality to prospective customers and offering bribes in the hope of winning supply contracts One cynical industry observer has remarked that Jugson may find it easier to win contracts in those countries where bribery is an accepted part of business She adds that it may be no coincidence that Jugson is currently looking to extend its customer base overseas Jugson heavily denies the claims and is taking legal advice over its response © The Institute of Chartered Accountants in England and Wales 2010 of ... Recent press articles © The Institute of Chartered Accountants in England and Wales 2010 of KREEM LTD Case Study requirement You are Robin Tyler, a final-year trainee Chartered Accountant working... Accountants in England and Wales 2010 of EXHIBIT 15 EMAIL From: To: Date: Subject: Rameet Sharma, Director of Finance and Business Planning Robin Tyler 28 July 2010 Review of results and business... in England and Wales 2010 of EXHIBIT 18 EMAIL From: To: Date: Subject: Henry Johnstone, Product Director Rameet Sharma, Director of Finance and Business Planning 20 July 2010 Packaging arrangements