(a)
Prepare a report for the directors of Bramble which should include the following: Calculation of Net Present Value and Internal Rate of Return for the contract assuming weekly collection and that Bramble could achieve cost savings similar to those achieved by other councils. Calculate the minimum tender price that Bramble should submit assuming: o Collection once a week o Collection once a fortnight Any other financial aspects of the tender that the directors should consider.
(b)
Prepare a report for Newtownabbot Borough Council which should include the following: An evaluation of the financial strengths and weaknesses of the three businesses short-listed for the contract and an overall ranking using a method you consider appropriate. An identification of key criteria that the Council should consider when assessing the capability of each contractor to provide the services required.
For: Mike Pogue From: Stephen McArdle, Rob McConnachie(40071776), P Twafik Mohamed, Abi Somorin (40074562) Student ID: 40070577 Word Count: xxxx words (this page=82, embedded ref=9+40+21+8, ref page=) Course: Corporate Finance; MGT9089 Date: 14th December2011
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(c)
Prepare a report for Newtownabbot Borough Council which should include the following: An evaluation of the financial strengths and weaknesses of the three businesses short-listed for the contract and an overall ranking using a method you consider appropriate. An identification of key criteria that the Council should consider when assessing the capability of each contractor to provide the services required.
Evaluation Criteria We will select and evaluate the required financial data from the summary financial statements of the three shortlisted businesses Bramble, Sorrell and Glenshane, to provide a ranking based on the working capital, profitability and liquidity ratios. We would also be listing the key criteria to assist Newtownabbey Borough Council to assess the capability of each contractor. We will be primarily using financial ratios to evaluate the profitability of each business with respect to its turnover, assets, capital, and liquidity capabilities to pay off its debts. We would also do a trend analysis based on the three years of financial statements and also do an inter-firm comparison by comparing the trends of the three businesses against one another. As this is a four-year contract, the primary criteria would be the ability for each of these businesses to be sustainable throughout the contract period, which will be determined by profitability, liquidity and return on investment ratios. Financial Ratios Used and their definitions For our analysis we would be only using profitability, liquidity and return on earnings ratios. Profitability Ratios: Profitability ratios also known as profit margin ratios compare income with sales and give an idea of the utilization of resources by the company to generate profit. It helps to understand the companys investment quality. The profitability ratios can be further sub-divided into gross profit, operating margin ratios and return on investment (ROI).
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The gross profit margin ratio tells us the profit a business makes on its cost of sales, or cost of goods sold telling us how much gross profit per 1 of turnover or revenue earned by the company. As the gross profit is the profit earned before taking off any administration costs, selling costs and so on, it is a good indicator about the business ability to consistently control its production costs. Gross profit Revenue * 100
Gross profit margin =
The operating profit margin also called as net profit margin ratio tells us the amount of net profit per 1 of turnover a business has earned, after taking account of the cost of sales, the administration costs, the selling and distributions costs and all other costs, the net profit is the profit that is left, out of which the company will pay interest, tax, dividends and so on. Comparing the gross and the net profit margins one can gain a good impression of the companys non-production and non-direct costs such as administration, marketing and finance costs. Operating profit * 100 Revenue
Operating profit margin =
The return on investment (ROI) helps assess the companys ability to earn an adequate rate of return. Net Profit Return on Investment (ROI) = Current assets + Fixed assets * 100 Liquidity Ratios: Liquidity reflects the ability of a company to pay off its short-term debts using assets that ae most easily converted to cash, in other words liquid assets, and are listed on financial statements as current assets. In general, the larger the coverage of liquid assets to short-term
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liabilities the better it is for the company, as it is a clear indicator of the companys ability to pay of its debts that are coming due in the near future and can still fund its ongoing operations. A company with a low coverage rate would raise a red flag for investors as it may be a sign that the company will have difficulty meeting running its operations, as well as meeting its obligations. Current ratio is one of the most popular ratios used to test a companys liquidity derived by the ratio of its current assets to its liabilities, which helps to estimate whether the company can pay off its debts within one year from its assets that its expects to turn into cash within that year. A ratio above one is good, and anything below one is a cause of concern, especially if it persists for more than a year. Current Assets Current Ratio = Current Liabilities Another Liquidity ratio is the Acid-test ratio which is similar to the Current Ratio with the exception of Stock. Current Asset Stock Current liabilities
Acid Test Ratio =
However for the purpose of this assignment, the acid test ratio would not be considered as there is no information on the stock of the companies. Total Asset turnover: Total asset turnover is the ratio between the revenue of the company to its total assets that were used. This ratio is a good measure of the companys efficiency in managing its assets. In general the higher the total asset turnover ratio the better it is for the company profits and shareholders and indicates a good balance in the level of investment in the working capital.
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Total Asset turnover =
Revenue Total Assets
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Table 1: Summary Financial Statement Bramble million 2011 Revenue Cost of sales Gross Profit Administrative expenses Operating profit Finance charges Profit before tax Tax Profit for period 254.5 214.2 40.3 16.5 23.8 8.2 15.6 4.4 11.2 million 2010 180.2 148.8 31.4 13 18.4 8 10.4 1.6 8.8 million 2009 135.6 118.6 17 8.8 8.2 8 0.2 0.2 million 2011 502 412.5 89.5 41.3 48.2 15 33.2 8.3 24.9 Sorrell million 2010 448.4 400.5 47.9 31.9 16 16 0 0 million 2009 480.4 394.6 85.8 45.4 40.4 16 24.4 6.1 18.3 million 2011 252.5 200.4 52.1 22.1 30 18 12 3 9 Glenshane million 2010 240.2 191.2 49 19.8 29.2 18 11.2 2.8 8.4 million 2009 222.4 176.8 45.6 19.6 26 18 8 2 6
Table 2: Summary Balance Sheet Bramble million 2011 Non-current assets Current assets Total assets 253.5 108.5 362 million 2010 177 90.4 267.4 million 2009 125.8 84.3 210.1 million 2011 543.6 168.5 712.1 Sorrell million 2010 487 160.1 647.1 million 2009 465.8 154.5 620.3 million 2011 342.3 126.2 468.5 Glenshane million 2010 334.8 128.3 463.1 million 2009 318.6 110.2 428.8
Equity Non-current liabilities Current liabilities Total equity and liabilities
90.8 100 171.2 362
40.3 100 127.1 267.4
31.5 100 78.6 210.1
230.6 300 181.5 712.1
205.7 320 121.4 647.1
205.7 320 94.6 620.3
86.2 300 82.3 468.5
77.9 300 85.2 463.1
71.9 300 56.9 428.8
Table 3: Financial Ratio Calculations Bramble 2011 Gross Profit Operating profit margin ROE 15.835 9.35167 3.09392 2010 17.42508 10.21088 3.29095 2009 12.53687 6.047198 0.095193 2011 17.8287 9.60159 3.4967 Sorrell 2010 10.68243 3.568243 0 2009 17.86012 8.409659 2.950185 2011 20.63366 11.88119 1.921025 Glenshane 2010 20.39967 12.15654 1.813863 2009 20.5036 11.69065 1.399254
Net working capital Liquidity Ratio
-62.7 0.6337
-36.7 0.7112
5.7 1.073
-13 0.9284
38.7 1.319
59.9 1.633
43.9 1.533
43.1 1.506
53.3 1.937
Asset turnover
70.3039
67.38968
64.54069
70.4957
69.29377
77.4464
292.9234
308.344
309.3185
Financial Analysis of Bramble
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Brambles working capital deficit has nearly doubled in the last year due to its current liabilities increasing rather sharply than its current assets. Though Brambles assets and its profits are on the rise, having a working capital deficit makes it rather illiquid. Bramble has posted consistently larger net and operating profitability ratios, but lesser gross profits, which would indicate that their management team has much more control on its operating expenses. However their liquidity ratio has been steadily decreasing with its current ratio below 1 for the last couple of years, indicating that their current liabilities are increasing way beyond their equity. Brambles ROI has been rather erratic by being quite poor at 0.09 in 2009 to a sharp increase of 3.29 in 2010 falling to 3.09 in 2011, which could be explained by nearly the doubling of equity in the last couple of years with only mild increase in after tax profits. Financial Analysis of Sorrell Sorrell posted a working capital has been steadily decreasing culminating in a working capital deficit in 2011. Though Sorrells assets and its profits are on the rise, having a working capital deficit makes it rather illiquid. Sorrell seemed to have a blip in 2010 when they posted their lowest gross profits which resulted in not posting any profit before tax. Their current liabilities have been increasing faster than their total assets. Their management team have been slightly erratic in their decision pertaining to their operating expenses as can be seen by their operating profit margins. Sorrells liquidity ratio has been slowly decreasing dipping below unity for 2011. Sorrells ROI has been progressive upwards, except for the blip in 2009 when they posted zero pre tax profits. Financial Analysis of Glenshane Glenshane has posted steady gross, operating and net profits, displaying a stable trend. It has a steady positive working capital with a stable liquidity ratio of 1.5 for the last two years
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dropping from 1.9 in 2009. Glenshane also has a consistent asset turnover, thus indicating a stable management team able to extract steady performance from its assets. Ranking the short-listed service providers Liquidity (Current Company Profitability (ROI)1 ratio) Bramble Sorrell Glenshane 2.16 (High) 2.15 (Medium) 1.71 (Low)
2
Strategy
0.81 (Low) 1.29 (Medium) 1.66 (High)
Aggressive Balanced Defensive
In addition to the profitability and liquidity ratios, the council may also want to take into account the asset turnover ratio. Glenshane has the strongest average asset turnover at 303.5 followed by Sorrell at 72.4 and Bramble at 67.4. Glenshanes average liquidity ratio of 1.66 is within the industry liquidity ratio which is within 1.5 and 1.8, which along with superior asset turnover makes it the top-ranked contractor. Ranking 1 2 3 Contractor Glenshane Sorrell Bramble
Key Criteria to assess capability of contractors
1 2
ROI ratio Average over 3 years Average Current ratio over 3 years
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The council should also look at the following quality criteria: 1. Capability of the company in terms of equipment and its waste management strategy 2. Capacity of the company in terms of percentage of resources employed for this project 3. References from other councils 4. Performance standards, quality control, self monitoring and complaints 5. Sustainability issue and environmental characteristics o Environmental policy in place o Evidence of reduced environmental impact o Continuous environmental improvement 6. Skills level of the workforce. o Evidence of trained personnel 7. Equal opportunities 8. Customer care policies to describe the processes used for monitoring, level of feedback and review Conclusion Based on financial strengths and weaknesses of the three short-listed contractors using liquidity, profitability and asset turnover ratios the council should adopt a defensive strategy and award the contract to Glenshane. In addition to the financial capability and sustainability criteria, Newtownabbot council should also employ additional non-financial criteria to ensure the most appropriate contractor is selected. Of the eight criteria listed earlier in this report, the three key criteria that the council should do due diligence on are - capability, capacity and performance standards of the contractors.
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