ASSESSMENT TWO: S7 – S10



centercenterJessica Hall12143734 | CQUASSESSMENT TWO: S7 – S10Accounting, learning and online communication8820090900Jessica Hall12143734 | CQUASSESSMENT TWO: S7 – S10Accounting, learning and online communicationStep 7: Contribution MarginThroughout my journey in ACCT1159 I have learnt a lot about Schaffer Corporation. As a firm, Schaffer is extremely diverse in their services and operations as you can explore here: . In choosing my three products, I wanted to reflect this diversity. One major area of Schaffer’s operations is in Automotive Leather, selling quality leather to car manufactures. Another area is Schaffer’s sale of precast products. I have chosen two of these, one being the Deltacore Concrete Plank and the other being DeltaFLOOR precast concrete flooring. My three products are as listed below:Division: Automotive Leather (83% owned subsidiary) Product: Automotive LeatherDivision: Building & Construction, Delta Corp (Precast Products) – Product: Deltacore precast concrete plank Division: Building & Construction, Delta Corp (Precast Products) – Product: DeltaFLOOR precast concrete flooringSelling priceAutomotive LeatherSchaffer manufactures and sells their own leather. However, I could not find a real selling price for this product. After some research and, learning how leather is made, I found an average price for leather per square meterage. The price for each leather unit is therefore $70.00. Deltacore Concrete PlankDeltacore concrete planks are usually made at 1.2m wide and can be any length. Sticking with an estimated length of 7metres. This would put our fictional plank at 8.4 SQMTRS. For the sake of this assessment, based on some internet research on hollow pre-cast concrete planks, the price can vary considerably per SQMTR ordered for the concrete. These can be a bit thicker than our DeltaFLOOR products. I am going to price them at $100.00 a SQMTR. With all considered, the approximate fictional price per plank is $840.00.DeltaFLOOR Similar to the Deltacore plank, I will be pricing the flooring at $75.00 a SQRMTR * the size of the slab, in this case 11SQRMTRS. The DeltaFLOOR slab is fictionally priced at $864.00.Variable costs:The variable costs are similar as all three products are manufactured by Schaffer (not simply purchased and sold). However, the percentages of variable costs are lower for the automotive leather division when compared to the pre-cast concrete structures; as leather can be mostly processed by machinery. In addition, it is important to note that for all three products staff labour is often considered a variable cost. Each product does require human intervention to be manufactured. This means when the volume of product increases, human labour must also. Automotive LeatherAutomotive Leathers variable prices are considerably lower than that of the precast structures. However, to manufacture leather is quite the process. This includes the cost of raw materials (hides), chemicals for processing, utilities for powering machinery and labour costs. Raw materials: $7.00Chemicals: $5.00Utilities: $10.00Direct Labour: $10.00Total: $32.00 (45.7%)Contribution Margin = Sales – Variable CostsCM = 70 – 32CM = 38.00 (54.3 %)Deltacore Concrete PlankTo manufacture the Deltacore Concrete Plank requires a large amount of human labour to pour and skeet the concrete, and add structures such as steel and foam to each layer. Machinery is often used to mix and pour the raw materials into the cast. The whole process includes higher variable costs for direct labour (multiple staff are required for one product), raw materials (concrete bags, stones), utilities and distribution costs. Raw materials: $150.00Direct Labour: $200.00Utilities: $10.00Distribution: $200.00Total: 560.00 (66.7 %)Contribution Margin = Sales – Variable CostsCM= 840 – 560CM= 280 (33.3%)DeltaFLOORSimilar to the concrete plank, the DeltraFLOOR concrete slab requires human labour to pour concrete, skeet concrete and add structures. The same machinery is used to mix and pour the raw martials (concrete, stone). Utilities vary to power the machinery and the product is expensive to distribute to various construction sites. Raw Materials: $180.00Direct Labour: $200.00Utilities: $10.00Distribution: $200.00Total: 590.00 (68.3 %)Contribution Margin = Sales – Variable CostsCM= 864 – 590CM= 274 (31.7%)Contribution Margin Analysis: ProductContribution MarginAutomotive LeatherCM = 38.00 (54.3 %)Deltacore PlankCM= 280 (33.3%)DeltaFLOORCM= 274 (31.7%)The contribution margin allows managers to compare how a product or service is contributing to fixed costs and overall profit. Fixed costs are expenses that will remain the same regardless of the output or sales of a product and they must be paid. Whereas variable costs, are dependant on sales and the output of product. Where sales and output begin to increase, the variable costs will follow suite. From my understanding looking at the above contribution margins, Schaffer’s three products are contributing towards fixed costs and profit, however, the pre-cast concrete products fall significantly short of the automotive leather division. I believe this is due to the expensive nature of producing and distributing these pre-cast products. They require much more expensive raw materials than the automotive leather, and although all three products utilise machinery; direct labour is significantly more expensive when creating the pre-cast concrete products. Automotive may only use one person per unit sold, compared to two to three for the pre-cast planks and floors. Further, the only significant difference between the two pre-cast concrete products is realistically their size. Both have an almost identical production process (on the most basic level), it’s simply that the flooring slabs are larger in surface area and require more raw materials, labour and distribution costs to produce and distribute. There are many motives behind Schaffer’s diverse operations and why they produce an assortment of products. Firstly, Schaffer’s birth was in the construction industry and they have built their empire here. In the early days, Schaffer found its feet through the manufacture and distribution of bricks. In modern times, they are involved in large commercial building projects and development. The Deltacore range of pre-cast concrete has become many builder’s choice in the Western Australian market. With this in mind, Schaffer does need to provide a range of products to meet these commercial needs, which is where we acknowledge the demand for pre-cast plank and the pre-cast floor. Although similar, both contribute differently and equally to these large commercial projects. This is why they have to be sold as two separate products. Next the Automotive Leather is an extremely different product and in a completely different industry, with a much larger contribution margin. This alone would be very appealing to Schaffer, a company that prides itself on discovering opportunities to deliver more value to their shareholders. The production and supply of automotive leather has allowed Schaffer to diversify, break into overseas markets and partner with some huge, well known brands globally. Constraints: After much research, it is evident that Schaffer is faced with a variety of constraints. In the construction division (which covers their pre-cast concrete products), Schaffer is constrained by project delays resulting in production and sales being lower than projected. In addition, the construction industry in Australia is experiencing many challenges resulting in more and more competition amongst firms for large project contracts. If Schaffer fails to secure these large, often government contracts, the demand for large pre-cast structures drops significantly. Further, during challenging times, it can be difficult to locate the skilled labour required to create pre-cast concrete products. The use of trucks, concrete equipment and tricks of the trade all require individuals with qualifications in concreting, or tickets in truck and forklift driving. Where these people are working for competitors, or aren’t secured in constant work by Schaffer, they could end up searching for work elsewhere. Without these skilled staff, Schaffer cannot possibly create any pre-cast concrete products. The prerequisite for direct, skilled labour is simply to high. Next, their automotive division, although it has a higher contribution margin, can almost be more greatly affected by constraints. This is because the automotive leather is manufactured overseas across various markets. One processing plant is located in Europe, the other in Asia. Right now, Schaffer is experiencing distribution delays in all markets due to the COVID-19 pandemic that will most definitely affect production and distribution. In conjunction, lack of car sales will always directly impact the resource demand for automotive leather and sales. More specifically in 2019, it was noted that demand in the Asian markets slowed impacted by ongoing trade disagreements with the united states. Global automotive sales fell as Brexit caused concerns in the European market. Emission requirements also slowed across the automotive leather industry, impacting production volumes. ** List how: All of these various constraints, impact resource production and sales in one way or another. Where sales volume are lower, production is lower consequently effecting sales. Where sales are low, production must slow with it to avoid fixed and variable costs overtaking profit margins. Step 8: RatiosPlease find ratio calculations in the accompanied Schaffer spreadsheet.When I opened the task sheet for assessment two and skimmed over step 8, I was a little terrified. I shouldn’t have been, but my brain was alarmed when I read “please allow 9-10 hours to complete this step”. If the time I took to complete step 7 was any indication, I knew I was going to be here for a lot longer than that. Again, I can thank the heavens enough for Dr Maria Tyler’s helpful videos. With multiple tabs open, I was able to follow Maria’s guidance and note down some of the hints that related to my results (you can read more about my thoughts and reflections here at: Ratios Net Profit MarginCalculated as:Total CI / Total RevenueSchaffer Corporations Net Profit Margin aims to show a percentage value of how much each dollar of sales is being converted into profit when all expenses are paid. This is one of the most important calculations and heavily indicates Schaffer’s financial health. Under these circumstances, we are aiming to see a higher percentage value as this indicates that Schaffer is generating enough profit from sales to contain their expenses.Schaffer Corporations Net Profit Margin was calculated using Total Comprehensive Income (net profit figure after tax) and Total Revenue (as the sales figure in this equation). The Sale of goods figure in the financial statement is not an accurate figure as it lists zero Sales of Goods for both the years 2018 and 2019. Knowing Schaffer, I can identify that this isn’t an accurate representation of their sales. These sales figures have likely been divided under different headings in the individual 2019 and 2018 annual financial statements. Knowing this, it is best to use total revenue for this ratio analysis. Figure 1.0 – Schaffer Corporation - Net Profit Margin201920182017201614%47%32%23%I was pleased to see that Schaffer Corporations Net Profit Margin showed a steady increase from 23% in the year 2016 through to 47% in the year 2018. However, in 2019 there is a massive decrease back to 14%. This is an extremely large shift from the previous year. I suspect this fall could be the result of losses in the automotive leather division. In 2019, global automotive sales fell due to equipment manufacture struggles to comply with new emission requirements and concerns over Brexit. The Asian market demand also slowed due to trade disagreements with the USA. All of these factors combined could be the instigator for such a large fall. Although I am convinced this is the most likely scenario, the only other consideration is that during the second half of the 2019 financial year, Schaffer’s Delta Corporation division was impacted by project schedule delays. Such delays caused losses in revenue and production. Despite this large fall, I am still pleased to see that Schaffer remains with positive figures. Upon comparison and discussions with other students in this units Facebook group, I can now see it is entirely possible for a firm to be completely in the negative. Figure 1.1 – Tesserent Limited - Net Profit Margin2019201820172016-83.1%-58.1%-64.1%-4.6%Return on AssetsCalculated as:Total CI / Total AssetsSchaffer’s Return on Assets (ROA) indicates how profitable they are relative to their total assets. This may indicate how efficiently Schaffer uses their assets to create earnings. The results are shown using a percentage value. Ideally, one would hope to see a higher ROA as this indicates a firm is generating more earnings from lesser investment. Generally, here one would expect to see similar trends to that of the Net Profit Margin. In this instance, the ROA was calculated, again using Total Comprehensive Income (net profit after tax) and a Total Assets figure.Figure 2.0 – Schaffer Corporation – Return on Assets201920182017201613.7%15.1%4.9%3.3%In comparison, both Schaffer’s Net Profit Margin and their Return on Assets do show a similar trend as predicted (you can also see this in figure 2.1 for Tesserent Limited also). However, Schaffer’s ROA experiences fewer substantial jumps. We can see the same steady increase in years 2016 and 2017 followed by a substantial increase in 2018. As expected, we have experienced a fall in the year 2019, however this time the decrease is not as significant. One area to explore is the large increase in both Net Profit Margin and ROA from the year 2017 to 2018. This surge is likely to have been caused by growth in their Automotive leather division. During this growth Schaffer established additional leather finishing and cutting facilities in Slovakia. These opportunities caused large increases in the profitability of this division. At the same time, new technology to increase efficiency created further costs savings, again contributing to this surge. At this stage I feel Schaffer is utilising their assets well to generate a return. The decisions made in 2017 have evidently affected the firm positively leading into the 2018 financial year. Although we can acknowledge a drop into 2019, the result is still somewhat steady. It is sad I am not able to review the 2020 annual report as I predict this will yield some very interesting results in reference to our current global crisis. Had this global crisis been avoided I would have felt confident that Schaffer would remain steady into the coming financial year. However, 2020 is a great example of unexpected circumstances (or surprises) a firm would not have prepared for. My wishes for Schaffer are that they do not fall into negative patterns such as those experienced by Tesserent Limited in figures 1.1 and 2.1. Figure 2.1 – Tesserent Limited – ROA 2019201820172016-114.5%-66.4%-49.6%-2.2%Efficiency (or Asset Management) Ratios Efficiency (or Asset Management) Ratios are an effective measure of how well a firm uses its assets all whilst managing its liabilities. Schaffer has two large divisions (Automotive Leather & DeltaCorp Construction Materials) that specifically produce product, meaning in this instance efficiency ratios are a very useful tool. Efficiency Ratios are a great tool to assess and compare firms within the same industry to determine which of these firms are better managed. Days of InventoryCalculated as:Inventories / Cost of Sales and Services Rendered / 365A Days of Inventory Ratio can be utilised to investigate the number of days a firm holds inventory before that same inventory is sold. For Schaffer, the Days of Inventory Ratio was calculated using Inventories, Costs of Sales and Services Rendered. Initially once the ratios were calculated, this returned a negative result! I realised I needed to amend this to reflect the desired format being in days. From here, I can see that on average in 2019, Schaffer holds around 101 days’ worth of stock. Figure 3.0 – Schaffer Corporation – Days of Inventory2019201820172016101.7687.92112.65116.68In reviewing Schaffer’s Days of Inventory, I quickly noted that I am dealing with larger numbers. This means that Schaffer is turning over their inventory slower than other firms might be. This has been steadily improving since year 2016. The slip in 2019 would easily be attributed to the previously noted issues affecting both the Automotive Leather division and the Construction Division (DeltaCorp): Global Automotive sales dropProduction strugglesSlower demand in European and Asian markets. Equally, the drop experienced in 2018 could also be attributed to the increased production demand (and capabilities) that the new Slovakian facility gifted Schaffer in that particular financial year. Once this demand slowed into 2019, it makes sense that we would see a larger value reflected. (Need to compare to another firm in a similar industry)Total Asset Turnover RatioCalculated as:Total Revenue / Total AssetsThe Total Asset Turnover Ratio measures a firm’s capacity to produce sales from its assets. If the ratio is less than one it can indicate that the total assets are not able to produce enough revenue at the close of the financial year. In contrast, if the ratio is higher than one this means that the firm is generally able to produce revenue for themselves. In this instance, to keep consistency throughout the analysis, the Total Asset Turnover Ratio has been calculated using Total Revenue as a representation of all Sales. Figure 4.0 – Schaffer Corporation – Total Asset Turnover Ratio20192018201720160.981.161.021.14For Schaffer, it is alarming that each year the firm has experienced a decrease in this ratio. However, each increment has been remarkably small. In year 2019 Schaffer has only fallen just under the benchmark ratio of one. This indicates that at this stage, Schaffer’s total assets are not producing enough revenue. This is the same 2019 drop that we have consistently been experiencing throughout this analysis. Liquidity RatiosCurrent RatioCalculated as:Current Assets / Current LiabilitiesThe Current Ratio measures a firm’s capacity to pay short-term obligations and is essential to management accounting. An ideal Current Ratio is between 1.2 and 2, where a firm can demonstrate that they have enough current assets to cover their liabilities if required. This is extremely important and a great ratio to review as an optimum ratio between a firm’s assets and liabilities indicates that a firm could make urgent payments if required. A successful combination between current assets and current liabilities indicates strong Asset Liabilities Management in a firm. Figure 5.0 – Schaffer Corporation – Current Ratio20192018201720161.912.271.931.91Schaffer is performing extremely well according to their Current Ratio. The ratio indicates that if Schaffer’s debts were to fall immediately, they would be able to pay these. As indicated in figure 5.0, Schaffer experienced a steep rise in 2018 (keeping with our aforementioned 2018 surge). Despite this surge in 2018, all surrounding years return a positive result and remain consistent. From these results one can deduce that Schaffer is succeeding in the management of their assets and liabilities. Financial Structure RatiosDebt/Equity RatioCalculated as:Debt / EquityThe Debt to Equity Ratio is able to measure how much a firm is able to finance their operations through debt over independently owned funds. This ratio particularly is also able to measure whether or not shareholder equity could cover a firm’s debts if it were to fall immediately. Figure 6.0 – Schaffer Corporation – Debt / Equity Ratio201920182017201679.4%90.3%121.0%136.6%In review of the above results, we have learnt that for every dollar that shareholders have put into equity, Schaffer has borrowed 79 cents in the year 2019. This used to be much, much higher. However, this is decreasing which it an increasingly positive result for Schaffer. This could be due to increased cash flow, resulting in a lesser need to borrow funds from the bank. Equity RatioCalculated as:Equity / Total AssetsMost simply, the Equity Ratio determines what percentage of the firm is financed by the owners of that firm. Figure 7.0 – Schaffer Corporation – Equity Ratio201920182017201655.7%52.6%45.3%42.3%From the above results we can determine there is an increasing trend in Schaffer’s owners ability to fund the firm. This makes sense as where the Debt / Equity Ratio decreases, the Equity Ratio has an opportunity to increase. By 2019, Schaffer’s owners are now able to fund over half of the firm themselves. This is an extremely positive result and is a trend that I would encourage to continue into the future. Market RatiosMarket Value Ratios are tools that can help us evaluate the share prices of firms. These ratios can help us to identify whether or not stock is overvalued, undervalued or priced accordingly. Earnings Per ShareCalculated as:CI / Number of issued ordinary sharesThe Earnings per share ratio represents the amount each dividend in Schaffer would be paid at, if all the profit was split up amongst shareholders. This ratio is useful to compare a firm’s growth earnings each year. We hope that this ratio reveals a growth in EPS each year opposed to falling each year. If the EPS falls, there is generally a cause as to why this is. Figure 8.0 – Schaffer Corporation – Earnings Per Share20192018201720162.032.030.550.38In line with the overall trend, Schaffer experienced steady growth in their EPS during 2016 and into 2017. As expected, a surge was experiences in 2018. Surprisingly, the EPS did not drop in 2019. However, it has not increase, it has remained steadily the same. Only looking at these last four years shows a positive trend in EPS, one that is also remaining steady. Dividends Per ShareCalculated as:Dividends / Number of issued ordinary sharesInvestors often use Dividends Per Share (DPS) ratios to calculate the income they would receive per share if they were to invest in the firm. Figure 9.0 – Schaffer Corporation – Dividend Per Share20192018201720161.040.450.280.21The above results were the first in this analysis to truly surprise me. Although the ratios represent a positive, increasing trend for investors. I was surprised that 2019 did not experience a fall. Instead, 2019 has more than doubled from the previous year. I wonder if this is due to Schaffer’s investment activities and overall mission to improve shareholder value. Price Earnings RatioCalculated as:Market price per share / Earnings per shareThe Price Earnings Ratio can help investors measure the dollar amount they need to invest in a firm, to receive one dollar of earnings. From what I gather, a higher Price Earnings Ratio indicates that investors are willing to pay more as good growth is predicted in the firm’s future activities. However, a lower price indicates a shorter amount of time to make back your investment. Figure 10.0 – Schaffer Corporation – Price Earnings Ratio20192018201720166.726.5312.7113.53The good news is each year is getting better for Schaffer. 6 years is not the worst amount of time to receive your money back from an investment. Especially when compared to results in 2016. Ratios Based on Reformulated Financial StatementsReturn on Equity (ROE)Calculated as:Total CI / Total EquityThe return on equity ratio helps investors learn how much money a firm could generate from their money. A ratio of one describes that one dollar of equity will generate one dollar of net income. Figure 11.0 – Schaffer Corporation – Return on Equity (ROE)201920182017201624.49%28.76%10.91%7.89%Schaffer’s results are very consistent. As expected, we have a slow, steady increase for the years 2016 and 2017. A nice leap in 2018, followed by a fall in 2019. What we an learn from these results is that Schaffer’s ROE of 24% means that for every dollar of equity in the firm, Schaffer was able to earn 24cents. This is still a really positive result. Return on Net Operating Assets (RNOA)Calculated as:Operating income after tax (OI)/net operating assets (NOA)Return on net operating assets, otherwise known as its acronym RNOA, is a method used to assess a firm’s performance. RNOA is similar to ROA, in that the RNOA was developed as a variation to zoom on a firm’s operations. Many enjoy that the RNOA better represents core business activity as it is only comprised of operating activities as opposed to all of a firm’s activities (financial, investment etc). Ideally, we hope for a positive number here, the higher the better. However, what is ‘ideal’ is relative and should be compared to firms within particular industries. Whilst a positive number may look seemingly ideal, it may not be meeting the benchmark set by other firms within the same industry. Thus turning a positive result, into something slightly more sinister. Figure 12.0 – Schaffer Corporation – RNOA201920182017201627.84%38.57%11.94%9.53%ROA13.7%ROA15.1%ROA4.9%ROA3.3%In comparison to Schaffer’s own ROA and in removing financial operations, we can determine that the firm’s operations are at a minimum, trending similarly. However, the large conclusion that can be drawn from these results are that Schaffer’s operating assets are performing better than originally depicted in the ROA alone. This is one of the pinnacle reasons to calculate this ratio. Although we can be pleased to see a positive result for Schaffer corporation, we need to compare these results to other firms within the same industries. There are obviously firms in circulation that have produced alarming results, some well into the negative. What would be really interesting, is to compare Schaffer’s ROA and RNOA with their competitors. Net Borrowing Cost (NBC)Calculated as:Net fin. expenses after tax/net financial obligations (NFE/NFO)Net Borrowing cost or NBC is the cost of interest accumulated over the amount of debt the firm has. Figure 13.0 – Schaffer Corporation – Net Borrowing Cost (NBC)2019201820172016-35.90%-10.60%16.01%13.16%This is one of those interesting leads that you can read about in my reflection. Reading these results initially I was a slightly confused. One certainty is that Schaffer has started the trend in 2016 and 2017 with net financial obligations, resulting in quite a high interest rate. However, in keeping with the trend, we have a massive change in 2018 which has resulted in net financial assets, making these results difficult to interpret. This trend continues into 2019. In looking at Schaffer’s restated financial statement it is evident that the cause of this was in 2018 and 2019. This is where Schaffer has derivative financial instruments (2016 and 2017 do not have these) along with an increase in cash and cash equivalents. The derivative financial instruments include forward currency contracts and interest rate swaps. Derivatives are described in the 2019 annual report as assets when their value is positive and as liabilities when their value is negative. The annual report also lists cash and cash equivalents as cash and short-term deposits, net of outstanding bank overdrafts. So what does this mean for Schaffer? In short, I feel that the 2019 and 2018 results just aren’t comparable to that of 2017 and 2016. Operationally and financially the firm has transformed and differs extremely from the previous two years.However, for the sake of this interpretation, as previously noted, Schaffer’s NBC in 2016 and 2017 wasn’t the worst but wasn’t the best either. (need to compare to other firms)Profit Margin (PM)Calculated as:Operating income after tax (OI)/salesProfit margins or PM, is a profitability ratio that measures how a firm’s activities are making them money. The percentage shows how much of sales have been turned into a profit. This is comparable to Net Profit Margin (NPM) in that both are able to indicate whether a firms management is leading to higher sales all whilst controlling associated costs. In contrast, PM allows us to again, isolate our operations. In calculating PM for Schaffer corporation, I had to think a little bit outside of the box. There were some differences in the labelling of my sales/revenue over the four years. In this case my amounts were listed under two different headings. Please see the below example (highlighted in yellow). This was the only option to generate a result capable of being interpreted. Figure 14.0 – Schaffer Corporation – Profit Margin (PM)201920182017201615.57%14.32%7.50%5.89%NPM14%NPM47%NPM32%NPM23%In isolating Schaffer’s operational profit margin (PM) we can see a slightly altered trend than our net profit margin. This variation happens in the year 2019, where instead of a drop in PM, we experience a slight increase. From my research on how to improve operational profit margins, I believe this is a result of Schaffer’s strategy to improve operational efficiencies across all three divisions. These operational efficiencies were to counterattack some of the exterior operational threats Schaffer had been experiencing. By isolating the operational profit margin, we are able to see that these attempts are in fact holding.Asset Turnover (ATO)Calculated as:Sales/net operating assets (NOA)The operating asset turnover (ATO) ratio helps us to identify the capability of a firm’s asset to generate revenue. This is similar to the previously explored total asset turnover ratio (TATO) however, the ATO allows us to again, isolate a firm’s operational capabilities. To accurately calculate the ATO for Schaffer corporation, I had to again think out of the box. In my student discussions I was concerned some of my spreadsheet results were returning zero as a result and to me this just didn’t make sense. Another student prompted me to have a second look if I was concerned. In doing so, I noticed that my sales figures needed to be adjusted again, this time for the years 2016 and 2017 (please see why below – in yellow). Figure 15.0 – Schaffer Corporation – Asset Turnover (ATO)20192018201720161.792.691.591.62TATO0.98TATO1.16TATO1.02TATO1.14By isolating Schaffer’s operating asset turnover, we are able to identify an obvious increase to what was previously explored through total asset turnover. The results are again, consistent with previous trends explored throughout this analysis. From 2016 to 2018, Schaffer experienced a positive increasing trend, meaning for every dollar of operating assets sold Schaffer was able to generate $2.69 of sales by 2018. They experienced a more significant drop in 2019. I believe this would be due to the decline in sales in both their automotive leather sales (lower demand in European and Asian car sales) and their building material sales (slow construction industry). However, this is a much better result than that discovered by the TATO earlier in this analysis. Economic ProfitEconomic ProfitCalculated as:(RNOA - cost of capital) x net operating assets (NOA)Figure 16.0 – Schaffer Corporation – Economic Profit2019201820172016$19,613.08$23,461.66$2,038.60-$538.90Once I had finally finished my ratio analysis to the best of my current ability. I sighed very long and loud about having to spend so much more of my time analysing my firm's economic profit and its drivers. I was beginning to feel very stressed and burnt out. I do love these assessments, but when you're constrained by time and other assessment pieces in different units, it feels a bit like the never-ending story. To remain awake and efficient, I quickly followed Maria's advice (let's be honest, I would be lost without her videos). I needed to develop a deeper understanding of each driver and how they affected the end game, being my overall economic profit. I couldn't remember exactly which chapter this was covered in, so I went on a CTRL - F adventure through every single reading searching for gold. I found it in chapter four. Once I started to try and begin my evaluation, I hit a brick wall. I don’t know if this was from lack of sleep or lack of understanding. From what I gather, economic profit is greatly affected by a few key drivers. The first being RNOA, next being the cost of capital and lastly, the NOA. The relationship between the three can be best illustrated in the below equation:(RNOA - cost of capital) x net operating assets (NOA)In reading chapter four, Martin explains that the first step is to understand how Schaffer’s RNOA impacts their overall economic profit. Here Martin explains that the more a firm can invest in NOA at returns above their cost of capital, the more value a firm can create. I decided that the best place to start was by comparing my OI with my NOA. I had to ask, is it my OI experiencing these increases or is it my NOA. Looking at my assets I had expected it to initially be my NOA. I was wrong. My NOA actually fluctuates a little, but is fairly consistent and doesn’t really match the trend I was seeing. Especially since 2016 is my worst year for economic profit, yet according to my NOA it is performing better than 2018 (see below). It was as crystal clear once I looked into my OI. Here I could see the increasing trend that I had been searching for. And this was the result: Knowing this, and reviewing my overall economic profit, I can see that initially Schaffer was not doing very well at all in 2016 being at -$538.90 or at an RNOA of 9.53%. Although I am not surprised to see this. Overall, throughout my entire ratio analysis, everything is much less manageable in 2016. The economic profit is a mirror reflection of those activities. The only additional information. In 2016 Schaffer experienced restructures and changes to operational efficiencies ultimately led to inefficiencies over the period. Yet, I was still confused at how I could have returned a negative number when individually my NOA, my OI and my RNOA all returned positive results (hold that thought!). In saying that, in 2017 we are able to observe a positive economic profit value. From my research, 2017 was the year that paved many future successes for Schaffer. I discovered that RNOA can be heavily affected by an increase in operating liabilities. Which leads me to believe that Schaffer’s 2017 increase was caused by a decrease in operating liabilities or even an increase in efficiencies. Some notable circumstances 2017 that I believe have contributed are: Lower processing costs in Slovakian factoriesReduction in raw hide costsLower freight costsThis trend continued to effect 2018 positively, resulting in a huge surge. However, I do not feel this surge can be fully appreciated just by looking at my RNOA. Nor can the drop in 2019’s overall economic profit only be explored through RNOA (although I can acknowledge these trends are evident in my RNOA). Enlightened and confused I was ready to consider where my cost of capital was driving my economic profit. My first obstacle here was struggling to find my firms individual weighted cost of capital (WACC). This was not able to be located with my firm’s annual reports or through any amount of google searches. Believe me, I tried very hard to find this thing. As instructed by Maria in the unit’s instructional video, I chose to utilise a cost of capital rate of 10%. Now, in hindsight, once I checked the task sheet, I did see that we could use a rate of 8%, however, I had already completed the video and I have enjoyed the results. In using a rate of 10%, the rate has overpowered my RNOA in 2016 of 9.53%. This is why Schaffer’s overall economic profit has returned a negative result. Interestingly enough, if I had used a rate of 8% my overall economic profit would have totalled to $1,759.40. Next, I needed to understand how PM and ATO drive my RNOA. As previously stated in my ratio analysis, my PM and my ATO have followed the same rises and falls as most of my ratios have. There have been few exceptions to the rule. I decided to explore this relationship as mentioned at the very end of chapter four. When I tried the calculation RNAO = PM x ATO I was able to replicate my RNOA. I started really looking into these values and I learnt something interesting. In 2017 and 2016 the relationship between Schaffer’s PM and ATO, was very, very consistent. They seem to rise and fall almost equally with eachother. However, in 2018, where Schaffer experiences this huge surge, my PM seems to almost double. My ATP also experiences a rise, but not nearly to this extent. Upon closer inspected I can see that my PM is calculated using my OI. This truly leads me to believe that my OI is still my largest contributor in this surge. It starts to get even more interesting where this relationship is altered again in reverse in 2019. I’ve mentioned numerous times Schaffer experiences a slight decrease; we know the overarching reasons as to why but to discover this in the ratios was exciting. In 2019 we find that my PM is increasing, where my ATO falls almost back to where it was in 2017. Which leads me to investigate specifically, my NOA and total CI (in place of sales) in 2019. I was expecting my NOA to show a decrease, however this was not the case. My total CI (sales) is where the fall is experienced. Which completely lines up with the decrease in sales experienced by the automotive division and the construction materials division. Evaluating the drivers of Schaffer’s economic profit, breaking this down into tiny bits and pieces truly felt like a reverse investigation. Completing this task, I felt like I was following a trial of breadcrumbs backwards to one individual figure that has affected the others overall. It was really rewarding, really interesting and I feel like I a lot of previously grey areas have started to gain a lot more colour. Need to add discussion with peers here as everyone starts to post their draftsReflection / InsightsBreaking my firm Schaffer into pieces not only allowed me to truly view my firm underneath a microscope, but it also forced me to develop a deeper understanding of what these ratios were trying to tell me! At the start of this task, I believed I wouldn’t be able to interpret my firm’s ratio results. However, as you complete the task you begin to see patterns and trends. From these patterns, anything that doesn’t match seems to stick out like a sore thumb. Once you find this, you have to get your hands dirty. Why is this happening? Where can I find this information? What does this type of ratio result tell me? My experience during this task could be likened to a massive investigation. Reflections, Ratios and Step Eight – Blog post – 29/05/20In skimming the task sheet for step eight, I felt intimidated. Although I have learned multitudes throughout this unit, I will never profess to “know everything.” I do not believe anyone honestly can. Thus, it is my mission never to indulge in those thinking patterns or to measure others against it. The kicker here is that this didn’t do wonders for my confidence in approaching step eight. I genuinely believed that in interpreting my firm’s ratios, I would be a lost cause. The good news is that starting with such low expectations of myself, provided much delight as I began my journey through the task.To keep it brief, after having viewed less than a handful of other firm’s ratios during the drafting process so far, I have been able to determine Schaffer isn’t doing all that badly. In fact, I was quite impressed. I was also surprised that I was able to see such a healthy pattern throughout my analysis. For Schaffer, this was a steady increase between 2016 and 2017, followed by a big jump into 2018, ending on a seemingly harmless decrease in 2019. This was consistent, and where it wasn’t (only once or twice throughout my ratios), I put my detective cap on to follow my new found lead. I will admit, aside from any delicious insights I gained, the task did start to become a little mundane towards the end. I don’t know about you, but there are only so many ways you can describe the same circumstance that has affected multiple ratios. So, what were these circumstances?In short, the notable surge in 2018 I suspect was due to purchases of new manufacturing facilities in Slovakia (Automotive Leather Division). This created a boom. Increased output did wonders and affected the entire firm positively. The slight decrease in ratios in 2019 was most definitely attributed to many outside factors that affected sales across multiple divisions. The automotive leather division was impacted by lower demand due to fewer car sales across European and Asian markets. Schaffer’s building division also suffered from the weak structure of the Australian construction industry. The construction industry is plagued by fierce competition. Often this results in price battles, firms undercutting each other to secure contracts. This usually results in small losses here and there just to ensure workflow. Then, if you add a project delay or scheduling issue on top of that, you have a cocktail that is likely to decrease your ratios.Thoughts and questions after step eight?I feel that Schaffer’s operations have been shifting considerably over the years. The Debt to Equity ratio was a great example of this. They were quite a risky business to invest in early on. This has obviously turned around quite significantly. However, I wonder if this will all come unstuck due to the current global pandemic. Looking at the ratios alone, I would have predicted future results to remain similar to 2019. I just don’t think this will be the case now. It really is an excellent example of those ‘surprises’ a firm can unexpectedly experience.Firm ComparisonsIs your firm in a similar industry? How do our firms and their ratios differ?This is something I am excited to discover as everyone begins to upload their drafts. Often in researching each ratio and learning what they can uncover, I saw a lot about how they are most effective in measuring and comparing firms in similar industries. Although I am unsure if anyone is entirely in the same boat as Schaffer, if you are connected to someone in this unit that might be in Construction or Materials, please comment their blog link below so I can compare and contrast our ratios.ObstaclesI’m sure many of us hit at least one wall in completing step eight. Early in the task, we are required to locate our closing share price over each of the four years. Well… this was quite the learning experience for me. Initially, I thought this HAD to be something included in a firm’s annual report. Except for the inconvenience that my firm only includes closing prices for a strange date in September, not on 30 June. I decided to follow Maria’s recommendation and just go straight to the ASX. I was pretty confident I would be able to find these prices easily.?*I have to preface this next section by saying, none of you are allowed to laugh. None of you. I am a people person, not a numbers person, and this unit is most certainly a first experience for me. If you were suspect before that I might be an idiot, let me confirm it for you now. As you were…As I tried to locate the share prices, I discovered that for at least two years, I couldn’t single out the price for June 30 (yep). It stopped on June 28 and jumped a few days into July (I said don’t laugh) for two years. I was baffled. I still can’t determine if this was a blonde moment, or I’d just fried my brain staying up so late studying. I stopped the task, got some sleep. When I woke up the next morning, my light-bulb moment was literally in the shower (how cliché). It occurred to me that the reason the share price wasn’t listed separately for June 30 is that it didn’t change? There’s no need to update the chart every day, only when the price experiences a rise or fall. WHY DID THIS TAKE ME SO LONG TO REALISE?! (you can laugh now).?Anyways, now that I’ve exposed how silly I am, my next obstacle was searching for my firm’s weighted average cost of capital. That was, of course, missing (just my luck). So was my sales figure for two years (here we go again!), so I chose to use total revenue to provide the most accurate ratio analysis as I felt it at a minimum covered all three divisions of the firm.Next, I completed my Profit Margin and returned zero results for the years 2016 & 2017. I understand mathematically why my spreadsheet says 0. However, I can’t shake the feeling that I may have missed something here. (please let me know in the comments, god knows I need the help).I hope that in reading this post, you can walk away feeling:?Much more intelligent than you did before (you’re most welcome)Less alone?Confident (because if I’ve made it this far, you’ve got this!)Economic Profit Reflections – I am, back again with another harrowing reflection of my assessment attempts. Today I'm posting some brief reflections on my firm Schaffer's economic profit results. You can view my updated spreadsheet here! Schaffer Economic Profit ResultsOnce I had finally finished my ratio analysis to the best of my current ability. I sighed very long and loud about spending so much more of my time analysing my firm's economic profit and its drivers. I was beginning to feel very stressed and burnt out. I do love these assessments, but when you're constrained by time and other assessment pieces in different units, it feels a bit like the never-ending story.I quickly followed Maria's advice (let's be honest, I would be lost without her videos). I needed to develop a deeper understanding of each driver and how they affected the end game, being my overall economic profit. I couldn't remember exactly which chapter this was covered in, so I went on a CTRL - F adventure through every single reading searching for gold. I found it in Chapter four.The entire process I initially read in chapter four weeks and weeks ago, did not make sense until today. I remember feeling really emotional over the fact that when I first read that chapter, I felt like an alien. Now, in looking at Schaffer's economic profit with chapter four in hand, I felt like I was experiencing a reverse investigation. In viewing the ratios this way, we can follow little breadcrumbs that lead us to answers we did not have before. I realised that looking at these values only once, does not tell you how they affect a firm overall. It also does not tell you how regular rises and falls throughout a firm's activity are going to interact with each other. This is where all the action happens!Although mundane at times, I learned a lot about my firm's economic profit. I learned that it is profoundly affected by the capital investment rate. Although I could not locate my firm's exact rate, I had a lot of fun playing with different investment ones. Especially when I learned how this can return both positive and negative results using the same sets of numbers produced by your firm.e.g., In 2016, Schaffer returned a negative economic profit result using a capital investment rate of 10%. This is because the rate of 10% outweighed my RNOA of 9.53%. A capital rate of 8% instead, would have produced a positive economic profit.I was also able to see how my PM and ATO interact with each other and affect my RNOA. This lead me on a path to discover that some of my rises and falls were indeed affected by similar circumstances. Still, there is always an exception to the rule, and that's why we have to do these investigations.What have you learnt about your firms economic profit? Are our firms similar? Is there anything I have missed! Stay tuned for my VERY rough draft upload, coming soon! :) Discussions with other students:At the beginning of this unit I was a member of the unit Facebook group (until I needed to concentrate and submitted for Facebook to delete my account permanently!). Although it is the end of the unit now, I decided to create a new Facebook profile for myself and re-join the unit Facebook page so I could more actively participate in discussions with others (sometimes our blogs can get a little quiet). Please find some of these comments and discussions below. Blog postsRatios, Reflections & Step 8: on Economic Profit: – 10 Draft: Step 9: Capital Investment DecisionSchaffer Corporation has announced a considerable expansion of their interests in the automotive leather industry. In light of this announcement, Schaffer Corporation is considering to expand their current Leather processing plants in the Australasian market. All current plants are located in Kosice Slovakia, Thomastown, Victoria Australia and Shanghai, China catering to European and Asian markets. Schaffer Corporation is considering whether to build a new Leather processing plant in Richlands, Queensland Australia or Windsor, New South Wales Australia allowing a larger presence in the Australian market. At this stage, the life of the Queensland plant is estimated at 8 years. After 8 years, production is forecasted to outweigh the Queensland facilities output capacity. The circumstances are similar for the New South Wales plant; however, this plant is larger, therefore providing an expected life of 10 years and higher production capacities within this ten year period. Keeping with Schaffer’s strategic plan to provide increasing value to shareholders, the new plant is the next step for Schaffer’s leather division. For investment opportunity one, the Queensland location has an initial purchase cost of 1.5million AUD. After 8 years, it is forecasted that this facilility will be too small to cater for th35e increase in product demand. At this time, the facility will be sold. The residual value of this has been estimated at 2.1 million AUD. Investment opportunity two, the New South Wales location has a slightly higher initial purchase cost of 1.9 million AUD with a life expectancy of 10 years. In contrast to opportunity one, this facility is larger therefore allowing for immediate increases production. However, this extension on production is only forecasted to withstand an additional two years before this facility too, will need to be sold onwards. At such a time, a larger facility will be sought to cover these new demands. This residual value of this has been estimated at 2.9 million AUD. All cash flows generated for both investments will be acquired through the sales of automotive leather units to affiliated automotive brands for the global manufacture of vehicles. These cash flows are less operational expenses which can included expenses for raw materials (hides), chemicals (for production), direct labour costs and utilities. The estimated cash flow is based on projected sales in both the Asian, European and Australasian markets. Breaking into the Australasian market, we would expect to see similar cash flows for both investment opportunities, however, this trend begins to change from year 8 onwards as the New South Wales Plant will be able to accommodate for higher production volumes. Further, initially it is expected that due to the large initial investment costs, in conjunction with the fact the Schaffer is expanding into the Australasian market, initial production and cash flows will be lower and will gain momentum steadily over the lifespan of the investment. Schaffer forecasts their initial investment in this opportunity will occur on the 25th of June 2020, with forecasted future cash flows to be received on the 25th of June each year thereafter. The original cost, the estimated life, residual value and estimate future cash flow of each investment opportunity are set out in the table below in Australian dollars (AUD). A discounted rate of 8% will also be applied. Richlands, QLD PlantWindsor, NSW PlantOriginal Cost-$1,500,000-$1,900,000Estimated life (1)8 years10 yearsResidual value (2)$2,100,000$2,900,000Estimated future cash flows (3)2021$70,000$70,0002022$70,000$70,0002023$70,000$70,0002024$150,000$150,0002025$150,000$150,0002026$150,000$150,0002027$200,000$200,0002028$200,000$200,0002029N/A$250,0002030N/A$300,000Estimated life is how long Schaffer Corporation expects to own the Leather Processing Plant. Residual value is the expected cash flow when each processing plant is sold to another buyer at the end of its ‘estimated life’. Estimated future cash flows are estimated cash flows from automotive leather sales and services. The investment would be made on the 25th of June 2020. The estimated future cash flows are expected to be received of the 25th of June each year. Results (NPV, IRR, PP)Investment Opportunity 1 – Queensland Processing Plant (O1)NVP = $ 346,580.70 Note (s): A positive NPV indicates that projected earnings exceed anticipated costs. An opportunity with a positive NPV can be assumed to be profitable. IRR = 11.37%Note (s): This opportunity has an IRR above the discounted rate of 8%. This indicates this opportunity would most likely return a profit based on predicted cash flows. Payback period = 7 years and 3 months Note (s): To recover the cost of this investment opportunity it would take approximately seven years and three months. Investment Opportunity 2 – New South Wales Processing Plant (O2)NVP = $ 419,297.45Note (s): A positive NPV indicates that projected earnings exceed anticipated costs. An opportunity with a positive NPV can be assumed to be profitable. IRR = 10.62%Note (s): This opportunity has an IRR above the discounted rate of 8%. This indicates this opportunity would most likely return a profit based on predicted cash flows. Payback period = 9 years and 2 months Note (s): To recover the cost of this investment opportunity it would take approximately nine years and two months. Results DiscussionNet Present Value (NPV) The Net Present Value, otherwise referred to as NPV is an accounting tool a firm can use that indicates whether or not an opportunity is an intelligent financial decision. The NPV does this by using the present value of all forecasted cashflows and taking away the cost of the initial investment. In doing this, many hope their opportunity will return a positive result as this indicates that cash inflows are greater than cash outflows. Theory states that where an NPV is positive, there is value in going ahead with the investment. If an NPV is negative, this is a strong indication that the decision should be refused. Further, when an NPV is zero, there is neither no gain, nor loss in the investment. Upon review of the above analysis, both opportunities have returned positive NPV results, indicating that either decision should produce profitable results if all predicted cash flows were sustained. Comparatively, the New South Wales processing plant (O1) returned a somewhat significantly higher NPV than that of Queensland (O2). This was a difference of $72,716.75. Internal Rate of Return (IRR)The Internal Rate of Return, otherwise known as the IRR is another accounting method one can use to predict whether a long-term opportunity or investment is a good decision or not so much. The IRR utilises expected future cash flows to find the interest rate (usually displayed as a percentage) where the NPV of all cash flows equals zero. More simply, the IRR can illustrate if an investments return will outweigh its initial cost. The reason this is so great in comparing opportunities is because by using a percentage, it can be easier for all parties to understand. In analysing an opportunity, it is ideal that the IRR be greater than the discounted rate of return (in this case it is 8%). In this instance, both opportunities have again returned a result that surpasses the discounted rate of capital. However, in this instance the Queensland processing plant (O1) has return only a slightly higher result. Payback Period (PP)Simply put, the Payback Period (PP) is the length of time it takes to recover the cost of the initial investment. In this case, the payback periods differ by only two years. This is not overly significant as New South Wales processing plant (O2) has a higher initial investment and a two year longer lifespan. Comparatively, both opportunities only reach their break even point one year before the end of their predicted lifespans. Due to this, I do not find this a notable consideration when comparing the two opportunities. Investment DecisionIf both opportunities were independent of each other, both opportunities would realistically be recommended. However, in this case, we must make a decision on which opportunity is best for Schaffer Corporation to invest in. The difficulty here is that due to differing cash flow patterns, we are left with an example of conflicting NPV and IRR results. One opportunity has a higher NPV and lower IRR whilst the other has a slightly higher IRR and a lower NPV. In this case, both opportunities are mutually exclusive investments, meaning that one will exclude the other from consideration. After careful deliberation, I believe NPV is a more preferred and absolute measure and should be rated independently higher than that of an IRR in this particular instance. This is because the IRR is a relative measure and assumes that cash flows can be reinvested at the internal rate of return. NPV instead, assumes that reinvestment occurs at the cost of capital, which I believe is a safer more reliable and realistic option. With that in mind, this would make the processing plant in New South Wales the opportunity I believe Schaffer is safest to invest in due to the significantly higher Net Present Value (NPV).Thoughts/ personal discussion: Throughout my analysis of this capital investment decision my thoughts were running wild! As I’ve mentioned in previous KCQ’s, I don’t overly enjoy guesswork. Yet, I understand this is one of the best methods we have towards long-term decision making. In this case, luckily I was able to discover the NPV method is generally the more superior method when one is met with conflicting results. I just can’t shake the feeling that in this particular case, as both investment options share some similarities, it would only take the alteration of one cash flow to generate completely different results. The NPV, IRR and the Payback period are only as good as the inputs. We must acknowledge that a large portion of these NPV assumptions are indeed based on assumptions, guessing and educated predictions. In saying this, I am glad there was a distinction of a superior method as I was beginning to feel very stuck attempting to make my final recommendation. I can see that long-term investment decisions are rarely cut and dry. Step 10: Peer FeedbackTo be completed ................
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