Understanding project contractors and contracting businesses - Essay Example

Introduction This paper involves an in-depth analysis of companies that are basically construction contractors. The analysis will be done on thebasis of key performance indicators (financial ratios) during the period 2005-2011. Analysis of such parameters will help us with an understanding about how the companies have performed over the seven years and whether they were able to add value to the company. The two firms that have been chosen are Midas Retail Limited and Rock Fall Company Limited based in the United Kingdom whose primary line of operations includes construction and drilling. These companies have been chosen on the basis of a particular ratio which is turnover to total assets ratio. One of the companies chosen above has a high total asset usage and the other one has a low total asset usage. The underlying rationale behind choosing this ratio as the primary differentiating parameter between these two companies is because this ratio is very useful in determining the financial performance of the company. It gives us an indication of the pricing strategy that the companies have adopted. Moreover, the firms have been chosen as a case of high and low values of a ratio that appears in the Du Pont system, which will make it easy for us to explore relationships and trade-offs between that and other ratios. The following sections will involve the analysis of key financial ratios that the firms have been able to achieve over the seven years. 2. Midas Retail Limited Midas construction is the largest company that belongs to the Midas group of companies. The primary line of work that the company is engaged in is to serve the design and construction needs of all its customers from a network of local offices. The company works in close partnership with its local partners who specialise in supply chain, thereby utilizing their local expertise and knowledge. Each of the regional business under the Midas group offers highly personalised services which are designed to suit the needs and requirements of every individual customer and project (Midas, 2013) 3. Rock Fall Company Limited This company specilises in drilling, explosives engineering and blasting, particularly in the marine environment. The company has been able to complete more than 200 contracts in about 35 countries. The line of work that the company is engaged in ranges from the removal of small boulder outcrops to massive port development schemes. The activities are generally related to harbor deepening, clearance of navigation channels and quay well construction. Another activity that can be include in the company's list of underwater expertise is foreshore trenching (Rock Fall, 2013). 4. Ratio Analysis Ratio analysis is an attempt to reduce accounting information in to more usable understandable figures and look at relationships between the figures. It can be used to ‘help interpret trends in performance year on year and by benchmarking to industry averages or to the performance of individual competitors or against a pre-determined target’ (Collier, 2009, p.104). Firstly, we can compare ratios for two or more accounting periods and look at the change. However, external factors may have influenced activity levels. For example, public awareness of environmental issues may have necessitated a change in manufacturing process leading to increased costs. Secondly, we can compare this to another company in the same industry. However, in some case, businesses may not be truly comparable with regard to size and type. For example, bases on which accounting information is prepared, may be different (inventory valuations and depreciation). Thirdly, we can compare this to an industry average, these can be compiled using data bases such as “Data Stream”. However, these have to be comparable as reflect as closely as possible the various characteristics of the company (McLane & Atrill, 2009, p.224-225). 4.1 Efficiency Ratios 4.1.1 Asset turnover This ratio measures the amount of sales that a company generates for every dollar’s worth of assets. Therefore, it is good indicator about how efficiently is a company using its assets to generate sales (Kucani, 2010, p.47; Collier, 2009, p.108). As is evident from the graph below, it can be said Midas Retail Limited performed considerably better than Rock Fall Company Limited. The asset turnover of Midas Retail Limited has been greater than 1 throughout the time period under study. Their asset turnover was relatively stable between the ranges of 4.67 to 3.77. This asset turnover however decreased in the latter half of the time period, but was much higher than that of Rock Fall Company Limited. It indicates that they have been able to efficiently use their assets and generated significant revenues. On the other hand, the asset turnover of Rock Fall Company Limited was considerably lesser than that of Midas Retail Limited. This signifies an inefficient performance on the company’s part when compared to the highly efficient performance of Midas Retail Limited. Benchmark turnover to total assets Year 2011 2010 2009 2008 2007 2006 2005 average Turnover / Total Assets 1.44 1.43 1.50 1.49 1.50 1.50 1.57 1.49 Benchmark comparison As far as comparing the bechmark ratio for the asset turnover for both the companies is concerned it can be seen that Midas reatil limited has outperformed the market bechmark for small and medium sized enterprises. On the contrary, Rock Fall Company limited has not been able to perform according to benchmark set by the small and medium sized enterprises in UK. The period average for the market becnhmark is 1.49 whereas that of Midas retail limited is 4.005 which indicates the superior quality performance delivered by the company in terms of generating high revenues for every dollar worth of assets. On the other hand Rock Fall Company limited's period average asset turnover is 0.63 signifying an inefficient performance when compared to Midas retail limited. 4.1.2 Creditor days It is essential to ensure that suppliers are paid within their credit terms. This ratio measures how long, on average, the business takes to pay its trade creditors (Collier, 2009, p.110-111; Kucani, 2010, p.46 ; McLane & Atrill, 2009, p.257). It can be seen that the creditor days for Midas Retail Limited increased from 6.5 days in 2005 to 11.3 days in 2006 and then increased to 18.9 days in 2007, followed by a significant decrease in 2008 (9.9 days). Since 2009, the creditor days increased steadily and reached 21.9 days in 2011. These are promising figures for the company as a high figure of creditor days means that the company is taking a longer time to pay off its creditors. Therefore, it is good for the company in terms of accumulating working capital and free cash flow. As far as the creditor days of Rock Fall Company Limited are concerned, it has fluctuated significantly. The creditor days was 16.3 in 2005 and then fell sharply to 0.4 days in 2006, followed by an increase in 2007 (26.7 days). The ratio decreased significantly to 4.3 days and 3 days in 2008 and 2009 respectively, and then increased to 31.4 days in 2011. The company has not been able to maintain a stable creditor days which highlights that it did not have efficient strategies to meet its obligations. Moreover, creditor days as low as 0.4, leaves the company with less working capital and cash flow to work with. Benchmark creditor days Year 2011 2010 2009 2008 2007 2006 2005 average creditor days 46.25 45.66 42.12 40.91 42.78 42.92 42.52 43.31 Benchmark comparison Having studied the benmchmark figures of creditor days for the Small and medium sized enterprises and that of the two companies, it was seen that both Midas reatile limted's and Rock Fall company limited's performance was not up to the benchmark set by the small and medium sized enterprises in UK. The period average creditor days value of Midas retail and Rock Fall is 14.34 and 12.38 respectively which is quite less compared to the bechmark average credior days value of 43.31. This indicates the inefficient performance delivered by both the companies as they paid off their creditors very early thus leaving the companies with less cash at hand. Although Midas retail was able to accumulate higher working capital and free cash flow compared to Rock Fall and it was quite inadequate when compared to the benchmark. 4.1.3 Debt collection days The main measure of how effectively trade receivables (debtors) are managed is the number of debt collection days. This ratio measures how long, on average, credit customers take to pay their debts. Management of receivables will aim to reduce days’ sales outstanding over time and to minimize bad debts. (Collier, 2009, p.110; Kucani, 2010, p.45; McLane & Atrill, 2009, p.256). As is evident from the graphs, depicting the debt collection days of both the companies, it can be said that the values for the both are significantly higher than their respective creditor day’s value. This means that the companies paid off their obligations much before than they received cash owed to their customers and clients. This eroded both the company’s cash assets and working capital, thereby reducing the value of the companies by a significant margin. Benchmark debt collection days Year 2011 2010 2009 2008 2007 2006 2005 average debt collection days 69.27 67.46 47.68 42.50 46.66 43.74 43.42 51.53 Benchmark comparison As is evident from the benchmark debt collection days value of the SMEs based in UK, it can be said that with an average value of 29.62 Midas Retail has significantly outperformed the benchmark. The average benchmark debt collection days value is 51.53. The lesser the value of dent collection days the better it is for the company. This is particularly beause, a lowr value indicates that companies are bing able to accumulate their accounts receivable in a shorter span of time thereby reducing any chances of bad debt. On the other hand the period average of Rock Fall company limited is 53.92 which is well over the market benchmark. Although Midas retail's avarege value is much lower than that of Rock Fall company limited but the quite higher than that of their respective creditor days. This highlights that the companies are paying off their obligations much before they are receiving the cash owd to them by their clients nd customers. This leaves the comany with less cash assets and working cpital to conduct their operations. 4.2 Labour Productivity Value added is defined as sales minus intermediate input purchases (Girma & Strobl, 2004, p.321). Value added per employees can be broken down into two ratios: sales per employees and value added-to-sales ratio – for a better understanding of the factors that affect it (Spring, 2011, p.14). Firstly, we will look at the value added-to-sales ratio for Midas Retail Limited and Rock Fall Company Limited in the following section. 4.2.1 Value added-to-sales ratio This ratio indicates the actual economic value added to the company with respect to the turnover generated by the company thereby helping us to evaluate the overall performance of a company (Spring, 2009, p.14). Midas Retail Limited’s ratio increased gradually from 0.04 in 2005 to 0.06 in 2006 and then increased further and reached the values of 0.09, 0.10 and 0.12 in 2007, 2008 and 2009 respectively. Since then, the ratio decreased to 0.08 and 0.06 in 2010 and 2011 respectively. On the other hand, Rock Fall Company Limited’s ratio followed an overall decreasing pattern. The ratio was 0.33 in the year 2005 and then increased to 0.45 in the year 2006. The ratio decreased to 0.37 in 2008 and since then has kept on decreasing and reached the overall lowest value of 0.28 in 2011. Although, the value of the ratios are significantly higher than the reported by Midas Retail Limited, they indicate that both the companies were unable to adopt efficient strategies through which they could add value for the company from the turnover that was generated. Bechmark value added to sales ratio Year 2011 2010 2009 2008 2007 2006 2005 average Value added to sales ratio 0.24 0.26 0.26 0.26 0.26 0.27 0.26 0.26 Benchmark comparison As far as comparing the bechmark value added to sales ratio for both the companies is concerned it can be seen that, Midas reatil limited has significantly underperformed the market bechmark for small and medium sized enterprises with an average value added to sales ratio of 0.078 which is quite less than the average bechmark value of 0.26. On the other hand Rock Fall company limited has beaten the competition in tems of both its peer organization as well as the competition in the market with an average value of 0.34. This signifies that Rock Fall company limited has been able to accumulate higher values from the sales that they have generated compared to the value acumulated by Midas retail limited. 4.2.2 Value Added per Employee Value added per employee is essentially indicators of labour productivity. This ratio is synonymous to the term labour productivity which indicates that value of goods and services produced at a particular period of time. This is measured by calculating the gross value added and as such the ratio value added per employee comes into being (Girma & Strobl, 2004, p.321). As far as the figures of Midas Rental limited is concerned, they performed much better when compared to Rock Fall in terms of stability. This value added per employee increased from 55.2 in 2005 to 55.9 in 2007 with a signifies that the company has been able to add significant value with respect to the number of employees who were employed. However, since 2009, the value added per employee dropped significantly and so did the number of employees. On the contrary, Rock Fall’s value added per employee although was much higher than that of Midas Retail, yet it was associated with major fluctuations. The value added per employee in 2005 was 66.0, which had increased by a significant margin and reached 130.0 in 2006 and decreased sharply to 55.1 in 2007. The value increased to 127.0 and 139.8 in 2008 and 2009 respectively and then fell down to 124.6 in 2010 and further to an all time low of 33.0 in 2011. A trend or pattern cannot be established from such an abrupt movement in the value added per employee of the company. However, it can be said that the company had been able to add significant value for the shareholders with respect to the employees who were employed when compared to Midas Retail. As far as the number of employees in both the companies is concerned, Rock Fall employed less number of people, but added higher values when compared to Midas Retail. Benchmark value added per employee Year 2011 2010 2009 2008 2007 2006 2005 average Value added per employee 46.00 45.31 44.66 46.11 46.14 45.31 42.31 45.12 Benchmark comparison The period average value added per employee of Midas retail limited is 55.88 and that of Rock Fall company limited is 96.5. The market benchmark average for the last seven years for small and medium sized enterprises in UK is 45.12. This suggests that both the company have outperformed the benchmark set by the market. They have been able to generate significant values per employee respectively. As far as peer group comparison is concerned, Rock Fall company limited has performed relatively better than Midas retail limited. 4.3 Ratio per Employee 4.3.1 Remunerations per Employee This is the ratio between the salaries paid to employees to the number of total employees. This ratio indicates the change in the salary provided by the company with respect to the change in the number of employees. This will explain whether the company had been able to manage the remunerations costs efficiently or not (Haddad & Harrison 1993, p.57). As is evident from the figures of Midas Retail Limited, the remunerations that the company provided to the employees remained relatively stable over the time period with minor fluctuations in between. The company performed very well by keeping the employee remuneration costs stable, considering the fact that the number of employees in the company had increased significantly in that time period (refer to the graph below). The lower the employee remunerations cost, the higher will be the revenue generated by the company. On the other hand, the employee remuneration costs bared by Rock Fall Company Limited have fluctuated a lot within the time period. The ratio increased from 40.8 in 2005 to 48.1 in 2006 and then in decreased to 44.6 in the year 2007. Henceforth, the ratio increased to 55.5 in 2009 and finally, decreased to 43.8 in 2011. When these values are compared to the number of employees reported by the company in the same time period, it can be seen that the values are in positive correlation. The increase in the number of employees led to an increase in the remunerations provided by the company per employee and vice versa. Thus, it can be said that unlike Midas Retail Limited, Rock Fall Company Limited was not able achieve cost efficiency as far as the remuneration cost per employee is concerned. Benchmark comparison Benchmark remunerations per employee Year 2011 2010 2009 2008 2007 2006 2005 average Remunerations per employee 37.31 36.39 35.93 36.27 35.11 33.92 31.93 35.27 As far as comparing the bechmark remunerations per employee for both the companies is concerned, both Midas retail and Rock Fall company limited have outperformed the market benchmark ratios of ehort and medium sized enterprises in UK. The remunerations per employee of Midas retail limited and Rock Fall company limited is 54.08 and 47.37 respectively which is quite higher than the market benchmark value of 35.27. This indicates that both the companies have provided adequate remunerations to their employees as far as the market benchmark is concnerned. This suggests the high value added per employee for both the companies. The employees may have been motivated to deliver consistent performance due to a good remuneration provided to them by their employer. 5. Make-buy continuum This is the decision that a company makes to either manufacture a product in house or purchase it from an external supplier. This decision depends upon the two most important factors and that is cost and availability of production capacity. The value added per employee of both the company suggested that their choice initially was to make products in house in order achieve cost efficiency. Therefore, in the later decrease in the figures of the value added per employee suggests that the company might be due to a lower sales per employee ratio as a result of new competitor. Moreover, it could be also due to a lower value added-to-sales ratio as a result of an increase in product costs (Girma & Strobl, 2004, p.321). 6. Competition faced by firms The construction industry has been and certainly continues to be a highly competitive industry. The firms who belong in this industry have employ unit price competitive bidding or lump sum competitive bidding or as the primary method to get contracts. The details of the work that is to be done for the fulfillment of this project as well as the company’s requirements are specified within the contract document. After the completion of the contract document, contractors would prepare their project proposals within which they set forth their proposed prices on a unit or lump sum price basis (Hendrickson & Au, 1989, p.7-14). Both the companies compete with each other as well as their peers in terms of the lowest price that they set for which they would be willing to enter into a contract that establishes the requirements of fulfilling the project. Competitive bidding is the most common method of contract award that is employed in the construction industry and the firms that have been evaluated within this report also employ the same method (Hatush & Skitmore,1998, p.105). The competition between them and their peers are also based on diverse criteria such as their record of successful projects completed in the past, quality assurance programs, credentials, expertise and qualifications of the contracts’ personnel, safety records, and the quality of work performed in the past. The barriers to entry that have been witnessed by these two companies in their line of work are mostly due to lack of proper skills, high project values, high participation costs, lack of credibility as well as contracts, high risk and demands on achieving a quick management time. 7. Market Segment Midas Construction’s list of clients includes businesses which are based in the UK. The list includes names such as University of Exeter, Devon country council, Waitrose and so on and so forth (Midas Group, 2013). On the other hand, Rock Fall’s clients span from all over the world. Their lists of clients include names such as United State Army corps of Engineers, Etermar, Peterhead Port Authority and so on (Rock Fall, 2013). Both the companies have formulated strategies directed towards focusing on clients that provide them with the greatest profit margin. Midas construction provides construction oriented services to its clients whereas Rock Fall caters to provide drilling and blasting services to its clients. 8. Competitive strategy Both the companies have adopted a similar competitive strategy within their business model particularly because in their line of business the best way to gain competitive advantage is by formulating a cost efficient project management strategy which they have been doing very well for the last few years. As explained earlier, preparing a proposal that sets forth the lowest bid price is the most common method adopted by construction companies in order to gain a contract. Both Midas Retail Limited and Rock Fall Company Limited are no exception to this business model as both follow the similar strategy in order to gain competitive edge over their peers. 9. Sales strategy As far as the sales strategy adopted by both the companies in concerned, they have adopted a robust sales strategy which is being followed over the past few years. Both the company’s sales strategy are focused on the bidding process, where they offer their services, designs, material quality and costs and finally the project timeline estimates. The companies always concentrate on offering the best combination of the variables mentioned above in order to be the most likely company to get the project. They pay strict attention to factors such as preparing a detailed project planning statement that includes supply agreements, labour needs and many other factors. Adopting such a strategy within their business models has helped the companies to attain a wider customer base and consequently improving their profit margin. Both the companies have performed relatively well when compared to their peers. As far as their financial performances are concerned, in some aspects they have outperformed their peers whereas they have underperformed in others. Midas Retail Limited was the better of the two companies which were analysed and has performed consistently better compared to Rock Fall Company Limited as well their peer organizations all together. Porter's five forces analysis As far as analyzing both Midas Retail and Rock Fall company limited in terms of Porter's five forces is concerned, it can be said that both the companies have adopted effective strategies in order to ensure that they are able to achieve competitive advantage in the market. The construction industry in the UK is highly competitive. That is why both the companies have implemented necessary strategies in order to nullify the threats that may come from new entrants. Their strategies have been directed towards achieving a significant market share thereby adhering to serve a larger market segment and consequently beating the competition in the market. They have also been able to bargain effectively with their suppliers who are primarily responsible for providing them with the raw materials. This is why the companies have been successful in maximizing the value for the shareholders. They have also been able to negotiate effectively with their customers in terms of drafting proposals that sets forth the lowest bid price. In this way, both the companies have been able to attain a wider customer base by combining their competitive strategy as well as their strategy for the market segment. Both the companies also adopted robust sales storages in order to nullify the threat that may occur as a result of substitute products and services that are being offered in the market. They have always focus on key variables such as quality of materials and services in order to make sure that they are of superior quality which will make them stand apart from rest of their peers and thus counter the intensity of competitive rivalry. 10. Conclusion The paper involves a thorough analysis of Midas Retail Limited and Rock Fall Company Limited. Key financial ratios of both the companies were studied in order to establish an understanding of the performance of the companies and whether they were able to add value for the shareholders or not. It was seen that both the company’s performed relatively well. However, the performance of Midas Retail was comparatively better and much stable than that of Rock Fall. The companies followed a similar capital structure and were able to add moderate value with respect to the assets as well as the capital that was employed. In addition to that, they were also able to add value with respect to the employees working for the company. Thus overall, the companies were by and large profitable. However, negative values were reported by both companies in the year 2011. This paper helped us to understand about business in general, project contracting in particular. It was seen that in companies whose primary line of work involve project contracting, they pay a huge amount of attention to the value added to the company by the employees. They follow effective procurement strategies and their primary goal is to achieve certainty of cost and time for a design that is created for the purpose of fulfilling a project. Their strategies are also directed towards achieving speed and cost certainty by recruiting workforce who had substantial knowledge and expertise. Both the companies have performed relatively well and have been able to generate value for their shareholders. They have followed effective strategies that catered towards the welfare of the employees as well as were directed towards achieving the maximum throughput. This is evident from the increasing turnover in the initial period between 2005 and 2009. A huge amount of competition is involved in this industry which had seen the two companies under study competing with many other peer organizations. With the rising completion, companies have been following effective strategies in order to achieve the maximum cost efficiency and are also adhering to increase the quality of their service in order to stand apart from their competitors and henceforth beating the competition in the market. 11. Reference De Wet, J. (2013). Earnings Per Share as a Measure of Financial Performance: Does it Obscure More than it Reveals?. CORPORATE OWNERSHIP & CONTROL, 265. Girma, S., Gorg, H., & Strobl, E. 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