Proposed Changes of Community Travel - Essay Example

Community Travel Community Travel, a small partnership enterprise established six years ago by the current two directors. The firm operates from a small yard/office site in a Yorkshire town and provides a range of services, from school trips and community centre outings to light removals. As a consultant, we have been advised of a series of changes and we are to provide a descriptive analysis of the impact of those changes. Proposed Changes: The business currently operates five days a week between 9am to 5 pm. It has two large contracts with public authorities worth £200,000 and three school and community group contracts worth £40,000. To increase the revenue, the owner has decided that the firm will operate six days a week which will bring gross sales of £15,000 in the upcoming year. We will analyze the implication of this change on the profit & loss statement in the light of reasonable assumptions. Assumptions: Operating on sixth day will surely increase the revenues by £15,000. The operational expenses are divided into two categories: fixed and variable expenses; Only variable expenses will prorate with the demand while other fixed expenses will remain constant The increase in variable expense is dependent on either the increase in sales or on the amount of time an individual works. Wages If the wages are calculated on the basis of increase in variable costs than the initial work demand was for 5 days which has now increased to 6 days therefore the rate of increase in variable costs will be % increase in rate = 6 – 5 / 5 = 20% Category Number of individuals Previous Wage New Wage (20% increase) Office worker 1 16,000 19,200 Drivers 4 15,000 18,000 Total Wages 5 76,000 91,200 But this seems to be an imprudent decision to increase the wage of each driver by 20% since the increase in only administrative cost will offset the gain due to shopping trips. A prudent strategy would be to increase the wage of office worker and hire two drivers who will work as part time on Saturdays to catch up the demand. The salary of the new-part time worker should be based on the time they will be working with the company. Assuming 52 days in a week will have 260 days Per day cost to the driver = 15000 / 260 = 57.69 per day The part time drivers will work only on Saturdays with a total annual salary of 57.69 x 52 = 3000 pa Category Number of individuals Previous Wage New Wage (20% increase) Office worker 1 16,000 19,200 Drivers 4 15,000 15,000 Part-time Drivers 2 - 3000 Total Wages 5 76,000 85,200 Assuming 52 weeks in an year; The initial work demand was for 5 days which has now increased to 6 days therefore the rate of increase in variable costs will be % increase in rate = 6 – 5 / 5 = 20% Heat & Light Category Previous Expenditure New Expenditure (20% increase) Heat & Light 600 720 Telephone & Postage Category Previous Expenditure New Expenditure (20% increase) Telephone & Postage 1,560 1,872 Diesel Costs Category Previous Expenditure New Expenditure (20% increase) Diesel Costs 11,000 13,200 Sundry Expense Category Previous Expenditure New Expenditure (20% increase) Sundry Expense 400 480 Road Tax & Vehicle Insurance Category Previous Expenditure New Expenditure (20% increase) Road Tax & Vehicle Insurance 2,880 3,456 It is found that advertising is correlated with sales and brand value of the organization (Eng & Keh, 2007). Therefore, we will assume that Advertising will increase respect to increase in percentage sales % Increase = 255,000 – 240,000 / 240,000 = 6.25% Category Previous Expenditure New Expenditure (6.25% increase) Advertising 2,000 2,125 The local garage initially agreed on vehicle maintenance at a cost of £500 per quarter. The terms initially might include that the business will operate for 5 days. Now since the business will be operating for six days therefore the contract costs will increase to £600 per quarter. Vehicle Depreciation Expense for Year 7 Depreciation Expense for year 4 = 80000 x 0.4 = 32,000 Depreciation Expense for year 5 = 48,000 x 0.1 = 4,800 Depreciation Expense for year 6 = 43,200 x 0.1 = 4,320 Depreciation Expense for year 7 = 38,880 x 0.1 = 3,888 Other Depreciation (PC) = 225 The loan repayment is an annuity of five years with an interest rate of 6.1% and a fixed payment of 19,043. Fixed Expenses: We will assume that these expenses will remain fixed since they are not dependent on change in sales or change in number of days Rent Expense Business Rates Other Insurance Profit & Loss Account for Year 7 Income Public contracts   200,000 Private contracts   40,000 Shopping Trips   15,000 Total   255,000 Expenditure     Wages 85,200   Heat & Light 720   Telephone & Postage 1,872   Advertising 2,125   Rent 15,000   Business Rates 3,000   Diesel costs 13,200   Vehicle maintenance 2,400   Road tax & vehicle insurance 3,456   Other insurance 550   Sundry expenses 480   Vehicle depreciation 3,888   Other depreciation 225   Loan repayment 19,043   TOTAL 151159   Profit before taxation   103,841 Tax   -41,536 Net Profit   62,305 Cash Flow Forecast Developing a cash budget can serve as an invaluable tool in planning any cash management solutions during the future revenue reduction periods (Mowll, 1988) Assumptions: We have assumed that the all the income will be converted into cash within the respective quarter therefore there will be no credit sales. All the expenses are paid within the respective quarter since the business is growing and has sufficient fund to cover up those expenses. The taxes and loan repayment are accounted at the end of the year therefore they will be incorporated in the fourth quarter. Here is the Cash Flow forecast for year 7 Receipts Qtr1 Qtr2 Qtr3 Qtr4 Total Year Cash Sales 63,750 63,750 63,750 63,750 255,000 Credit Sales 0 0 0 0 0 Total Receipts 63,750 63,750 63,750 63,750 255,000             Payments           Wages 21,300 21,300 21,300 21,300 85,200 Heat & Light 180 180 180 180 720 Telephone & Postage 468 468 468 468 1,872 Advertising 531 531 531 531 2,125 Rent 3,750 3,750 3,750 3,750 15,000 Business Rates 0 0 0 3,000 3,000 Diesel costs 3,300 3,300 3,300 3,300 13,200 Vehicle maintenance 600 600 600 600 2,400 Road tax & vehicle insurance 864 864 864 864 3,456 Other insurance 138 138 138 138 550 Sundry expenses 120 120 120 120 480 Loan repayment 0 0 0 19,043 19,043 Tax Payment       41,536   Total Payments 31,251 31,251 31,251 94,830 188,582             Cash Flow Surplus Deficit 32,499 32,499 32,499 (31,080) 66,418 Opening Balance 0 32,499 64,999 97,498   Ending Balance 32,499 64,999 97,498 66,418 66,418 The cash flow forecast for year 2008 and 2009 can be implemented based on the future income statements. In this section we have provided the cash flow forecast for 2007 this will serve as the guideline for future cash flows based on the future assumptions. Cash Flow Sensitivity Analysis We will assume that the contractors will not pay on time. A contractor who is supposed to pay in the first quarter pays after the two quarters. The related expenses increase by 10% The related tax expense will also change since the total expenditures have increased Receipts Qtr1 Qtr2 Qtr3 Qtr4 Total Year Cash Sales 63,750 63,750 127,500 Credit Sales 63,750 63,750 0 0 127,500 Total Receipts 0 0 63,750 63,750 127,500             Payments           Wages 23,430 23,430 23,430 23,430 93,720 Heat & Light 198 198 198 198 792 Telephone & Postage 515 515 515 515 2,059 Advertising 584 584 584 584 2,338 Rent 4,125 4,125 4,125 4,125 16,500 Business Rates 0 0 0 3,300 3,300 Diesel costs 3,630 3,630 3,630 3,630 14,520 Vehicle maintenance 660 660 660 660 2,640 Road tax & vehicle insurance 864 864 864 864 3,456 Other insurance 151 151 151 151 605 Sundry expenses 132 132 132 132 528 Loan repayment 0 0 0 19,043 19,043 Tax Payment       35,490 35,490 Total Payments 34,289 34,289 34,289 56,632 159,501             Cash Flow Surplus Deficit (34,289) (34,289) 29,461 7,118 (32,001) Opening Balance 0 (34,289) (68,579) (39,118)   Ending Balance (34,289) (68,579) (39,118) (32,001) (32,001) Implications The cash flow analysis can be and income statements have revealed important information with regards to the community travel. Although the new change seems to be feasible, but it should be implemented in the proposed way by hiring two new part-time drivers who can fulfill the needs on Saturdays. Similarly if the full time employees are willing to work on the compensation terms than they should be hired since they have relevant expertise of the organization. If the business flows in the way as it was doing without any credit sales than it will have abundant cash at the end of the cycle which can be used to expand the business. However, as we noted small changes such as delays in payments or increase in expenses can deteriorate the business and it may fall in serious financial crisis. Therefore the business should have strong policies that emphasize on collecting the receivables and monitoring the expenses in a way to match the sales. References Eng, L. L. & Keh, H. T. 2007. The Effects of Advertising and Brand Value on Future Operating and Market Performance. Journal of Advertising. 36(4), P. 91-100 Mowll, C. A. 1988, Forecasting cash receipts aids financial managers, Healthcare Financial Management; 42 (1), pp-110-11 Read More