Users' Manual
Part 2 - The Business Environment

The Business Environment

The business that you control is a small manufacturing company, making a limited range of consumer products, and operating in competition with several similar companies.

You are a member of the Board of Directors, which is responsible for overseeing the various functions of the company -

You sell directly to retailers in three geographic areas -

Your factory is situated in the South area.



Economic background

In order to run a business, you need to know something about the economic, geographic and social background to your market, and of the people who are likely to work for you.

Some information is available from official statistics, but the rest you must pay for, or gather from your knowledge of the industry and your competitors. Not least is information about your company's recent performance.

With this information, you can prepare a company strategy that fits your assessment of the economy and your markets.

Each market has a different demographic and social mix, as shown in Table 1.

Normal economic cycles of growth and decline affect all of these markets. However, they do not follow the present-day, real life economic situation; nor do current Government Policies have any bearing on the simulation.

Your economy can be static, grow or decline, depending on the situation presented in the Company History. There is also a strong seasonal pattern of demand for the industry's products, and is the same for all products in all market areas. The seasonal peak is in the fourth quarter of each year.

Each quarter, official statistics are available to show you how the economy is moving -

Gross Domestic Product (GDP)
This number tells you how the national economy is performing. If it rises, or falls, then you can expect your own market to change in a similar way, though not necessarily at the same rate. Note that the GDP figures have been 'smoothed' to eliminate seasonal fluctuations.
Percentage Unemployment
Low unemployment means that more people are at work and there is more consumer spending power. It may be more difficult, however, to recruit extra staff. Conversely, as unemployment rises then consumer expenditure tends to fall, but not necessarily immediately.
Central Bank Rate
This is the rate of interest that applies next quarter. The base rate is one of the ways in which the government directly, or indirectly, tries to control the economy. When there is strong demand, there is likely to be a surge in borrowing which can lead to inflation. Interest rates tend to rise in order to counter this trend. When demand is falling, there is less pressure on prices and wages, and base rates tend to fall in order to encourage spending and business investment.

An analysis of these indicators, combined with a study of the previous results of your company should help you establish a link between the economy and your company's past performance. Your company strategy, however, should allow for possible future trends.




Marketing

Your marketing department is responsible for creating demand for, and selling your company's products in the face of competition from rival companies.

To do this well you must have a good marketing strategy (Guidance Note).

You sell directly to retailers in response to demand from the general public. These retailers are the prime target of your marketing effort. They, in turn, try to satisfy public demand, which varies according to the economic climate and the marketing effort of the competing companies. The retailers and the general public are also the target of rival companies selling similar products in competition to yours.

Each product has a marketing image (Guidance note) which you are seeking to promote in order to attract sales. This image is formed over time from a number of factors which are of varying importance relative to similar factors for your competitors.

Some of these factors are directly under your control and are decided by you as part of your marketing plan. Others, such as the activities of your competitors, must be taken into account as you prepare the plan.



Business intelligence

To help you make forecasts certain economic and competitive information about your competitors' activities last quarter is available to you, free of charge. This consists of the kind of information that would normally be freely available:

In addition to this free information, your company subscribes to 'Audit Research', an organisation which monitors the sales of each product and provides information about how the market is divided between you and your competitors. The information gives market shares by volume of sales for each of the competing companies in each market.

You also commission research about your competitors' activities and products.

It includes:

This information and research costs you £4500 each quarter (Table 2).

More (technical detail)



Pricing

Each quarter you must review and decide the price at which you sell your products.

The price that you decide for each product is the amount you charge your retailers for each unit delivered. It is also a guide to the price which retailers charge the public.

The products are quite price sensitive, though not equally so, with relatively high prices leading to fewer orders and low prices yielding more. Price reduction, as a means of gaining more orders, only works up to a point - the public become suspicious of very low prices.

Setting the right price in relation to the economy, the competition, your product quality and marketing effort, is going to be critical for competing successfully and profitably.

If you decide not to offer one of your products for sale in a particular market, enter a zero price on your Decision Form. You will then receive no new orders for that product from that market next quarter.



Product development

One of the main ways in which your company's products hold their share of the market is by keeping up with, or being ahead of, competitors' developments in technology and product design. This is achieved by investment in product development.

Regardless of how much you decide to spend on product development, there is no certainty that your efforts will be immediately successful. Development is cumulative, so that the more you spend the greater the chance of making real improvements in your products. Steady effort is more likely to be effective than sporadic spending.

Each quarter, there are three possible product development outcomes -

  1. When MINOR improvements are reported they are automatically incorporated into your products (without requiring any decision) and have a small but immediate effect on your product image and sales.
  2. MAJOR improvements which are reported may require further consideration. The introduction of a major improvement renders existing models of the product obsolete. You may, therefore, wish to run down existing product stocks, or build up your marketing effort to introduce the improved product more effectively. You can decide whether to implement an improvement immediately or later.
  3. If your product development was not successful last quarter, then 'NONE' is reported. This in itself is not a bad thing since product development is a cumulative process, and following a success the team starts on a fresh research project which may take two or more quarters to come to fruition. The more you invest the shorter this fallow period is likely to be.

Introducing improvements enhances your product image in the eyes of customers, so that your consumer assessment rating - the number of stars awarded by product assessment panels - is likely to go up. If your development effort is small, or has little success, then your products may become obsolescent, with a declining marketing image and a reduction in the number of stars awarded.

More (technical detail)



Advertising

For each product, in each area, you must decide how much to spend on advertising:

Long term image advertising is cumulative, needing steady expenditure over a period to be effective. It not only improves your product image but also, together with advertising by your competitors, contributes to the general growth of the market.

There is no precise information about the effects of advertising, except that it affects sales of products differently in different areas.



Selling

You must decide how many of your existing salespeople to allocate to each market area.

Each salesperson can sell both products to your retailers in that market and is rewarded by being paid both a salary and sales commission (see later under Pay and conditions).

In addition, each salesperson has a £2000 quarterly expense allowance (Table 2).

You should also decide how many salespeople you intend to employ in the quarter after next by appropriate recruitment or dismissal. (see also Personnel). Note that, depending on your working conditions, recruitment may be unsuccessful and/or some of your existing staff may leave to work for other companies.

More detail about selling

The commission paid to your salespople acts as an incentive for them to perform well. To some extent, the higher the commission the greater the motivation.

Commission is calculated on the value of orders received, not on the actual value of sales made, so that product availability (see below) is key to an efficient sales operation. If you allocate more than one salesperson to a market area, then the total commission is divided equally between them.

Note that, even if you allocate no salespeople to an area, you may obtain some orders, provided that the other marketing factors are satisfactory.

Your company's selling effort has an indirect cost which covers the expense of running a sales office, and of supervising your marketing effort. This is calculated as one percent of the value of orders obtained in each quarter.




Product availability

Delivery times have an effect on the number of orders received and, the ability of your operations department to meet demand for your products is important.

Completed products are sent by hired transport to warehouses in each of the areas, where they are stored ready for delivery to your retailers.

Orders taken by your sales force are for delivery as soon as possible in the same quarter in which they are received. Consequently you should try to keep an adequate stock of products available in all areas so that deliveries can be made promptly. Orders are only converted into sales when the goods are delivered.

Failure to meet demand, through shortage of finished products delivered to the area results in a backlog of orders awaiting delivery, leading to dissatisfaction and lost sales, which adversely affects your marketing image. The greater the number of orders outstanding, the greater this effect.

More detail about product availability

At the end of each quarter, at least half of any orders which remain outstanding will be cancelled by your potential customers. Those orders remaining will be carried forward as a backlog to be satisfied as soon as products are available.

If you decide to raise your price in the meantime, then more of your backlog will be cancelled at the beginning of next quarter and the total number of orders cancelled will then be greater than half.

Should you decide to stop production of a product, any backlog of orders which you may have at that time will remain to be satisfied at last quarter's price.

Cancelled orders don't necessarily go directly to your competitors, but may go to them in future quarters, due to your poor delivery image.




Operations

Your operations department is responsible for manufacturing and distributing the company's products as efficiently and cheaply as possible within the quality standards defined by your overall strategy.

The two products which your company sells are manufactured in your own factory.

The products are made in two sequential processes:

Machining
Machines, each operated by four unskilled workers, make components from one basic material. Shift working is possible in the machine shop.
Assembly
Skilled workers, who only work single shifts, assemble the machined components into finished products.

Table 3 shows the times and material requirements for each product.

There is no work-in-progress. Therefore, your production capacity is limited by -

whichever is lower. Production capacity is never limited by a lack of materials.

Your operations department buys material automatically as it is needed, at a cost shown in last quarter's Management Report. Because of the 'just-in-time' method of supply, no storage space is specifically required for materials, other than your factory warehouse.

Your factory warehouse incurs a fixed quarterly overhead cost of £2500. In addition, there is a quarterly purchasing administration cost of £2400 (see Table 12).



Machining

The total capacity of your machine shop in terms of productive hours, depends both on the number of machines you have in the factory, and the shift level which you decide to operate, diminished by the number of hours lost through breakdown and slower machine speeds brought about by ageing (see below).

For each level of shift working that you can decide to work there is a maximum number of hours each quarter available for production from each machine (see Table 5).

More detail about machining

The machining times, given in Table 3 are for producing a set of parts ready to be assembled into a finished product. These are the times expected from 100% efficient, new machines. As machines get older, or are used more, they become less efficient, and take longer to make the component parts for each product. Your Management Report shows the level of machine efficiency for last quarter.

This process of deterioration may be slowed by preventive maintenance, but eventually each machine may become so inefficient that it may be better to sell it and replace it with a new one. Older machines tend to break down more often, and productive hours will be lost until they can be repaired.

You have a contract with independent maintenance engineers for 12 hours' maintenance per machine each quarter at a cost of £40 per contract hour (see Table 4). This covers labour, spares, materials, tools and supervision.

The first priority of the maintenance effort is to repair broken down machinery, any hours left over within the contract being used for preventive maintenance outside of normal working hours. If these contracted hours are not sufficient to cover basic repairs, then additional, uncontracted, hours are needed and charged at a higher rate of £75 per hour (Table 4).




Assembly

As well as being limited by machine capacity, your factory's output also depends on the ability of your skilled workers to assemble the machined components into finished products. Table 3 shows the number of minutes required to assemble each product.

The number of skilled workers that you employ (adjusted for absenteeism and industrial unrest) may limit the quantities of each product that you can make.

Assembly workers only work on a single, day shift, up to a maximum number of hours per quarter as shown in Table 15, but there is no limit to the number that you can employ, provided that you can persuade them to work for your company.

For more detail about pay and conditions etc., for assembly workers, see Personnel.



Production scheduling

Your delivery schedule is the key set of decisions for your Operations Department each quarter. The total number of units of each product that you plan to deliver determines your production schedule.

The total number of each product actually produced are those scheduled for delivery plus those which need to be re-made because the original units were rejected as defective, either at the assembly stage or the inspection stage in quality control.

In addition to labour and material costs, which are discussed elsewhere, there are other operations department costs (Table 8) -


More detail about production scheduling

If your planned production schedule exceeds capacity, production is restricted to whatever is possible. After any sub-standard products have been rejected, the remainder are delivered in proportion to the number requested in your original schedule. The affected decisions are starred (*) in the Management Report.

Any unsold stock of product in an area at the end of a quarter is kept in the warehouse to be sold in the next quarter. You can decide, however, to redistribute excess stock from any area to other areas, by specifying an appropriate negative quantity for delivery on the Decision Form.

Rejects found during production are sold as scrap (Table 6), and may reduce the number of product units available for delivery. If you have sufficient capacity, however, extra units are automatically produced, in order to satisfy your schedule.




Guarantees and quality

Your company offers a one-year guarantee with its products. Inevitably, some may develop faults after they have reached the customer and are returned under the terms of the guarantee.

The servicing of products under guarantee is carried out by local service agents, who charge you for the work they do at fixed rates (see Table 7).



Delivery and warehousing

The number of products delivered to each market area is normally the same as in your delivery schedule, unless your production capacity is inadequate.

Products are delivered by hired transport to warehouses in each market area. Stocks held in this way can help to reduce delivery times to your customers, with a positive effect on your marketing image. On the other hand, if substantial, they can tie up funds which could be better used elsewhere.

Transport costs depend on the number of vehicles required to satisfy your delivery schedule and the distances (journey times) to the relevant areas (see detail below).

More detail about transport and warehousing

Each hired transport vehicle can carry a mixed load of products. Table 9 shows the standard capacity of a vehicle (in product units).

The return journey times to each market area (in days) are shown in Table 10.

The total cost of your delivery schedule is determined by the number of vehicles required for each area (rounded up to a whole number) multiplied by the number of days and the all-in cost of £130 per day per vehicle (Table 11).


Storage costs for your products in the market area warehouses are charged at a cost rate of £1 per unit per quarter (Table 12). These are calculated using the average quarterly stock, as shown in Table 13.




Personnel

Your Personnel Department is responsible for ensuring that the company has sufficient employees to function effectively. New employees must be found in a competitive labour market, within which people can move from company to company seeking the best terms and conditions. The supply of people in the labour market can significantly affect your company's ability to operate efficiently.


The company's labour force can be divided into five sections:

  1. Salespeople
  2. Unskilled machine operators - who make the parts for the company's products.
  3. Skilled workers - who assemble completed products from machined parts.
  4. Ancillary workers - storepeople, clerks, junior management, etc.
  5. Senior management.

In this simulation, the costs of ancillary employees and senior management are included in the various departmental costs. No specific decisions are required for them.

As part of your task, you need to make decisions to manage your salespeople and assembly workers. There are two important aspects to this task - see the Guidance Note on recruitment and motivation.

Your employees may leave because of retirement, sickness or because they have gone to work for rival companies. Employees who leave do so at the end of a quarter.

Senior management is dealt with below.



Employees

Salespeople and assembly workers

Experienced salespeople and skilled assembly workers are the product of intensive training and can be difficult to recruit.

You can try to recruit salespeople and assembly workers, either from the pool of unemployed, or from other companies, but you can't assume that you will be totally successful (you may not get any at all!).

Successful recruitment depends not only on current earnings, but also on the quality of goods which you produce, and the ability of your personnel management; all compared with the same factors in other companies.

It also depends on the number of unemployed available in the labour pool. In periods of full employment, recruitment can be very difficult, and trying to tempt people away from other companies may lead to a very unstable labour market.


Unskilled machine operators

Each machine owned by your company needs manning by four unskilled machine operators on each shift. Any change in the number of machines you have, or in the level of shift working, means that more or fewer unskilled workers are needed.

As with assembly workers, unskilled workers may leave if they feel that working conditions in your factory are not as good as can be found elsewhere.

Because there are always unskilled workers available in the local pool of unemployed labour, any requirement for new or replacement people is handled automatically at a lower level of management in the company, and does not need active decisions by senior management. When more people are needed the shift supervisor can always find the number required from the pool of unemployed, at the start of next quarter.

More (technical detail)



Pay and conditions

As well as ensuring that you have sufficient employees, you must also manage the cost of the workforce. Although you decide salary and wage rates, the way in which your employees are treated can also have a significant effect not only on motivation, but also earnings. Overtime, and shift payments can be controlled to keep costs down, but these elements can only be managed effectively in the context of current economic conditions, and your marketing and operations strategy.

Sales force

You pay your salespeople a basic salary and commission. There is a minimum salary rate of £1500 per quarter and a maximum commission rate of 9% on the value of orders (see Table 16), but you decide the mix. A high salary and low commission may encourage employee loyalty, but not provide much motivation. Conversely, a low salary and high commission can be very motivating, if other factors are right. If not, your salesforce may be attracted to other companies with better conditions.


Assembly workers

You pay skilled assembly workers a basic hourly rate, which you decide each quarter. This basic rate is subject to an agreement with the trade union which does not permit wage rates to be reduced. An increase in the basic rate is implemented at the beginning of next quarter.


Machine operators

You can change the capacity of your machine shop by installing more machines, or selling machines; or by changing shift levels. Changes of these kinds directly affect working conditions and pay.

more technical detail.


Other employees

The cost of other employees in your company is included in the various costs associated with the departments in which they are employed. These include: clerical and accountancy staff, buyers, warehouse staff, researchers, etc.


Senior management

Your team assumes the role of the company's Board of Directors and can consist of a Chief Executive, and executives who are responsible for Marketing, Operations, Personnel and Finance. You share a management budget, as shown in last quarter's Management Report, which determines your level of spending on outside services and expertise, directors' salaries, and general management expenses.




Finance

The Finance Department is responsible for ensuring that the company's funds are managed efficiently in line with corporate strategy. This implies a variety of roles which include monitoring profitability, managing investment and borrowings, managing the companies fixed assets, taxation, and dividend policy. Most importantly, it must work closely with the management team to maximise the company's value, against which performance is judged.



Share capital

The company is financed by shareholders' capital, consisting of shares with a nominal value of £1 each, to the amount shown on the company's balance sheet.

The company's shares are quoted on the Stock Exchange. The latest share prices for all companies are shown each quarter on the bottom line of the Management Report.

Your share price is determined by many different factors, including -

and, at the end of the simulation, your share price is -

THE CRITERION BY WHICH YOUR COMPANY'S PERFORMANCE IS JUDGED



Dividends

You may pay dividends to your shareholders, but only in the first and third quarters of each year. You decide the dividend in terms of pence per share.

Regular (and increasing) payments of dividends enhance your share price, provided that your company is basically sound. Conversely, if your company is not performing well, then paying dividends can reduce its performance.

Dividends are paid at the beginning of next quarter. Note that dividends can only be paid from undistributed reserves, as shown in last quarter's balance sheet.



Deposits

If, at any time, your company has spare funds, they are automatically placed on deposit to earn interest at a rate 2% below the current Central Bank Rate (see Table 19).

Interest is calculated in the same way as with overdrafts (see below).




Borrowing

Overdraft

Finance is available from a bank overdraft (i.e. a flexible bank loan). Based on your company's assets and liabilities, as shown in your balance sheet for last quarter, your bank sets an overdraft limit, as defined in Table 18, for next quarter.

You don't have to make any decisions about overdrafts, as your bank supplies funds as needed, up to this limit.

The bank charges interest on your overdraft at a rate 4% per annum above the current Central Bank Rate (see Table 19), as announced in last quarter's Management Report.


Unsecured loans

If your company needs more funds than your overdraft limit allows, the banks continue to supply funds, but without security. Such borrowing is available, however, at an annual interest rate which is 10% above the current Central Bank Rate. (see Table 19).

In this simulation, bank loans continue to be granted to your company even though, in normal circumstances, you might be considered to be insolvent.
No company will be declared bankrupt,
even if your shares become worthless.

More (technical detail)



Fixed assets

Your company's fixed assets consist of property (your factory) and machines. While the value of property has a fixed value (i.e. no depreciation is charged) as specified in your balance sheet, machines can be bought and sold.

You can buy machines, at a cost of £120,000 (see Table 17), but the process is fairly complex, and needs to be planned at least two quarters in advance. You may not be able to place orders for some or all of the machines you require unless your company's financial position is sound.

More detail about fixed assets

Firstly, the machine supplier assesses your ability to pay by calculating your company's credit-worthiness, defined as your overdraft limit, less any overdraft and unsecured loans, all as at the end of last quarter, less payments outstanding on machines already ordered but not yet installed (see below).

If the total cost of the machines you planned to buy is more than this amount, then your supplier takes orders for the greatest possible number (which may be none).

Next quarter, you make a first payment of half of the total purchase price.

In the quarter after next, the supplier delivers and installs machines, at which time a second payment of half of the purchase price is made. Machines only become available for use in the quarter after that. Note that any change in your creditworthiness does not affect the installation of machines already ordered.

Once installed, the value of a machine depreciates, by the decreasing balance method, at a quarterly rate of 2.5% (see Table 17).

When you decide to sell a machine, the oldest is sold first at the beginning of next quarter, at its depreciated (book) value last quarter.



Accounting practice

Depreciation of the company's machines is described immediately above.

Your company's sales are invoiced to customers for future payment. Amounts due, but not paid before the end of a quarter are carried forward as debtors on your Balance Sheet. Payments from your retailers are expected in full within thirty days, but not all customers pay promptly so that these targets are never quite met. There is a cost associated with credit control, of £0.75 per unit of product sold (see Table 19).

Stocks of finished products held in the area warehouses at the end of a quarter, are valued in the balance sheet as set out in Table 20.

There are certain fixed and variable overheads for running your company, which have not been included so far. The fixed cost of £6000 includes: local property tax, audit fees, etc. The variable costs such as: telephones, stationery, heat and light, postage, building maintenance, clerical support, etc., are charged at a rate of 0.25% of all overheads, including the fixed costs listed above (see Table 19).

Purchases made by your company are either paid in the same quarter in which the purchase was made, or in later quarters, in which case the amount owed by you is carried forward as a liability (creditors) in the Balance Sheet. Table 21 lists all types of purchase that can be made and the timing of respective payments. You cannot manipulate Creditors to improve your cash flow.

Finally, company tax is levied on taxable profit at a rate of 30% (see Table 19).
The tax year is the same as the calendar year, and an assessment of tax is made at the end of the fourth quarter. Any tax assessed is deducted immediately from the company's net profit. Tax is then entered as a liability on the balance sheet, where it remains until it is automatically paid in the second quarter of the following year. Any losses are accumulated, and are offset against future taxable profit.