Science Construction PLC

Introduction:
Science Construction PLC is a Turkish company offering end-to-end road and construction
services for the public sector in Turkey. The company found itself in financial trouble due to
the changing environment during the financial crisis of 2008. Turkish law allows such
companies to restructure themselves to save the business and if successful the bankruptcy is
being postponed for 12 months.
The situation when the liabilities of the company exceed its assets is called insolvency. The
circumstances when a business cannot receive enough resources to meet its obligations or to
clear debts as they become overdue. Correctly named technical insolvency may happen still
while the value of a company's entire assets surpasses total liabilities.
Analysis:
Science Construction PLC is a large company that operates solely in the public construction
market, which is funded by the local authorities and state money. This sector usually provides
a constant flow of work and income for construction companies. However, when the financial
crisis occurs, this sector is the first one to stop its investments and therefore it impacts the
company’s cash-flows and causes accumulated debts.
Identify the problem: What financial metrics support the problem you identified?
The company does not control its costs and is reliant on a single source of revenue (public
sector) nor it can affect its raw materials suppliers from changing/raising the prices as they
please.
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Diagnose the cause(s): Describe the root cause. How does this cause a link to the financial
metrics you have selected
The root cause is that the company became a “second-day” company, which according to Jeff
Bezos is when organizations become doomed. He said “The outside world can push you into
Day 2 if you won’t or can’t embrace powerful trends quickly. If you fight them, you’re
probably fighting the future. Embrace them and you have a tailwind” Quora. (2017, April 27)
The causes:
1. The company purchases its raw materials and inventory with the current market value.
2. The company does not control its costs regarding the projects, there is no monitoring
embedded in the project management.
3. The company does not reduce waste, it is not lean, therefore it is using too many
resources to generate profit.
4. Accumulated debt puts pressure and affects the decision-making process, making
things more damaging. The current ratio of 0.95, 0.90 and 0.82 for the years 2008,
2009 and 2010 explains that it is a big issue for the company.
5. Operating profit and net income have deteriorated over the last three periods as a
result of increased costs that were not connected to an increase in revenues.
6. The company is not protected from outside factors as it has no diversification of
customers, it serves only the public sector and only the Turkish market (assumption).
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7. Science Construction PLC had issues with collecting receivables and therefore used
factoring which was not included in their business calculations. This leads to
removing the profit from the economic equation.
8. The timing of income did not end up with business decisions so the company had no
cash for investing and purchasing materials its cash flow was affected.
The selected ratios:
Gross Profit Margin : GPM is a test of the efficiency of how a company is utilizing its raw
materials and labor during the production process. The value of GPM varies by industry. The
higher the GPM, the more effective a business is.
GPM = (revenue – The cost of goods sold) / Total revenue
Direct Material Cost per unit:
Direct materials cost is the central ingredient of a product's total cost among direct labor cost
and manufacturing expenses. Direct materials cost may encounter more variations from
emerging procuring conditions. Given the risk of production costs influenced by materials
purchases and production processes, companies often assign proposed or anticipated costs to
a product by applying planning budgets, managing and controlling costs, and evaluating cost
management performance. (Standard cost system)
DMCPU = Total Material Cost / Sales Volume
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Direct Labour Cost per unit:
Calculating a standard direct labor cost per unit rate permits to set a threshold limit of direct
labor variance expenses. It can be used to identify whether actual costs are higher or lower
than regular direct labor per-unit costs. Identifying the direct labor cost per unit makes
pricing and margin control more manageable.
DLCPU = Total Labour Cost / Sales Volume
Fixed Overhead Cost per unit:
"Fixed overhead is a set of costs that do not vary as a result of changes in activity. These
costs are needed to operate a business. One should always be aware of the total amount of
fixed overhead costs that a business incurs, so that management can plan to generate a
sufficient amount of contribution margin from the sale of products and services to at least
offset the amount of fixed overhead. Otherwise, it is impossible to generate a profit. "Bragg,
S. (2019, September 23).
FOCPU = Total Fixed Overhead Cost / Sales Volume
Operating Profit Margin:
Operating Profit Margin is a profitability ratio applied to determine the percentage of profit a
business generates from its operations, before taxes and interest costs.
OPM = (Operating Profit / Sales Revenue) * 100
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Selling and Distribution Cost per unit:
Selling and Distribution Costs are related to every operation that has to happen and the
service required to make a sale happen. It can be freight, commissions, repair, and
maintenance, delivery, insurance and many more. Those costs are crucial and every business
should understand them.
SDCPU = Selling and Distribution Cost / Sales Volume
Administration Cost per unit:
Administrative costs are not directly joined to a particular function such as production,
construction, or sales. These costs are associated with the organization as a whole.
ACPU = Administrative Cost / Sales Volume
Gearing:
“This ratio is widely used by accountants. Financial accountants look at historic gearing
values; corporate finance accountants look at the structure of companies. Management
accountants look at the same fundamental formula but typically look at the business or even
activities within a business rather than necessarily the company as a whole.”
10 Ratios of Management and Cost Accounting. (n.d.)
G = ( Debt / Debt + Equity) * 100
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Return on Net Assets:
“The RONA ratio shows how well a company and its management are deploying assets in
economically valuable ways, and a high ratio result indicates that management is squeezing
more earnings out of each dollar invested in assets. RONA is also used to assess how well a
company is performing compared to others in its industry.”Kenton, W. (2020, February 05).
RONA = (Operating Profit / Net Assets ) * 100
Return on Capital Employed:
“ROCE is a useful metric for comparing profitability across companies based on the amount
of capital they use.” Kenton, W. (2020, February 14).
ROCE = (Operating Profit / Total Assets - Accounts Payable and other creditors ) * 100
Prescribe possible alternatives
1. Rethink the purchasing system for raw materials and inventory management, diversify
the sourcing of materials and sign contracts that guarantee the prices for a fixed
amount of time. The timing of purchases and operational needs for materials should
be done by cooperation of both departments to avoid issues with cash flows.
2. Costing should be taken into account on all levels of the organization, this should be
done as an element of financial security. Wht’s more factoring, should be used as the
last option available, the company should transfer some risk of receivables to
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insiurance and count it as an element of the price for each product/service. This will
allow the company to grow and be sure that it will be paid, and the contracts will not
end up unprofitable due to factoring costs.
3. HR management should be utilized to remove the unnecesary human resources and/or
assign them to the places where whty are needed and provide value for the
organization. Moreover, using procurement and hiring contractors might be the way
to remove HR overhead that cannot be controled.
4. Budgeting should be implemented, but in a smart way, it should have some slack and
be designed using data from the monitoring of business operations. Without this the
proposed caping of budgets might make projects fail, due to lack of resources and
lower quality of work.
5. The company should use all of the above elements and implements as Standard Cost
System (SCS). “With standard costing, the general ledger accounts for inventories
and the cost of goods sold contain the standard costs of the inputs that should have
been used to make the actual good output. Differences between the actual costs and
the standard costs will appear as variances, which can be
investigated.”AccountingCoach. (n.d.)
6. The company should move to other customer segments, create a distribution network
and work both for the public and provate sector. This will allow Science Construction
PLC to diversify the risk. Additionally the possibilieis for large construction
companies in the private sector are always there becase there is always a demand for
such a wide variety of services as the presented company can provide.
Recommend a plan of action (decision/implementation): How do you measure success?
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The process of strategic business redesign and planning is usually composed of several steps.
First, the strategic plan is utilized to sketch business objectives and used to gather the
opinions by which those objectives can be achieved, in our case this means making the
company profitable again within new market conditions. Second, the operational plan that
comes into play which is a comprehensive approach and guideline for each section or
department on how to manage resources to accomplish the business goals. It is necessary to
create strong connections linking the strategic plan to the operational plan to promote
operational efficiency and thus allow things to happen across the entire organization.III, G.
N. (2016, October 26)
Further with the strategic business redesign in financial and operational terms, the company
should check the relationships across the entire business, which means Customer
Relationships, Customer Segnments, Revenue Streams, Channels, Key Activities, Key
Resources, Key Partnerships, Cost Structure. Business model Canvas can help with
identyfing what is wrong in the company not in just financial and operational ways, but in all
the others. The below graphic should provide more information about how it works:
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Asei-Dantoni, S., Denise, Daines, S., Remi, Iqbal, J., Lauren, . . . Cheng, S. M. (2016,
December 01).
The proper identification, of issues and redeisiging the business is an ongloing process
therefore it is impossible to recommend a plan that will provide the solution to all pains, the
above proposal is just a tip of the iceberg, but it provides a starting point to find what is
hidden beneath and what cannot be seen otherwise.
Why this case is important and relevant to a study of business.
Busineses sometime fail, even if they are on the market for a very long time. This is a sad
truth, but every business should get a chance to restructure itself in order to become profitable
again. If this is done properly we can still have it running, it can still provide value to its
customers and deliver on its promises. This is all what business is about and if it is gone it
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cannot do that. Proper restructurization is hard, it requires a long time changes, sometimes it
can be painful but it is crucial for every business to understand that it is possible to become
profitable again. However every business should do everything it can to avoid this type of
situation. This is precisely why understanding that is extremely essential for any business.
Conclusion:
Insolvent businesses require a complete overhaul of the company's key business processes.
That process aims to get the company to become the most efficient version of itself in a short
period by slashing slack and waste, decreasing costs, and enhancing management.
The success of that shift is usually measured using profitability metrics. Since it is a
comprehensive overhauling, a company may undergo layoffs, workflow disruption, and it
possibly will be costly and time-consuming before seeing the results. In the case of Science
Construction PLC, it is even harder because of legal time limitations, however, with the
aforementioned suggestions it can be done.
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References
10 Ratios of Management and Cost Accounting. (n.d.). Retrieved from
https://www.dummies.com/business/operations-management/10-ratios-of-management
-and-cost-accounting/
Asei-Dantoni, S., Denise, Daines, S., Remi, Iqbal, J., Lauren, . . . Cheng, S. M. (2016,
December 01). Business Model Canvas. Retrieved from
https://diytoolkit.org/tools/business-model-canvas/
Bragg, S. (2019, September 23). Fixed overhead. Retrieved from
https://www.accountingtools.com/articles/what-is-fixed-overhead.html
III, G. N. (2016, October 26). Links Between Strategic & Operational Plans. Retrieved from
https://smallbusiness.chron.com/links-between-strategic-operational-plans-17407.html
Kenton, W. (2020, February 14). Understanding Return on Capital Employed. Retrieved from
https://www.investopedia.com/terms/r/roce.asp
Kenton, W. (2020, February 05). Understanding Return on Net Assets. Retrieved from
https://www.investopedia.com/terms/r/rona.asp
Quora. (2017, April 27). What Is Jeff Bezos's "Day 1" Philosophy? Retrieved from
https://www.forbes.com/sites/quora/2017/04/21/what-is-jeff-bezos-day-1-philosophy/#
277eaa091052
What is standard costing?: AccountingCoach. (n.d.). Retrieved from
https://www.accountingcoach.com/blog/what-is-standard-costing