AQA AS Business Studies
Case Study Toolkit
Analysis of Data in the Case Study
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AQA AS Business Studies Case Study Toolkit
June 2003
Contents
•
•
•
•
•
•
Macro-economic forecasts
How to interpret the data
Exchange rates
Interest rates
Business cycle
Inflation
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AQA AS Business Studies Case Study Toolkit
June 2003
Macro-economic forecasts
• Black Looks is affected by many macroeconomic factors:
– Changes in demand for all goods and services (business cycle),
– Changes in the general level of prices (inflation),
– Prices of goods from abroad and prices of selling goods abroad (exchange
rates)
– The number of people out of work (unemployment)
– Cost of borrowing money on consumers and businesses alike (interest
rates)
• Forecasts are estimates of future values
– In Tables 1 and 2 the forecasts are made for the next two years and have
three different estimated values for each time period.
– Sam, the cinema owner, has collected estimates from 20 different City
economists – these are people whose job is to provide information to their
financial clients on the state of the economy.
– NOTE: the wide range of estimates tells us that the business of forecasting
is difficult and often inaccurate.
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June 2003
How to interpret the data
• When looking at data it is important to do the following:
– Outline the trend (e.g. up, down, the same)
– Explain the implications to the business of this trend (application and
analysis)
– Question the usefulness of the data to the business (show judgement)
• REMEMBER TO BE CLEAR WHAT EACH SET OF FIGURES
REPRESENTS
– For example $s per £: the price of pounds in terms of dollars
• DON’T IN YOUR ANSWERS
– Repeat each number in the series – just use the trends
– Forget to use the right units e.g. talk about Euros and dollars and
percentages
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June 2003
Exchange Rates (1)
• Black Looks buys some product in foreign currency
– To buy products in the US you need to use dollars, in France and Spain
Euros and in Japan Yen. The same is true of foreigners trying to buy UK
products, they need £’s.
– Therefore pounds need to be exchanged for Euros, Dollars and Yen and
vice versa.
– The rate at which they are changed is known as the exchange rate. The
value of the pound is expressed in terms of the amount of currency £1 can
buy. E.g.£1:$1.56.
• Exchange rates between currencies change every day.
– 27th March £1:$1.56 28th March £1:$1.58
– This means that one pound buys more dollars – the pound is “stronger”, or
has “appreciated” against the dollar.
– If say on 29th March £1:$1.54 then the reverse is true. One pound buys
less dollars, it is “weaker” and “depreciated”
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June 2003
Exchange Rates (2)
• Effect of exchange rate on Black Looks imports
– Black Looks imports Luster and Sleek from the US)
– Increase in value of pound (e.g. from £1:$1.5 to £1:$1.6) means imports are
cheaper
– Good for Black Looks who are importers – raw material and finished good
prices are lower
– Not so good for those UK companies competing against foreign products
(Black Looks would lose some of its own label business)
• Effect of exchange rate on Black Look exports
– Black Looks exports own label goods to Europe – selling via their shops in
Paris and Berlin…)
– Increase in value of pound means exports are more expensive
– Bad for Black Looks trying to sell abroad – may have to cut prices or take
lower profit margins to compete
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June 2003
Interest Rates (1)
• Interest rates
– The cost of borrowing money or the return on saving money
– Banks charge interest on loans and mortgages – there is a payment,
normally every month, part of which pays off the loan, part of which pays for
the interest
– Consumers also pay interest on overdrafts and credit cards
– Individuals and businesses can get interest on money they have with a
bank, e.g. deposit accounts
• UK interest rates are based on the “base rate” which is set by
the Bank of England
– A change in the base rate will mean all interest rates will probably move in
line with the change
– Interest on savings will be less than the base rate, depending on the
account you hold
– Interest payable on loans will be higher, it will also reflect the risk involved –
the higher the risk, the greater the interest rate is above the base rate
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June 2003
Interest rates (2)
• Implications of change in interest rates for Black Looks
• An increase in interest rates has the following affects:
– Bank overdraft becomes more expensive
– Interest on loans from Sam, Seyi and Corrine maybe more expensive
(depends on what the interest arrangement is)
– Black Looks less likely to borrow money – more expensive!
– Consumers tend to spend less because of higher personal repayments on
loans and less likely to borrow money
– Consumers spend less on high priced items (not really applicable to Black
Looks’ products though)
– Exchange rate will rise, meaning cheaper imports, more expensive exports.
• The opposite is true of a decrease in interest rates
• THINK DEMAND FROM CONSUMERS and INVESTMENT
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June 2003
Business Cycle (1)
GDP
•
•
•
•
•
Business cycle shows
fluctuations in demand for
goods and services in an
economy over time.
BOOM – high GDP growth
SLUMP/DOWNTURN – less GDP
growth
RECESSION – negative GDP
growth
RECOVERY – GDP grows,
making up for lost GDP during
recession
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BOOM
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SLUMP
RECOVERY
RECESSION
Time
June 2003
Business Cycle (2)
• Business implications for Black Looks
• Boom
– High demand, chance to increase prices, higher profits and may need to
invest to meet increased demand
• Slump/Downturn
– Falling demand, may find increase in stocks, so might need to reduce prices
• Recession
– Low or no demand for products, as consumers become unemployed and
businesses go bust – falling profits or losses
• Recovery
– Uncertainty whether increasing demand will be sustained, so may not take
on new workers yet or invest in new machinery/technology
• THINK production issues, pricing strategy and type of product
– Black Looks produces cosmetics which are more INCOME
ELASTIC than more necessary products.
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June 2003
Inflation (1)
• Inflation means an increase in the general level of prices of
goods and services
• Some prices will have gone up, some down, some may have
stayed the same. Inflation measures the average of a typical
households basket of goods (Retail Price Index – RPI)
• Inflation goes up because:
– Demand is high for products in the economy which means firms can put
their prices up – high demand comes from increase in consumers incomes
or lower interest rates
– Higher costs to businesses (e.g. higher wages)
– Expectations – if consumers expect prices to rise in the future, they will buy
now, increasing demand and therefore increasing prices
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AQA AS Business Studies Case Study Toolkit
June 2003
Inflation (2)
• Business implications for Black Looks
• Increasing inflation means:
– Uncertainty over prices in the future, making investment decision more
difficult to make
– Workers will demand higher wages to maintain their standard of living
– Suppliers may demand higher prices to cover their own increasing costs
– Bank of England may put up interest rates to prevent further inflation – see
implications of higher interest rates
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AQA AS Business Studies Case Study Toolkit
June 2003
Exchange Rate of the US $ per £
1.9
1.8
Current
1.7
Dec-03
1.6
Jun-04
1.5
Dec-04
1.4
Max
Ave
Min
Summary
The pound looks like it will go up in
value against the dollar in the next two
years by approximately 5%, though
there is a risk it might fall as much.
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o
Average estimated trend is up by 4%
after 6 months, 5% over 18 months
o
Maximum estimated trend is up by
15% after 6 months, 17% over 18
months
o
Minimum estimated trend is down by
8% after 6 months, and the same after
18 months
APPLICATION AND ANALYSIS
•
Cheaper imports of Palmer’s, Luster and
Sleek from US
•
More price competition for own label
products
•
Could reduce price of US imports in own
shops
•
Could keep prices the same and increase
profit margin
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June 2003
US $ per £
1.9
1.8
Current
1.7
Dec-03
1.6
Jun-04
1.5
Dec-04
1.4
Max
Ave
Min
EVALUATION
•
Depends on price elasticity of demand
for US products – big brands so probably
inelastic PED, so cutting price will lower
revenue. Therefore better to enjoy higher
profit margin.
•
There is a risk because though the
average forecast suggests an increase,
there are some forecasts that say it will
go down.
•
The size of the changes will make a
difference to costs.
Profit margin is the profit as a percentage of the sales revenue
The pound is forecast to appreciate or strengthen against the dollar
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AQA AS Business Studies Case Study Toolkit
June 2003
Consumer spending
7%
o
Average estimated trend is up to 3.5% a year
after 18 months,
o
Maximum estimated trend is up to just over
6% a year in 18 months time
o
Minimum estimated trend is up to less than
2% a year in 18 months time
6%
5%
Dec-03
Jun-04
Dec-04
4%
3%
2%
1%
0%
Max
Ave
Min
Consumer spending increasing by about 3.5% a
year
Consumer spending is households spending on all
goods and services – if it is increasing then more
more will be spent on income elastic products like
DVDs and cosmetics.
3.5% is a low figure compared to the ‘consumer
boom’ of the last few years and could be seen as
a slow down in the economy as consumer tighten
their belts and spend their extra income on their
homes
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APPLICATION, ANALYSIS AND EVALUATION
•
Consumer spending forecasts will help Black
Looks (and their suppliers as well) plan their
production for the next 18 months
•
Consumer spending makes up over two thirds
of all spending in the economy – any increase
will lead to an increase in GDP
•
The increases predicted here would mean that a
recession is not so likely, especially as the most
pessimistic level is still positive.
•
For Black Looks, an increase in consumer
spending might mean an increase in the market
size, allowing them to compete with CC plc for
new customers (Boston Matrix)
AQA AS Business Studies Case Study Toolkit
June 2003
Euros per £
1.6
1.5
Current
Dec-03
Jun-04
Dec-04
Column 5
1.4
1.3
1.2
1.1
1
Max
Ave
Min
o Average estimated trend is up
by 1% after 6 months, down
7% over 18 months
o Maximum estimated trend is
up by 9% after 6 months,
14% over 18 months
o Minimum estimated trend is
down by 14% after 6 months,
and the 23% after 18 months
The pound will weaken by 7% against the Euro. The difference
between the upper and lower estimates is large, indicating less
certainty over £:Euro forecasts in the next 18 months than £:$
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AQA AS Business Studies Case Study Toolkit
June 2003
Euros per £
1.6
1.5
Current
Dec-03
Jun-04
Dec-04
Column 5
1.4
1.3
1.2
1.1
1
Max
Ave
Min
The pound is forecast to
depreciate or weaken against the
Euro
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APPLICATION AND ANALYSIS
•
A falling pound is good news for exporters of
goods to the Euro-zone and especially Black
Looks with it’s new shops across some of
Europe's major cities.
•
A one pound good in the UK now costs less to
buy in Europe i.e. £1: 1.4 Euros changes to £1:
1.3 Euros in 18 months time.
•
Therefore there should be an increase in
demand for Black Looks products, without
having to change the price.
EVALUATION
•
Given the possibility of a recession and
fiercer competition in the UK for CC plc
this seems a good opportunity to expand
further into Europe
•
Depends on European demand – at
present it seems that most European
countries are suffering from a recession
•
High risk of going up, more risky than
change in dollar pound estimates.
AQA AS Business Studies Case Study Toolkit
June 2003
UK Interest rates
6.00%
o
Average estimated trend is for interest rates to
fall by 0.5% over 18 months
o
Maximum estimated trend is for interest rates
to go up by nearly 2% over 18 months
o
Minimum estimated trend is for interest rates
to go down by 2½% over 18 months
5.50%
5.00%
Current
Dec-03
Jun-04
Dec-04
4.50%
4.00%
3.50%
3.00%
2.50%
2.00%
Max
Ave
Min
The average forecast suggest that
interest rates will fall slightly over
the next 18 months.
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APPLICATION AND ANALYSIS
Falling interest rates means:
1.
Cost of borrowing money falls so Black
Looks could expand more cheaply if they
wanted to borrow money
2.
Repayments on loans and overdrafts are
cheaper, so Black Looks would not face
such high overheads, meaning higher net
profits
3.
Consumers are more likely have more
money (for the same reasons as above) so
may increase spending on more income
elastic products such as cosmetics.
AQA AS Business Studies Case Study Toolkit
June 2003
Inflation (%RPI)
•
•
3
2.5
2
Current
Dec-03
Jun-04
Dec-04
1.5
1
0.5
0
Max
Ave
Min
The retail price index, which measures average
increases in prices across the whole economy, is
set to fall by whatever forecast is taken.
Advanced comment: it seems very unlikely that
inflation will go below 1% since this is well
below the governments target rate (even taking
into account mortgage interest payments –
RPIX). However the conclusions will remain the
same.
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•
•
All the trends are DOWN
Average trend is that inflation will fall
to nearly 1%
Maximum trend is for inflation to fall
to and remain around 2.2%
Minimum trend is for inflation to fall to
less than 0.5%
APPLICATION, ANALYSIS AND EVALUATION
•
Low and falling inflation means that workers
will not be making claims for much higher
wages, nor will suppliers be putting
pressure on Black Looks by increasing their
costs
•
Lower predicted inflation means that it is
easier for Black Looks to map out is cash
flow because it is more certain over the
future value of its forecasted revenues
•
This low inflation will probably not have
much adverse effect on the way that Black
Looks operates,. If anything it continues to
make life easier, because price levels in the
future are more certain.
AQA AS Business Studies Case Study Toolkit
June 2003
Unemployment
7
o
Average estimated trend is up to just over
4% over 18 months, a steady rise 1% of
the total working population
o
Maximum estimated trend is up to over 6%
after 18 months, a big increase of over 3%
of the working population (possibly another
900,000 people unemployed)
o
Minimum estimated trend is set to stay the
same.
6
Current
Dec-03
Jun-04
Dec-04
5
4
3
2
Max
Ave
Min
Unemployment seems set to rise by perhaps
300,000 in the next 18 months
An increase in unemployment in certain areas
is part of structural unemployment
Cyclical unemployment is due to a general fall
in demand in the whole economy.
It is probable that the predicted rises have an
element of both.
APPLICATION, ANALYSIS AND EVALUATION
•
•
•
•
•
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Increasing unemployment means that there may be
less demand for goods, because consumers incomes
are falling
Workers will lose some of their bargaining power
because there will be a larger pool of labour available
to hire from
Black Looks will be affected in the UK if the
unemployment is concentrated in the city areas that
their shops are based in.
Unemployment is known as a ‘lagged’ indicator of the
business cycle. It tends to grow after a fall in demand
in the economy because businesses take time to
reduce the size of their workforce.
However the increase may be proof of a possible
recession – even the minimum level is not falling
AQA AS Business Studies Case Study Toolkit
June 2003
Business investment
8
7
6
5
4
3
2
1
0
-1
-2
-3
-4
-5
Dec-03
Jun-04
Dec-04
Max
Ave
Min
Company investment is set to rise over
the next 18 months.
Company investment can be seen as part
of the business cycle. Companies will buy
more capital stock (e.g. machines and
new technology) if they think that future
demand will increase.
The figures suggest that on average
forecasters think that firms think that GDP
will rise over the next 18 months
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o
Average estimated trend is for company
investment to rise between 1% and just over
2% over the next 18 months
o
Maximum estimated trend is for company
investment to go up at a rate of 4 to nearly 7%
over the next 18 months
o
Minimum estimated trend is for company
investment to go down by 3-4% over 18 months
Application, analysis and evaluation
•
Increasing investment spending suggests increasing
demand is coming, not a recession as some
newspapers suggest
•
Increasing investment spending also suggests that
more workers will be employed, therefore increasing
wages and increasing demand for goods in the
economy, increasing demand for Black Looks
products
•
However the low level of investment spending might
mean that the UK government may encourage firms
to invest more by giving them grants. This may
provide Black Looks with opportunities for more
funds for expansion purposes.
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June 2003
Economic forecast thoughts (1)
•
Government policy choices
– Low inflation, increasing unemployment and low company investment might mean that
the government may want to BOOST GDP
– They could do this by increasing government spending, reducing taxes and reducing
interest rates.
– Black Looks needs to be prepared to have spare capacity to meet the possible
increased demand for it’s products.
•
The key data can be regarded as the changes in exchange rates, the
changes in consumer spending and changes in interest rates
– Exchanges rates directly affect Black Looks’ prices and costs
– Consumer spending patterns help them decide on production plans (a regional
breakdown of consumer spending and Europe wide figure would be useful)
– If they are considering borrowing money for expansion, then interest rates give
them an indication of the cost of this borrowing.
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June 2003
Economic forecast thoughts (2)
Economic and financial information from The Economist who poll forecasters
– this should be the most up to date forecast data.
Indicator
Economists
Prediction
2004
Comment
UK GDP
+2.7%
No recession, but sustainable growth
UK Inflation
+2.5%
Higher than case study predicts, but no cause for alarm
Euro GDP
+2.2%
Good opportunities in Europe, with major economies
coming out of the slowdown next year.
All forecasts come with a health warning – Sam should be ‘prudent’ with his
interpretation of the direction of each forecast – i.e. expect the worst.
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June 2003
Figure 1: Cash flow Forecast
Forecast positive
cash flow, a year
after opening
First store
opening in Brixton
Using nearly
all start up
capital
Probably need overdraft or short term
loan to cover approximately £40,000
over cash reserves
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Planned opening
in second store
June 2003
Figure 2: profit and people
First store opening
in Brixton
On budget for store
openings
UK stores and Euro
stores?
No CC plc!
A healthy profit margin after only one year of trading – 14% on sales and predicted to stay
the same for the next 18 months – will it change with the arrival of CC plc?
Ambitious store opening programme – how will it be financed (think of the falling interest
rates) and will there be enough demand (new locations away from CC plc)?
Much bigger workforce forecast – will the Brixton office need to be expanded?
Diseconomies of scale may creep in
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June 2003
Figure 2: profit and people
Not as profitable as
the first store
Lowest profit margin
all figures in£'000
Stores
Sales turnover
Profit
Profit margin
Annual sales
Annual profit
Annual profit margin
per store
Sales turnover
Profit
Actual
Actual
Actual
Budget
Se01-Fe02
Ma02-Au02 Se02-Fe03
Budget
Ma03-Au03 Se03-Fe04
Ma04-Au04
1
285
40.1
14%
2
450
61.8
14%
735
101.9
14%
4
1,130
132
12%
7
1,620
211
13%
2,750
343
12%
12
2,850
450.2
16%
18
3,880
525
14%
6,730
975.2
14%
285
40
225
31
283
33
231
30
238
38
216
29
Have they taken into account
increased overheads because of
size of business?
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Budget
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Seasonal?
June 2003
Appendix A: Capital Structure
SHARES
LOANS
Each share bought for £200.
So that the ‘ownership’ can remain with the
founders, the other investors have loaned the
money
Lily and Seyi have 52% of the shares and
therefore have control of the company.
Seyi would need Sam to outvote Lily.
Note the low level of investment from Lily, she
may have even had to borrow money to buy
the shares
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Black Looks will probably be paying fixed interest
on these loans. Since it is a new business, the
interest payments from ‘friends’ is likely to be less
than the repayments on a loan from a bank.
AQA AS Business Studies Case Study Toolkit
June 2003