Armstrong Stores (Armstrong) is a listed business with a chain
of 126 general department stores in South Postland. The
company is known for the high quality of its products, mainly
food and clothing. The majority of its goods are sourced from
trusted manufacturers and branded under the company’s own
‘Strongarm’ label.
Currently, Armstrong faces a tough competitive environment with
all the major players in its market trying to secure their positions.
Poor economic conditions worldwide have significantly affected
South Postland. Consumer spending is falling throughout the
economy and there is no immediate likelihood of a resumption
of growth.
Armstrong’s chief executive officer (CEO) has recently conducted
a strategic review of the business in the context of the current
economic recession. He has identified the following strategy as
critical for Armstrong’s success:
¤ focus on key customers – those who are occasional shoppers but
not currently loyal to the business
¤ ensure Armstrong’s offering addresses their needs
¤ cut out costs which do not address these customers’ priorities
¤ amend current processes to meet this new focus
¤ build for the future with a programme of
sustainable development.
The company now needs to address the impact of this new strategy
on its performance measurement systems. Armstrong uses a
balanced scorecard to assess its strategic performance and the
scorecard is used to connect the business strategy with its more
detailed performance measures. The CEO has asked you to consider
the implications of the new strategy for the performance measures
used by the business.
Currently, Armstrong uses Economic Value Added (EVA),
earnings per share (EPS) growth and share price performance
to monitor its financial performance. The company has supplied
data in Appendix 1 which the CEO wishes to see used to assess
the financial performance from the shareholders’ perspective. She
has asked that you explain the problems of capturing performance
with these particular metrics and also, how they may affect
management’s behaviour.
Finally, in order to aid refocusing the company, the CEO has
requested a report to the board comprehensively benchmarking
the current performance of Armstrong. The board need to have
benchmarking exercise explained and then the results described.
Appendix 2 contains data analysing Armstrong, its two main
competitors and statistics provided by the government of South
Postland. A junior analyst has already correctly completed the
preliminary calculation work for benchmarking in Appendix 3. The
CEO has requested a critical assessment of these different sources
as well as the comments on the results of the analysis.
RELEVANT TO PAPER P5
paper p5
sample question
APPENDIX 1
Financial data for Armstrong Stores
2008 2009
$m $m
Operating profit 505.7 435.1
Interest 40.2 77.6
Profit before tax 465.5 357.5
Profit for the year 353.8 271.7
Average number of shares in issue 1,600m 1,600m
2008 2009
Economic value added (EVA) $306m $110m
Stock market information
2008 2009
South Postland market index 1,115.2 724.9
Retailing sector index 2,450.7 1,911.5
Armstrong Stores
(average share price) $2.45 $2.08
01 SAMPLE QUESTION
ARMSTRONG NOW NEEDS TO ADDRESS THE IMPACT OF ITS NEW STRATEGY ON ITS
PERFORMANCE MEASUREMENT SYSTEMS. ARMSTRONG USES A BALANCED SCORECARD
TO ASSESS ITS STRATEGIC PERFORMANCE AND THE SCORECARD IS USED TO
CONNECT THE BUSINESS STRATEGY WITH ITS MORE DETAILED PERFORMANCE MEASURES.
THE CEO HAS ASKED YOU TO CONSIDER THE IMPLICATIONS OF THE NEW STRATEGY
FOR THE PERFORMANCE MEASURES USED BY THE BUSINESS.
APPENDIX 2
a) Comparative data
BS stores CS Stores Armstrong
2008 2009 2008 2009 2008 2009
Revenue:
– Food $m 1,542 1,538 2,100 1,978 1,985 2,025
– Clothing $m 1,234 1,222 2,723 2,610 2,450 2,475
Total $m 2,776 2,760 4,823 4,588 4,435 4,500
Profit for the year $m 142 127 294 193 354 272
No of stores 81 83 167 186 119 126
No of suppliers 3,400 3,100 4,200 4,200 4,122 4,468
No of warehouses 6 6 8 9 7 7
b) Government statistics
Market totals – Revenue 2008 2009
– Food Retail $m 12,403 12,656
– Clothing Retail $m 25,792 22,500
c) Armstrong data for 2009
Region by region
(South Postland is split into three large regions)
Acelon Baselon Caselon
Revenue:
– Food $m 648 810 567
– Clothing $m 792 1,114 569
Total $m 1,440 1,924 1,136
Profit for the year $m 87 111 73
No of stores 37 51 38
No of warehouses 2 3 2
Studying Paper P5?
Performance objectives 12, 13 and 14 are relevant to this exam
02
STUDENT ACCOUNTANT issue 19/2010
02
APPENDIX 3
Junior analyst’s working papers
a) Comparative data
Change year on year BS stores CS Stores Armstrong
Revenue:
– Food –0.3% –5.8% 2.0%
– Clothing –1.0% –4.1% 1.0%
Total –0.6% –4.9% 1.5%
Profit for the year –10.3% –34.5% –23.2%
No of stores 2.5% 11.4% 5.9%
No of suppliers –8.8% 0.0% 8.4%
No of warehouses 0.0% 12.5% 0.0%
BS stores CS Stores Armstrong
2008 2009 2008 2009 2008 2009
Market share:
– Food 12.4% 12.2% 16.9% 15.6% 16.0% 16.0%
– Clothing 4.8% 5.4% 10.6% 11.6% 9.5% 11.0%
Revenue per shop $m 34.27 33.25 28.88 24.67 37.27 35.71
b) Regional data for Armstrong
Acelon Baselon Caselon Total
Revenue per shop $m 38.92 37.72 29.90 35.71
Profit margin 6.0% 5.8% 6.5% 6.0%
Required:
1 Describe the four perspectives of the balanced scorecard showing how the new strategy of the business as outlined by the CEO links
to the different perspectives. Illustrate your answer by suggesting appropriate performance measures for Armstrong for each of the
detailed points within the strategy. (8 marks)
2 a Assess the financial performance of the company using the three shareholder performance indicators. (5 marks)
b Critically evaluate the use of these performance metrics and how they may affect management’s behaviour. (6 marks)
3 Prepare a report to the board on a benchmarking exercise using the information given in the appendix:
a Evaluate the benefits and difficulties of benchmarking in this situation (4 marks)
b Evaluate the performance of Armstrong using the data given in the question. Indicate what further information would be useful
and conclude as to the performance of the company. (8 marks)
Professional marks for appropriateness of format, style and structure of the report. (3 marks)
Total: 34 marks
THE INDICATORS EACH HAVE STRENGTHS AND WEAKNESSES. EVA IS A WIDELY USED
INDICATOR WHICH AIMS TO CAPTURE THE INCREASE IN SHAREHOLDER WEALTH THAT THE
COMPANY GENERATES. IT USES AMENDED TRADITIONAL PROFIT BASED INFORMATION
IN ORDER TO APPROXIMATE THE NET PRESENT VALUE METHOD OF APPRAISING AN
INVESTMENT. THUS, EVA PROVIDES A CLEAR FOCUS ON THE MAJOR OBJECTIVE OF MOST
COMMERCIAL ENTITIES.
03 SAMPLE QUESTION
1 The four perspectives of the balanced scorecard are:
¤ Financial – how do we optimally serve our
shareholders’ interests?
¤ Customer – how should we present ourselves to our customers?
¤ Internal business process – what processes are critical to
achieving our customer and shareholder goals and how can we
optimise these?
¤ Learning and growth – how do we maintain our ability to
change and grow?
The new strategy addresses these perspectives in different ways.
Ultimately all of the perspectives will have financial effects whether
in the short- or long-term interests of our shareholders.
Focus on key customers – this directly addresses the customer
perspective and will require the collection of the profiles and
needs of these customers in order to generate market growth
and so improve our financial position. Suitable performance
measurement would segment our market (for example, by customer
age or gender) and identify our changing market share within
each segment.
Ensuring we meet key customer needs – again addresses the
customer perspective but will also impact on the products/services
that Armstrong offers and so affect the process perspective.
Suitable performance measures from the customer perspective
would be levels of repeat business and customer satisfaction and
from the process perspective, Armstrong will measure its product
range and quality. Range would be measured against competitors
while quality could be measured subjectively against competitors or
internally by level of customer complaints or returns.
Cost cutting – this connects to the process perspective as it
seeks to focus the business on value added activities. Suitable
performance measures would be efficiency savings generated by
removing or reducing unnecessary processes/products. Armstrong
could possibly look to simplify its supply chain by cutting the
number of suppliers with which it deals.
Amend current processes to meet the new focus – clearly, this
takes the process perspective and measurement of this objective
will be by way of the achievement of goals in a specific change
programme to assist the other objectives.
Programme of sustainable development – this objective looks to
the future and this is the learning and growth perspective. Suitable
measures for this area would include the company’s carbon
footprint (its CO
2
output), the efficiency of energy use of the
business and the level of packaging waste generated.
2 a) Armstrong’s financial performance
The year on year performance of Armstrong has declined with
earnings per share falling by 23%. Normally, this would imply
that the company would be heavily out of favour with investors.
However, the share price seems to have held up with a decline
of only 15% compared to a fall in the sector of 22% and the
market as a whole of 35%. The sector comparison is the more
relevant to the performance of Armstrong’s management as
the main market index will contain data from manufacturing,
financial and other industries. Shareholders will be encouraged
by the implication that the market views Armstrong as one of
the better future prospects for investment.
This view is substantiated by the positive EVA for 2009
($110m) which Armstrong generated. EVA has fallen by 64%
from 2008 but it has remained positive and so the company
continues to create value for its shareholders even in the poor
economic environment.
b) Evaluating the financial metrics
The indicators each have strengths and weaknesses. EVA is
a widely used indicator which aims to capture the increase
in shareholder wealth that the company generates. It uses
amended traditional profit based information in order to
approximate the net present value method of appraising an
investment. Thus, EVA provides a clear focus on the major
objective of most commercial entities. However, its calculation
requires a large number of adjustments to the traditional
accounting figures, for example the need to calculate the
economic rather than accounting depreciation, the need to
distinguish between cash flow and accruals and to distinguish
between expense and investment. This makes the method less
easily understood than the two other measures currently used
by Armstrong.
EPS growth is important to shareholders as it relates to
dividend growth which is a fundamental variable used in the
calculation of share value (Dividend valuation method). It is a
widely used measure by equity analysts and so is a key driver
of share prices. However, it is based on accounting profit and
only captures year on year change and so can be subject to
short-term manipulation if the trend over a number of years
is not considered.
Share price performance reflects the capital performance
of an investment but tends to be volatile and subject to
significant fluctuations outside of the control of management.
It will be the figure that most shareholders turn to in order to get
a quick impression of their investment performance but it can
lead to judgements being formed on the basis of that short-term
volatility which are more appropriate for speculators rather than
investors. The use of an average share price in this instance
should help to ameliorate such problems but the averaging
method and time-period should be further investigated.
The impact of these metrics on management is intended
to focus their activities on improvement of financial
performance for shareholders. The danger of EPS growth
and share price is that these may be manipulated in the
short-term in order to demonstrate improvement but at the
risk of impairing long-term performance. EVA partially tackles
this issue through its use of adjusted accounting figures (eg
depreciation) but suffers from lack of clarity in its calculation
compared to these other metrics.
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STUDENT ACCOUNTANT issue 19/2010
Workings:
(W1)
2008 2009
Economic value added (EVA) $306m $110m (down 64%)
(W2)
2008 2009
EPS (profit for year/av no of shares) 0.221 0.170 (down 23%)
(W3)
Stock market information
2008 2009
Main market index 1,115.2 724.9 (down 30%)
Retailing sector index 2,450.7 1,911.5 (down 22%)
Armstrong Stores share price $2.45 $2.08 (down 15%)
3
To: Board of Armstrong Stores
From: A Accountant
Date: Today
Subject: Benchmarking performance
This report describes the benefits and problems associated with
benchmarking the company’s performance. Then, the performance
of Armstrong and its two main competitors is calculated
and evaluated.
a) Benchmarking methods
Benchmarking is a business improvement technique. There
are different types of benchmarking. Internal benchmarking
is where similar operations in different parts of the company
under consideration are compared with each other and also
with an internally generated target. External benchmarking is
where the company’s results are compared to those of other
companies. There are different types of external benchmarking:
one where competitors are used as comparators and another
where a company with similar operations (eg warehousing),
which is not a direct competitor, is compared. The aim of
benchmarking is to identify where best practice lies and then to
analyse what constitutes the best operational practice so this
can be implemented across the business.
The main advantages and disadvantages concern the
availability of benchmark information and its applicability to the
business. Internal comparison between regions in Armstrong
will be easy but may not yield dramatic improvements as the
regions are probably already in relatively close contact. Any
improvements identified from this exercise should be easily
applicable as the systems will be broadly the same.
External benchmarking in this case means comparison
to competitors where the possibility of radical new ideas is
greater but the difficulty will lie in obtaining sufficiently detailed
information to identify the best practice business process. Of
course, it will be difficult to negotiate an information sharing
arrangement with a competitor due to the commercially
sensitive data being exchanged. However, there exist some
government schemes which require subscriber companies to
supply data and then provide them with anonymised industry
data in return.
It would be easier to obtain information from a company
which is not in direct competition with Armstrong but which
has similar functions such as purchasing and warehousing.
However, there are likely to be more significant differences in the
objectives and functions of the activities being compared and
so it may be harder to apply the lessons from the competitor
to Armstrong’s operations. Data has not been supplied to allow
this analysis in this case. Armstrong could seek out companies
which have industry awards in these functional areas and then
negotiate an information sharing agreement.
b) Armstrong’s performance benchmarked
Comparing Armstrong to its competitors, it is clear that
Armstrong has done well to increase its total revenues but this
has come at the cost of a significant fall in profit compared to
BS Stores. Armstrong should look into its pricing policy as it
may have been buying sales by offering heavy discounts and
these may not be sustainable in the long term. The CS Stores
drop in profit is greatest of all but this may be explained by
problems in the range or quality of its products. CS Stores
opened 19 new stores in the period but there has been an
overall fall in revenue of 4.9%. Armstrong should analyse CS
offering to its customers in order to avoid making the same
mistakes. BS has increased profitability and this seems due to
a reduction in suppliers and presumably the overhead costs of
managing those relationships. Armstrong should examine BS
Stores sourcing policy to see if it can simplify its supply chain in
a similar manner.
In terms of market share in food, Armstrong has maintained
its position against slight falls in its competitors. In clothing, all
the companies have made gains and this may indicate a trend
to consolidation or failure of smaller stores of which Armstrong
may be able to take further advantage.
In revenue per shop, Armstrong has outperformed its
competitors, however, this may be due to Armstrong having a
larger average store. This question could be answered by finding
out the average store area for the three companies. Regionally,
the Caselon area stands out with poor revenue per shop and
it has an unusual mix of food and clothing compared to the
other regions where clothing predominates. Further work will
be needed to identify if this is due to a different range being
offered by managers or if there are regional variations in
customer preferences.
05 SAMPLE QUESTION
CONCLUSION
In conclusion, Armstrong appears to be performing well with
increased market share during the decline. The company must
guard against the danger of eroding margins too far.
INDICATIVE MARKING SCHEDULE
Part 1
0.5 mark per explanation of each perspective, up to 2.
1.5 marks for comments discussing each of the performance
measures including the link to the new objectives, up to 6.
Total: 8 marks
Part 2
a) Comments: 1 mark per point up to maximum of 2 on EPS and
share price (together) and maximum of 1 on EVA.
(Maximum 3)
Workings:
1 mark for calculation of EPS and 0.5 each other calculation,
up to maximum of 2.
b) up to 2 marks on each metric and 2 marks on impact on
management behaviour (Maximum of 6)
Total: 11 marks
Part 3
a) 1 mark per point made; 2 for explaining benchmarking and 2 for
advantages/disadvantages (maximum 4)
b) 1 mark per point made up to 5 for analysing the computations,
1 mark per point made up to 3 for suggesting further work and
1 mark for a conclusion (maximum 8)
Professional marks (format, style and structure of report) are
available up to a maximum of 3.
Total: 15 marks
Total for question: 34 marks
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STUDENT ACCOUNTANT issue 19/2010
