Business 9609/33 May/June 2019: question paper and mark scheme

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0 No creditable content Note: No requirement to refer to results and other issues to access full marks. Do not credit references to ‘more ideas from new shareholders’ or similar as this is not relevant to PLC. Knowledge • Meaning of converting to PLC – shares publicly available on a stock exchange • Advantages / disadvantages of Ltd. v PLC legal status - Raising finance from shareholders as a PLC - Greater divorce between ownership and control of business as a PLC. Dilution of control as PLC. - Risk of takeover increased as PLC - PLC status and link to long term growth of business • Share capital is a permanent form of finance • Reference to financial information and ratios e.g. gearing Application • Current gearing classified as low (below 50%). Link to expansion plans. • Further borrowing for expansion and predicted increase in interest rates • Profits have provided Lukwesa family with good returns • Family business for 50 years • Potential attractiveness of the business to chocolate manufacturers for backward vertical integration • Application of changes to financial performance 0 No creditable content

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1 Analyse the risks to AC of the economic forecasts in Appendix 2. 10 Level Knowledge Application Analysis 3 marks 2 marks 5 marks 2 3 marks 2 marks 4–5 marks Good Points well Good use of knowledge applied to the theory/reasoned shown of risks/ case argument to explain the impact of them. likely impact of risks 1 1–2 marks 1 mark 1–3 marks Knowledge Some Some use of shown of application to theory/reasoned risks/impact of the case argument to explain the them. likely impact of risks 0 No creditable content Note: Credit economic factors from text as well as appendix. Credit impacts on AC as a business, not e.g. workers unless link is made with AC. Only credit risks. Answers could include Knowledge: • Risks/threats – external factors that impact business negatively • Definitions of terms from Appendix 2 - Economic growth – rate of change of GDP/economic output - Inflation – increase in the general price level - Unemployment – proportion of labour force without work - Interest rate – cost of borrowing / reward for saving Application • Use of information from the appendix and what this may mean for AC - Reduction, 2.5% points, in forecast rate of economic growth but still positive - Increase in inflation; 3% points - Reduction in unemployment; 2% points - Increase in interest rate of 3% points - No forecast change in exchange rate • Linking change in economic data to relevant impacts on AC e.g. interest rates and plan to borrow $7m, rising incomes / falling unemployment and demand for chocolate, inflation and costs of raw materials 1 Analysis • Reasoned chain of argument. e.g. economic growth is set to slow (not become negative) therefore incomes may not be rising as fast. This may mean a slowdown in the growth in demand for luxuries, such as chocolate products. • Inflation set to rise. This could result in an increase in costs for AC e.g. cost of cocoa beans. • Inflation could reduce the spending power of consumers resulting in less demand for chocolate. • Unemployment set to fall, risk is that AC may need to pay higher wages and therefore impact on costs and pricing and therefore demand. • Increase rates set to rise. This will increase the cost of borrowing and therefore impact AC’s investment decisions such as the modernisation of the factory. 1 1 mark 1 mark 1–2 marks 1–2 marks Knowledge Some Some use of theory Some shown of application / reasoned judgement factors to the case argument to explain shown in the advantages and answer and disadvantages of conclusion. converting to a plc 1 1–2 marks 1–2 marks 1–2 marks 1–3 marks Knowledge Some Some use of Some judgement shown in shown of factors application to theory / reasoned answer and conclusion. the case argument to explain the Weakly supported implications / conclusion. effectiveness / usefulness

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2(a)(i) Refer to the table in Appendix 1. Calculate the: 2 Current capacity utilisation at Factory S. Current production Formula: × 100 (1) if no calculation Full capacity 3.1 / 4 × 100 = 77.5% (2) Other answers: 78% (2) 77% (1) 77.5 or 78 (1) 2(a)(ii) Contribution from each kg of chocolate powder sold from Factory S. 4 Contribution = SP – Unit variable cost (1 mark if no relevant calculation) 9.3 Revenue per kg: = $3.00 (1) 3.1 2.79 Raw materials per kg: = $0.90 3.1 1.55 Labour per kg: = $0.50 3.1 0.62 Transport costs: = $0.20 3.1 Therefore contribution: $3 – $1.60 = $1.40 (4) (if fixed costs included 2.5 / 3.1 = $0.81 then 3 marks) Price $3 (1) Max 1 mark for calculation of 1 or more of following: • Raw material $0.90 • Labour $0.50 • Transport $0.20 TVC $1.60 (2) Contribution $1.40 (4) Contribution 1.40 (3) Revenue 9.3 raw materials 2.79 labour 1.55 transport 0.62 TVC = 4.96 (1) = 4.96 / 3.1 = 1.60 (2) 2(b) Refer to your results in 2(a) and other information. Recommend 12 whether AC should close Factory N. Justify your recommendation. Knowledge Application Analysis Evaluation Level 2 marks 2 marks 4 marks 4 marks 2 2 marks 2 marks 3–4 marks 3–4 marks Good Points well Good use of theory / Good knowledge applied to reasoned argument judgement shown of the case to explain the shown in factors advantages and answer and disadvantages of conclusion. closing factory. 1 1 mark 1 mark 1–2 marks 1–2 marks Knowledge Some Some use of theory / Some shown of application reasoned argument judgement factors to the case to explain the shown in advantages and answer and disadvantages of conclusion. closing factory. 0 No creditable content Note: L1 of AN and EVAL if only use results or other information. Answers may include: Knowledge • Definition of centralisation – bringing all functions together in one place. • General points related to factory closures, such as worker redundancy • Lead time that might be needed to make the change and impact • Knowledge of contribution and breakeven Application • Comparison of figures from Appendix 1 - Unit labour costs lower at Factory N ($0.3 per kg compared to $0.5? per kg - Transport cost per kg is higher at Factory N $0.35 compared to $0.20 - Fixed costs of marketing etc are allocated roughly in proportion to current production levels • Capacity utilisation comparisons 2(b) Factory S: 3.1 × 100 [1] = 77.5% [1] 4 Factory N: 2.2 × 100 [1] = 77.5% [1] 2.5 • Contribution ($ / breakeven units not required) - Factory S: $3 – $1.60 = $1.40 - Factory N: $3 – ($0.9 + $0.3 + $0.35) = $3 – $1.55 = $1.45 • Break-even comparisons: - Factory S; (Break-even output = Fixed costs / contribution per unit = 2 500 000 / 1.4 = 1 785 714 kg) - Factory N; (break-even output = 1 800 000 / 1.45 = 1 241 379 kg) • Will Factory S be able to accommodate all production from Factory N? • Profit comparisons – Factory S $1.84 m Factory N $1.39 m Analysis • Impact on workers, customers and company as a whole - Workers would not easily be able to transfer from Factory N to S due to distance - Efficiency gains may lead to lower prices for customers • Possible reputational damage due to closing Factory N could lead to reduction in demand. Link to AC’s corporate social responsibility – AC believes its ‘fair trade’ is an important ethical marketing advantage • Cost of redundancy payments resulting in short-term strain on AC’s cash flow and liquidity • Impact on production whilst changes are made could disrupt supplies to customers resulting in reduced demand • Implications of loss of contribution from Factory N, which has lower FC and lower break-even Evaluation • Balance of evidence – for or against? • Most important issue e.g. competitive market so need to make efficiency gains for long-term sustainability • Some of Adam’s other directors are against the idea • Future cost rises – faster in Factory S? 2 2 marks 2 marks 3–4 marks 3–4 marks Good Points well Good use of theory Good knowledge applied to / reasoned judgement shown of the case argument to explain shown in factors the advantages and answer and disadvantages of conclusion. converting to a plc 2 3 marks 3 marks 3–4 marks 4–6 marks Good Points well Good use of Some judgement shown in knowledge applied to the theory / reasoned the main body of the shown of factors case argument to answer and an attempt to explain the support conclusion. implications / OR effectiveness / Well supported conclusion / usefulness recommendation focused on the case.

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3 Evaluate the importance of the ethical ‘fair trade’ principle to the 16 success of the marketing strategy for AC’s chocolate powder. Level Knowledge Application Analysis Evaluation 2 marks 2 marks 6 marks 6 marks 2 2 marks 2 marks 4–6 marks 4–6 marks Good Points well Good use of theory Good knowledge applied to / reasoned judgement shown the case argument to explain shown in the likely impact of answer and opportunities and conclusion threats 1 1 mark 1 mark 1–3 marks 1–3 marks Knowledge Some Some use of theory Some shown application to / reasoned judgement the case argument to explain shown in the likely impact of answer and opportunities and conclusion threats 0 No creditable content Note: This question is about fair trade, not business ethics in general, although candidates who focus on ethics in general, such as employee treatment, can get 1 knowledge mark, due to mention of ‘ethical’ in question stem. Answers may include: Knowledge • Fair trade principles; paying farmers a ‘fair’ price and possibly in advance to help with cash flow • Marketing strategy, including budget, objectives, integrated marketing mix • Ethics – moral guidelines that guide business behaviour Application • AC are essentially supplying a raw material / ingredient, reasons why business customers might value fair trade principles, such as the ability to use it on final chocolate products. • Reference to chocolate market becoming more competitive and link to fair trade as competitive advantage • References to quality of chocolate powder • AC produces in a developing country where local companies may be indifferent to fair trade issues 3 Analysis • Development of why fair trade may be important or not – will it attract more customers? Do manufacturers really care? Are consumers willing to pay higher prices for fair trade chocolate products? • Possible impacts on company image and reputation Evaluation • Future use if fair trade is used to market new chocolate products • Judgement as to how important fair trade may be – is quality more important? Not so important in developing country but customers of AC likely to include developed country companies where this is increasingly an important issue. • Price more important as it is an ingredient? 3 7–10 marks Good judgement throughout with well supported conclusion / recommendations focused on the case

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4(a) Refer to Appendix 1. Calculate the impact of a 15% increase in the 5 price of raw materials for Factory S on its operating profit margin in 2019, assuming revenue and all other cost data remains the same. Note: Look for rounding to 2 DP Factory S Mark Operating profit margin Operating profit / sales 1 if no revenue × 100 calculation Sales revenue ($ m) 9.3 Raw materials cost ($ m) 15% of 2.79 = 0.4185 1 = 2.79 + 0.42 = 3.21 2 Labour cost ($ m) 1.55 + Transport cost ($ m) 0.62 + Factory fixed costs ($ m) 2.00 + Allocated fixed costs 0.50 + ($ m) 3.21 3 Total cost 7.88 Operating profit 9.3 – 7.88 = 1.42 4 OPM 1.42 / 9.3 × 100 = 15.27% 5 15.27 4 Current OPM 19.78% 3 19.78 2 Change in OPM 4.51% 5 4.51 4 4(b) Refer to Table 1 and lines (37–43). Calculate AC’s gearing ratio that 3 would result from the project to expand Factory S. Gearing = non-current liabilities / capital employed × 100 (1) OR = NCL / shareholder equity + NCL × 100 (1) New gearing = 21 +7 / 54+8 (8 is forecast addition to capital employed) = 28 / 62 = 45.16% (3) 45.2% (3) 45.16 (2) 45.2 (2) OR = NCL / Shareholder Equity × 100 (1) = 28 / 33 = 84.8% (3) 84.8 (2) Other likely answers with errors: 28 / 53 = 52.8% (2) 21 / 62 = 33.9% (2) Allow rounded figures. Current gearing = 21 / 54 × 100 = 38.88% (1) or 21 / 33 = 63.6% (1) If no formula stated 4(c) Refer to your results from 4(a) and other information. Evaluate whether 12 the Lukwesa family should convert the business into a public limited company. Level Knowledge Application Analysis Evaluation 2 marks 2 marks 4 marks 4 marks 4(c) Analysis • Gearing low but expansion funded by borrowing would potentially increase to over 50% and increase in costs impacting profit • Risk of takeover increased if plc thus Lukwesa family could lose control of the business • As a plc increased tension between shareholders wanting dividends and short term profit v the long term success of AC that Lukwesa family may be more concerned about • Ali Lukwesa ambitious for AC and plc conversion could fund his plans for modernisation. • Borrowing for expansion can result in greater reward for Lukwesa family Evaluation • Different views of family members. Ali Lukwesa more focused on expansion and modernisation – this may conflict with other family members. • Short / long term impact on the family and the business • Which is most important factor to family members? • Reliability of figures?

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5 Evaluate the possible impact on AC of more flexible employment 16 contracts. Level Knowledge Application Analysis Evaluation 2 marks 2 marks 6 marks 6 marks 2 2 marks 2 marks 4–6 marks 4–6 marks Good Points well Good use of theory / Good knowledge applied to reasoned argument judgement shown the case to explain the likely shown in impact of flexible answer and working patterns conclusion 1 1 mark 1 mark 1–3 marks 1–3 marks Knowledge Some Some use of theory / Some shown application reasoned argument judgement to the case to explain the likely shown in impact of flexible answer and working patterns conclusion 0 No creditable content Note: Impact must be on AC. If impact on employees then this should be linked to what it may mean for the business. Knowledge • Meaning of flexible working, short term, zero hours, part-time contracts • Using HR to meet the needs of the business • Allows a business to operate for more hours • Modernisation may mean more automation • General impacts on staff leading to impacts on business, e.g. low motivation due to insecurity Application • Unemployment falling will impact labour supply and ability to recruit employees on flexible contracts • AC production staff are likely to be unskilled – new machinery may need higher skill level • What are labour supply conditions in the area of Factory S? • Redundancies already an issue after centralisation – assuming Factory N closes • Impact on chocolate powder production • Impact on image of AC as an ethical business 5 Analysis • If new machinery requires less skilled workers then recruitment of employees for more flexible working more likely to be possible. (Allow candidate reasoning that higher skilled workers required) • Impacts on AC as a company, such as de-motivated employees reducing productivity • Impact on labour costs – likely to decrease thus making AC more competitive • Flexible contracts may result in higher labour turnover leading to an increase in recruitment costs • More responsive to changing market conditions Evaluation • Depends on nature of employees required e.g. skilled v. unskilled • Depends on the local labour market factors • Depends on effectiveness of HR department • Long / short term impacts Questions 6 and 7 use the following marking grid. Level Knowledge Application Analysis Evaluation 3 marks 3 marks 4 marks 10 marks

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6 Discuss the usefulness of strategic choice techniques for the directors 20 of AC, as they decide between Option A and Option B. Option A – Production Option B – Purchase of luxury chocolates land and farm cocoa beans Capital cost 2 1.5 ($m) Lead time to set 1 3 up project (years) Probability of 70 80 success (%) Estimated 0.8 0.6 annual economic return if successful ($m) Driving forces • Use of own • Secure cocoa bean processed chocolate supply powder • Good transport links • Control over with Factory S marketing of final product Constraining • Lack of expertise in • Lack of expertise in forces chocolate final farming cocoa beans processing and retailing Opportunities • Growing market for • Growing demand for chocolate products in cocoa beans from AC the home country and and other companies worldwide Threats • Competition from • Weather and crop well-known brands disease • Over-supply in market for cocoa beans Knowledge • Meaning of strategic choice as part of strategic management • Strategic choice techniques such as Ansoff Matrix, Decision trees, Force Field Analysis and investment appraisal • Reference to strategic analysis techniques when preparing for choice such as SWOT, PEST, Boston matrix, Porter’s Five Forces, Core competencies and others. • Ansoff encourages management to consider risk of each option 6 Application • Use of the techniques / factors for two options – appendix 3 examples • Ansoff’s matrix – Option A – product development as new products being sold in existing market but also possibly diversification into new markets • Option B – diversification market penetration / market development as secure cocoa bean supplies may enable more sales of chocolate powder to existing and possibly new markets • Option B has higher probability of success. Less risk. • Option A has higher annual economic return – link to shareholder returns • Option A capital cost is $0.5 m greater – link to gearing • Force field analysis – what is the balance between driving and restraining forces? - Both options face restraining force of lack of expertise - Option B will give AC security of supply of cocoa beans link to competitive advantage for AC Analysis • How techniques may be used and the advantages and disadvantages • Better decision making by considering the quantitative aspects of the choices - Use of probabilities in decision trees therefore reducing risk for AC of option choice - Payback gives focus on time to recover investment which is important to business faced with issues of working capital / liquidity - ARR enables AC to choose option with highest return which may be important to shareholders - NPV takes account of the time value of money • The use of techniques to analyse aspects of the options Evaluation • Justification of most useful technique with supporting argument • Effective integration of analysis and choice techniques will be important • Other information that could be useful? • Impact of management objectives and attitudes • Long and short term impacts

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7 Assume AC’s directors choose Option A. Evaluate the importance of 20 business planning to the successful implementation of this strategy. Knowledge • Successful strategic implementation – the process of putting a strategic choice option into action effectively, to the benefit of the business. • Nature of strategic management and implementation, such as long term, irreversible change. • How implementation fits with strategic choice and analysis • Business planning as part of implementation, including mission, corporate objectives and functional business plan sections. Application • This will be a diversification into production of final chocolate products, rather than the existing production of an ingredient or raw material. • How might this fit with AC’s current organisational structure? • How might AC’s mission and objectives change as the move into producing and selling a final product? • Use of business planning and corporate objectives in context, e.g. change from selling chocolate powder to existing manufacturers to selling final product to supermarkets, link with marketing objectives. • Comment on recent changes such as centralisation and this as a further change needing to be managed • The need for a completely new production function and business plan for new chocolate products Analysis • How strategic implementation techniques may be used and their advantages and disadvantages • How setting and updating of new business plan objectives might lead to success, as in high sales of new products • The need for constant updating in order to keep up with changes in the fast growing chocolate market • How resistance to change may come about, e.g. from existing production employees and how this could be overcome Evaluation • Will there need to be a culture change? • Might there be more need now for contingency planning or are risks not significantly different? • What are the main factors that could lead to successful implementation? • Other factors such as external factors that need to be considered.