• 40 Marks

SCS – L3 – Q8 – Competitive forces

Assess the competitive forces affecting Transway Ltd in the haulage industry.

Case Study: Transway Limited
Background
Mr. Kofi Mensah is the Managing Director of Transway Ltd, a small haulage contracting company, which he founded 15 years ago. Originally, Mr. Mensah was a heavy goods vehicle driver himself, working for other contractors, but he had the intent of establishing his own business. Having received his pension, he acquired an articulator truck and began to work from home. Over time the business expanded and now Transway Ltd operates a fleet of 15 heavy goods vehicles. Five of the current fleet of trucks were acquired in the last financial year, replacing older units which were becoming too expensive to maintain. The Company now employs 20 full-time and a varying number of part-time driver mates. The part-time staff work as and when required.

Mr. Mensah acquired two plots of land six years ago and built a house on it, which he and his family occupy. In addition, he built a garage with facilities for minor servicing and repairs on the same site. Living on site has enabled him to offer a 24-hour service to clients. Consequently, movement of the trucks in and out of the site occurs at all times of day and night. There have been objections raised by the residents in the neighborhood to disturbance and the local Radio Stations has at various times reflected this criticism.

In addition to the haulage business, the company also obtained a license and established a driving school. This had proved to be a successful diversification as there is a regular stream of customers. This training takes place mostly in Transway Ltd.’s own garage facilities. It became clear to Mr. Mensah that the land on which the garage facility is built was inadequate for the needs of his growing business.

Acquisition of land
One year ago, Mr. Mensah entered into negotiations to lease some land which would be more than satisfactory for the company’s operations. The land is situated on an industrial estate five kilometers from the existing facility. In addition, there is room to build a workshop facility which would be adequate for the needs of the fleet. Following agreement of a lease arrangement, which was concluded just before the completion of the last financial year, Transway Ltd occupied the land on which there were no buildings erected, or utilities supplied. Since taking possession of the land, a large security fence has been erected and a small portable cabin placed on site. Water and electricity services have been supplied, and negotiations are taking place for the installation of a large diesel tank adequate to service other vehicles besides those of Transway Ltd.

Accounting
Mr. Mensah recruited Mrs. Ama Nkrumah, a part-time accountant, four years ago. Prior to Mrs. Nkrumah’s arrival, Transway Ltd applied a policy of paying all invoices immediately on receiving them. As debtors were frequently taking over and above the credit period (30 days) allowed, Transway Ltd suffered a cash flow shortage, which resulted in a large bank overdraft.

Mrs. Nkrumah introduced some basic financial accounting procedures into the company. In addition to exercising some control on Transway Ltd expenditure, Mrs. Nkrumah has reduced the debtors’ collection period to about half its former level. Creditors are now paid when the invoices fall due rather than immediately upon their receipt. Such control had been lacking prior to her arrival at the company.

The company faces strong competition for haulage contract work. Typically, haulage contractors operate on a low-margin basis and smaller companies often sub-contract from large-scale haulers. Transway Ltd carries haulage for a variety of customers as well as undertaking some subcontracting. Much of the haulage work the company carries out is seasonal.

One of its top clients, Prime Ltd, recently appointed a new transport manager. The new Manager of Prime Ltd. has begun to employ other haulers besides Transway Ltd. Over the last two months, the haulage work Transway Ltd has received from Prime Ltd has reduced by about a third.

In order to address the competition, Transway Ltd recently diversified into the sale of hydraulic oil. Sales have been running at a steady rate of 50 gallons each month for some time, but the company is dissatisfied with this level of sales and from next month (June), the company intends to advertise actively. This is expected to increase sales by 10 gallons per month from June to October inclusive after which it will remain steady at 100 gallons per month.

Each gallon costs GH¢1,500 and sells for GH¢2,000. All purchases are on one month’s credit and sales on two month’s credit. The company feels that, to give a good service to customers, it must have sufficient inventory at the end of each month to meet the whole of the following month’s sales.

Additional non-current assets (a delivery van to help cope with the increased sales) will be bought and paid for in July 2016 at a cost of GH¢15,000. Corporate tax of GH¢25,000 is due for payment on 1st August 2016. The balance of cash at 31st May 2016 is planned to be GH¢30,000.

Operating costs will rise to cash payments totaling GH¢10,000 each month. The advertising will cost GH¢20,000 in June and GH¢10,000 for each month from July to September inclusive, payable one month in arrears.

The accountant has not yet had a cash budget prepared for the rest of the year, but she feels that the sales expansion plans are likely to lead to cash flow problems. Suggestions have been made that, if her fears are justified, it might be possible to overcome the problem by increasing the creditor payment period to two months and buying inventory as it is used (i.e. zero inventory at month ends).

Required:
(a) Assess the nature of competitive forces of Transway Ltd.

(b) Present a SWOT Analysis for Transway Ltd.

(c) Advise Mr. Mensah on the strategic management accounting information which should be provided to assist future decision making and cost control.

(d) Prepare a cash budget for Transway Ltd for the six months ending 30th November 2016, showing the planned cash position at the end of each month; on the basis of the original planned credit and inventory holding periods.

(e) Redraft your cash budget to reflect the suggested alterations to these planned periods.

(f) Suggest what other aspects Transway Ltd should consider solving the expected cash flow problem, should the suggested solution be unachievable.

(a)

      The five competitive forces related to the business of Transway Ltd are:

  1. Rivalry amongst existing competitors
    Transway Ltd faces strong competition for haulage contract work and it appears that there are several firms operating in the market. Profit margins are low, which indicates that work is undertaken at low prices. A major customer, Prime Ltd, uses other haulers, which suggests that competition for business is fierce. Transway Ltd is facing strong competition from existing competitors. The strong nature of competition is also exacerbated by low switching costs of customers.
  2. Threat of a new market entrant
    The main constraints on setting up a road haulage business will be obtaining a license and having sufficient capital to purchase or lease a tractor unit and trailer. Finance for such an operation will be readily available. The only other significant entry barrier might be low profit margins. It appears that, overall, the road haulage industry has few major entry barriers so this will always be a threat to established business such as Transway Ltd.
    Note: Any of the points under barriers to entry that is well explained may be considered – capital requirements, low switching costs of customers, degree of differentiation, economies of scale, knowledge requirements, etc.
  3. The power of customers
    The customers of Transway Ltd will be primary organizations that employ skilled people who know the road haulage industry and how to negotiate contracts. As there are many competing businesses in the trade, this puts the customers in a strong bargaining position. This is shown by the fact that Transway Ltd.’s major customer Prime is using other haulers and is, no doubt, assessing its supplier’s prices and performance. The power of customers in the market is strong; this poses a serious threat to Transway Ltd.
    Note: Other points which may be considered are switching costs, concentration risks (demand), number of competing firms, negotiating skills, profit margin of customers.
  4. Power of suppliers
    The main suppliers to Transway Ltd will provide vehicles, other plant and equipment, formal services and labor. It is unlikely that any supplier is in a strong monopolistic situation, except possibly providers of capital. Transway Ltd is in an established position and while it remains profitable will probably be able to obtain reasonable amounts of capital. The power of suppliers does not appear to be very strong.
  5. The threat of a substitute product
    The main substitute for road haulage services is freight carried by the railway industry. The current dire state of this industry means that rail freight cannot be considered a serious threat to Transway Ltd.
    Note: Other points which may be considered are switching costs, concentration risks (demand), number of competing firms, negotiating skills, profit margin of customers.

      Overall, Transway Ltd.’s competitive position is not strong as it faces a number of competitive threats.                                                                                                                                                                                                                                                                                            (b)

      SWOT Analysis for Transway Ltd.

      Strengths

  • Transway Ltd is an established business with an experienced management team.
  • Mensah lives on site enabling Transway Ltd to offer a 24-hour service to customers.
  • The company acquired a lease on a new site that has quite a lot of potential.
  • The company has diversified into truck driver training which reduced dependence on road haulage for income.
  • Replacement of old trucks and other equipment. This increases the efficiency of operations.

         Weaknesses

  • Transway Ltd.’s existing site is too small, so it will have to locate to the new site that requires more capital and will disrupt business operations.
  • Transway Ltd currently does not have an effective management accounting system, which means Transway Ltd’s managers make decisions without having sufficient information.
  • The company is too dependent on Prime Ltd, which accounts for the majority of its business.

          Opportunities

  • The enlarged premises will enable the company to attract new business and offer new services e.g. overnight trailer parking and a vehicle repair service.
  • Transway Ltd should be able to establish stronger links with existing customers, which should help to retain their business.
  • Location of land/business premises.

           Threats

  • The most serious threat facing Transway Ltd is the loss of Prime Ltd.’s custom. In the last two months one third of this business has already been lost.
  • There are a large number of competitors working on low profit margins and this forces prices down. There appears to be little prospect of Transway Ltd being able to increase its prices.
  • Local residents are opposing operations from the current site and the company is receiving bad publicity in the local press.                                                                                                                                                                                                                                    (c)

    Advice to Mr. Mensah

    Competitor Information
    Information about competitors can be very useful as it provides a benchmark against which Transway Ltd.’s performance can be compared. Budgeting will provide information to forecast patterns and trends. This will be very useful when making decisions and setting objectives and targets e.g. market growth rates.

    Financial information

    Investment appraisal
    Information can be provided to evaluate each capital investment project undertaken by Transway Ltd. This will be very useful when developing the new site.

    Variance analysis
    This is a very important management accounting control tool. The expected costs and revenues will be forecast and actual costs and revenues compared with them. Variances can then be identified and investigated to find their cause. This will establish some of Transway Ltd.’s strengths and weaknesses.

    Customer account profitability
    Costs incurred by Transway Ltd can be related to each customer and the profit generated by each customer calculated. This will be very important information used by Transway Ltd.’s managers to make decisions relating to each customer e.g. Prime Ltd.

    Quoting prices
    Most of Transway Ltd.’s customers will be other organizations. They will expect a price to be agreed before awarding a contract to a supplier. Management accounting can supply the information for quoting competitive and realistic prices when negotiating with customers.                                                                                                                                                                                                                                                                                                                                                                                                           (d)

    Transway Ltd – Cash budget for six months ending November 2016

    June GH¢’000 July GH¢’000 Aug GH¢’000 Sep GH¢’000 Oct GH¢’000 Nov GH¢’000
    Receipts
    Accounts Receivable 100 100 120 140 160 180
    Payments
    Accounts Payable 90 105 120 135 150 150
    Van 15
    Corporate tax 25
    Operating costs 10 10 10 10 10 10
    Advertising 20 10 10 10
    Total Payments 100 150 155 155 170 160
    Net Cash Flow 0 (50) (45) (15) (10) 20
    Opening Cash Balance 30 30 (20) (65) (80) (90)
    Ending Cash Balance 30 (20) (65) (80) (90) (70)

    WORKINGS

    Apr May June July Aug Sep Oct Nov
    Sales (Gallons) 50 50 60 70 80 90 100 100
    Sales (Value) @ 2 100 100 120 140 160 180
    Purchases (Gallons) 60 70 80 90 100 100 100
    Purchases (Value) @ 1.5 90 105 120 135 150 150

        (e)

Transway Ltd – Cash budget for six months ending October 2016 (with altered credit and inventory periods)

May GH¢’000 June GH¢’000 July GH¢’000 Aug GH¢’000 Sep GH¢’000 Oct GH¢’000
Receipts
Accounts Receivable 100 100 120 140 160 180
Payments
Accounts Payable 75 75 90 105 120 135
Van 15
Corporate tax 25
Operating costs 10 10 10 10 10 10
Advertising 20 10 10 10
Total Payments 85 120 135 125 140 145
Net Cash Flow 15 (20) (15) 15 20 35
Opening Cash Balance 30 45 25 10 25 45
Ending Cash Balance 45 25 10 25 45 80

(f)

Suggested ways of improving the cash situation of Transway Ltd

  • Raising new capital
  • Ploughing back profits
  • Raising new loans
  • Leasing or renting non-current assets instead of buying them
  • Raising prices
  • Selling for cash
  • Asking for an extended period from creditors
  • Cutting down costs
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