TW8 BUDGETING AND VARIANCE ANALYSIS QUESTION - FORECASTING BUSINESS SCHOOL 1 Bowman Entertainment plc and KFun Limited Bowman Entertainment plc (BEP) is a UK company which designs, distributes and sells a range of branded merchandise such as soft toys, dolls, childrens games and related accessories under licence. In 2005 BEP negotiated a deal with KFun Limited, a TV, cable and online channel specialising in childrens TV programming. Under the deal, BEP would have exclusive rights to sell merchandise, books and toy products for each of KFuns TV programmes. The deal was very successful and between 2005 and 2008 BEPs sales rose rapidly. However, in November 2008, signs of trouble appeared. KFun had expanded too fast and taken on too many loans. Now it was struggling to meet payments. KFuns Board confirmed that without a buyer or new investor, its banks would foreclose and the business would collapse. BEP was holding over 2.4m stock related to KFun products, and most of its sales depended on KFun programmes, so it was keen to find a solution. We just have to protect those KFun sales BEPs CEO told his Board.What about if we put in a bid to buy KFun? Im sure theres nothing wrong with the company itself, just that they took on too many loans. If we could buy that business cheaply now, it could be a great investment for the future. Shown overleaf are some forecasts for 2009-2013 prepared by KFun for its banks, trying to persuade them to continue supporting the business. These have been provided together with actual results for 2007 and the original budget and actual results for 2008, as well as notes on the key assumptions in the forecasts. BEPs financial controller has already prepared a template to analyse some of the variances between the budget and actual results for 2008. Required: (i) Complete the template provided to analyse the relationships between the actual and budget figures for KFun over the period 2007-2013. (ii) Use your interpretation of the variances between actual and budget results for 2008, together with emerging trends in actual results, to comment on any vulnerabilities in KFuns profit forecasts for 2009-2013. TW8 BUDGETING AND VARIANCE ANALYSIS QUESTION - FORECASTING BUSINESS SCHOOL 1 Key assumptions: KFun has two types of sales: advertising and content. Content sales are expected to increase, but the economic downturn will cause a serious decline in advertising sales during 2009 and 2010, only recovering in 2011. Employee numbers will be reduced if sales fall. Greater efficiencies will be obtained from remaining workers. High capital expenditure in 2007 and 2008 will secure the programme pipeline without major capital expenditure required until 2013. Repayments on the existing KFun loan will continue as per original agreement with bank (currently pressing for faster return of cash). K-Fun summary financials Profit and loss account 2007 2008 2008 2009 2010 2011 2012 2013 Actual Budget Actual Forecast Forecast Forecast Forecast Forecast 000 000 000 000 000 000 000 000 Revenue Advertising 15,576 18,691 17,435 14,450 16,020 19,203 22,908 25,779 Rebroadcast/content sales 6,580 6,345 6,900 7,050 7,200 7,500 7,800 8,000 Total revenue 22,156 25,036 24,335 21,500 23,220 26,703 30,708 33,779 Employee costs -11,879 -13,985 -14,290 -12,900 -13,254 -15,093 -17,105 -18,286 Distribution costs -4,431 -4,256 -3,894 -3,655 -3,947 -4,540 -5,220 -5,742 Other overheads inc. depreciation -3,951 -4,545 -4,154 -3,445 -3,719 -4,320 -5,183 -6,166 Profit before interest and tax 1,895 2,250 1,997 1,500 2,300 2,750 3,200 3,584 Interest -393 -644 -644 -595 -542 -486 -430 -374 Profit before tax 1,502 1,606 1,353 905 1,758 2,264 2,770 3,210 Average number of staff 238 280 275 250 265 275 290 310 Proforma cash flows 2007 2008 2008 2009 2010 2011 2012 2013 Actual Budget Actual Forecast Forecast Forecast Forecast Forecast 000 000 000 000 000 000 000 000 Profit before interest and tax 1,895 2,250 1,997 1,500 2,300 2,750 3,200 3,584 Add back: Amortisation and depreciation 550 550 550 530 560 580 600 580 Loss on sale of assets 100 Interest paid -393 -644 -644 -595 -542 -486 -430 -374 Investment in intangible assets (and capex) -970 -1,300 -1,900 -350 -900 -600 -750 -1,350 New bond - repayable in 2017 5,000 0 0 Repayment of existing KFun loans -580 -580 -660 -650 -700 -750 -750 -750 Net cash flows 5,502 276 -557 435 718 1,494 1,870 1,690 TW8 BUDGETING AND VARIANCE ANALYSIS QUESTION - FORECASTING BUSINESS SCHOOL 2 TEMPLATE TO ANALYSE VARIANCES AND TRENDS Profit and loss account 2007 2008 2008 VARIANCE 2009 2010 2011 2012 2013 Actual Budget Actual Forecast Forecast Forecast Forecast Forecast 000 000 000 000 % 000 000 000 000 000 Revenue Advertising 15,576 18,691 17,435 14,450 16,020 19,203 22,908 25,779 Year on year growth % Rebroadcast/content sales 6,580 6,345 6,900 7,050 7,200 7,500 7,800 8,000 Year on year growth% Total revenue 22,156 25,036 24,335 21,500 23,220 26,703 30,708 33,779 Employee costs -11,879 -13,985 -14,290 -12,900 -13,254 -15,093 -17,105 -18,286 % of revenue Distribution costs -4,431 -4,256 -3,894 -3,655 -3,947 -4,540 -5,220 -5,742 % of revenue Other overheads inc. depreciation -3,951 -4,545 -4,154 -3,445 -3,719 -4,320 -5,183 -6,166 % of revenue Profit before interest and tax 1,895 2,250 1,997 1,500 2,300 2,750 3,200 3,584 Interest -393 -644 -644 -595 -542 -486 -430 -374 Profit before tax 1,502 1,606 1,353 905 1,758 2,264 2,770 3,210 Average number of staff 238 280 275 250 265 275 290 310 Sales per head (000) Employee cost per head (000)