Question 1

Ferrow Retail’s revenue has been £200m for two years, but profit fell from £20m to £12m. Cost of goods went from £120m to £128m, staff stayed at £40m and rent at £20m. What happened, and what should they do?

Accepted Answer

Flat revenue means the answer is in the costs, and here one line, cost of goods, explains the whole £8m. Structure it as profit equals revenue minus each cost line, and since revenue hasn’t moved, walk the costs one by one. Last year 200 less 120, 40 and 20 left £20m. This year cost of goods is £128m and the other lines are flat, so the whole £8m drop sits in one line and gross margin has slipped from 40% to 36%. Only three things push cost of goods up when sales don’t: suppliers charging more, customers shifting to lower-margin products, or stock going missing. Recommendation: split cost of goods by supplier and category this week, then renegotiate if it is supplier cost and rebalance the range if it is mix. The risk is a price rise landing on customers who already traded down. Next step: a shrinkage count in the five worst stores.

Question 2

Calder Foods wants to launch a chilled porridge pot in the UK. Launch costs £5m and they want it back within three years. Assume 70m people, a £2 pot, 40p of contribution per pot and a 10% share of buyers. Go or no-go?

Accepted Answer

Size the market, turn share into contribution, compare with the £5m: here it is back within months, so go. Structure: size the pots sold, take Calder’s share, turn it into contribution, compare with £5m. Of 70m people, assume one in five buys a chilled breakfast in a typical week, 14m people. One pot a week for 50 weeks is 700m pots, £1.4bn at £2. Calder at 10% sells 70m pots, and at 40p each that is £28m of contribution a year, so the £5m is back in a little over two months. The insight is that the answer is robust: even a 1% share gives £2.8m a year and payback inside two years. Recommendation: go. The risk is that 10% assumes shelf space the big grocers may not give a new line, so the next step is to test that with two retailers before committing the £5m.

Question 3

Halstead Foods sells £100m a year of soup with variable costs at 70% of revenue. Marketing wants a 10% price rise and expects volume to fall 6%. Is it worth doing?

Accepted Answer

Judge a price rise on contribution, not revenue: here it adds £7.6m and volume could fall 25% before it hurts. Structure: contribution before and after, then the volume loss at which the rise stops paying. Today revenue is £100m, variable cost £70m, contribution £30m. After the rise, price is 110% of old and volume 94%, so revenue is 100 times 1.1 times 0.94, which is £103.4m. Variable cost follows volume, not price, so it falls to 70 times 0.94, £65.8m. Contribution is 103.4 less 65.8, £37.6m, up £7.6m, and margin rises from 30% to roughly 36%. Break-even check: contribution per unit goes from 30 to 40 on every 100 of old price, so volume could fall to 75% of today before you are worse off. Recommendation: raise the price. The risk is that 6% is a short-run guess, so the next step is a trial in one region.

Question 4

Overton Digital wants to sell its payroll software in Germany. Build a team: £4m a year for three years, then £3m profit a year. Buy a local rival: £30m for £2m profit a year. Partner with a distributor: no cost, £1.5m a year. Which route?

Accepted Answer

Put each route on one footing, money in against profit out and who owns the customer: partner, then build. Structure: is Germany attractive, can Overton win there, and which route gets in at the best price for the least risk. Then put the three on one footing. Build sinks £12m over three years and returns £3m a year from year four, so the money is back seven years from today, but Overton owns every customer. Buy hands over £30m for £2m a year, fifteen years of profit, so it only works if Overton can double that profit quickly. Partner costs nothing and earns £1.5m a year from day one, but the distributor holds the relationships. Recommendation: partner now to prove demand, with rights to customer data and an option to build or buy later. The risk is the partner becoming the competitor. Next step: find out what the rival’s owners would really accept.

Question 5

Ferrow Retail is weighing a new store: rent £300k, staff £400k and other fixed costs £100k a year. Gross margin is 40% and the average basket is £20. Similar stores serve 2,500 baskets a week. Should it open?

Accepted Answer

Break-even is fixed costs over the margin: £2m of sales, or 2,000 baskets a week against a norm of 2,500. Structure: total the fixed costs, divide by the margin for break-even sales, convert to baskets, compare with a normal store. Fixed costs are 300 plus 400 plus 100, £800k a year. Each £1 of sales leaves 40p to cover them, so break-even sales are 800 divided by 0.4, £2m. At £20 a basket that is 100,000 baskets a year, or 2,000 a week over 50 weeks, roughly 290 a day. A typical Ferrow store does 2,500 a week, so the site clears break-even with a 20% cushion, and the extra 500 baskets at £8 of contribution earn about £4,000 a week, £200k a year. Recommendation: open, provided a footfall count shows the site is typical. The risk is a below-average site, so the next step is a two-week count outside the unit.

Question 6

Bramwell & Co. runs a wine club earning £12 a month per member. Paid ads bring in a member for £60 who stays 12 months. Restaurant partnerships cost £120 a member, who stays 30 months. With £1.2m to spend, where should it go?

Accepted Answer

Compare lifetime contribution net of acquisition cost and payback: partners return £240 a head, ads £84. Structure: for each channel, lifetime contribution per member less the cost to acquire them, then payback and whether the channel can absorb the money. An ad member brings 12 months times £12, £144, less £60, so £84 net, and repays the £60 in five months. A partnership member brings 30 times £12, £360, less £120, so £240 net, with payback in ten months. Put the whole £1.2m into ads and you buy 20,000 members worth £1.68m net; into partnerships, 10,000 members worth £2.4m net. Recommendation: weight the budget to partnerships, since each pound spent returns £2.00 of net contribution against £1.40 from ads. The risk is that there aren’t 10,000 members’ worth of willing restaurants, so the next step is to test whether 30-month retention holds beyond the friendliest venues.

Question 7

Kestrel Components’ line has three steps: machining 100 units an hour, coating 60, assembly 80. Demand is 70 an hour, each unit earns £20 of contribution and the plant runs 4,000 hours a year. A second coating station costs £500k. Buy it?

Accepted Answer

A line runs at its slowest step, so coating at 60 loses £800k a year and the £500k pays back in months. Structure: find the bottleneck, size the demand it turns away, price the fix, then check what constrains next. A line only runs as fast as its slowest step, so output is coating’s 60 an hour, not an average. That leaves 10 an hour unserved, and machining sits at 60 out of 100, 60% utilisation. Lost contribution is 10 units times £20 times 4,000 hours, £800k a year. A second station takes coating to 120, the constraint moves to assembly at 80, above demand, so all 70 an hour ships and the £500k is back in about eight months. Recommendation: buy it, after two weeks checking that coating really runs at 60 rather than losing time to changeovers. The risk is demand growing past 80 and assembly becoming the next wall.

Question 8

Northbay Logistics must cut £5m from a £50m cost base: drivers £25m, fuel £10m, depots £8m, admin £7m. Revenue is £60m at a 30% contribution margin and vans run 90% full. The COO wants to cut 20% of drivers. Your view?

Accepted Answer

Cut the costs that don’t carry revenue: fewer drivers saves £5m on paper but gives back £1.8m and the customers. Structure: separate costs that carry revenue from those that don’t, price the revenue each cut loses, then build the £5m from the safe lines. Cutting a fifth of drivers saves £5m, but with vans 90% full there is only 10% slack, so roughly 10% of deliveries can’t be made: £6m of revenue, £1.8m of contribution at 30%, so the real saving is £3.2m and the customers let down don’t come back. Instead, routing software and telematics usually take 15% off fuel, £1.5m; closing the two weakest of eight depots saves £2m; consolidating the back office finds £1.5m. Recommendation: take the £5m from fuel, depots and admin and leave the drivers alone. The risk is that closing depots lengthens routes and eats the fuel saving, so the next step is a depot-by-depot volume map.

Question 9

Windmere Foods sells 50m pizzas a year at £4 with £2.80 of variable cost each. Its main rival has just cut price 15%. Sales think Windmere will lose 20% of volume if it holds. Match, hold, or something else?

Accepted Answer

Matching halves contribution per pizza for certain, holding loses 20% of volume, so hold unless volume halves. Structure: price each option in contribution, find the volume loss where they cross, then ask what the rival can sustain. Today contribution is 50m times £1.20, £60m. Match and price drops 15% to £3.40, so contribution per pizza falls to 60p; even with volume intact that is 50m times 60p, £30m, a certain £30m loss. Hold and lose 20% of volume and it is 40m times £1.20, £48m, a £12m loss. Holding is only worse than matching if volume falls by more than half, since 25m times £1.20 is £30m. Recommendation: hold the shelf price and answer with targeted promotions on the overlapping lines, watching share weekly. The risk is a rival with a real cost advantage, so the next step is to work out whether it can afford this beyond a season.

Question 10

Marlstone Capital can buy Talbrook Industries at 9x its £50m EBITDA, funding half with debt. Management plans £75m of EBITDA in five years and the business will repay £100m of debt over the hold. Marlstone wants 2.5x its money. Buy?

Accepted Answer

At 9x with no multiple gain the plan returns 2.4x, so either the £75m must be proven or the price must fall. Structure: entry, the three ways equity grows (earnings, debt paydown, multiple), exit, then stress the plan. Entry value is 9 times 50, £450m: £225m of debt and £225m of equity. At exit, £75m at the same 9x is £675m; debt has fallen from 225 to £125m, so equity is £550m. That is 550 over 225, about 2.4x, roughly 19% a year, just under the hurdle with everything going right. If EBITDA only reaches £60m, exit is £540m, equity £415m, the return 1.8x. Recommendation: do not pay 9x on management’s plan; bid around 8x, where entry equity is £200m and the same plan exits at 8 times 75, £600m, less £100m of debt, so 500 over 200, about 2.5x. The risk is buyers paying less than 9x in five years, and the next step is to rebuild the £75m customer by customer.

Question 11

Halverson Industries will pay a £150m premium for Kestrel Components (revenue £200m, EBIT £20m). The board deck claims £40m of synergies: £15m of cost savings and £25m of extra revenue. Plausible, and is the premium justified?

Accepted Answer

Test cost and revenue synergies separately, turn revenue into margin, haircut both: about £14m, not £40m. Structure: split synergies into cost and revenue, test each against what deals usually deliver, haircut, capitalise, compare with the premium. Kestrel’s cost base is 200 less 20, £180m, so £15m is over 8% of it, when combining overlapping businesses typically finds 3–5% and delivers about two-thirds of plan, so call it £10m. The £25m of revenue is not profit: at a 30% incremental margin it is £7.5m, and cross-selling plans routinely land at half, so £4m. Credible synergies are about £14m a year, worth £140m at 10x against a £150m premium. Recommendation: the premium is not justified on synergies; cut the offer or pay for revenue synergies only through an earn-out. The risk is one-off integration costs, usually a year of cost savings, and the next step is a site-by-site build of the £10m.

Question 12

Meridian Health has 6,000 people waiting for cataract surgery. It does 500 a month and receives 500 referrals a month. The target is a three-month wait, the spare budget is £1m and outsourcing costs £600 an operation. What is your plan?

Accepted Answer

Set the objective first, a 1,500-person list within a year, then fix throughput before buying capacity. Structure: state the objective, size the gap, list levers from cheapest to dearest, check the budget last. The goal is not to spend £1m but to get the list to three months of referrals, 1,500 people, within a year without lowering quality. The list sits at 6,000 because 500 in equals 500 out, a twelve-month wait, so 4,500 must come off. Outsourcing all of them costs £2.7m, nearly three times the budget, so look inside first: theatres do four cataracts a session where good units do six, and lifting output to 750 a month adds 3,000 over the year for little money. That leaves 1,500 to outsource at £600, £900k, inside the budget. Recommendation: fix throughput, buy the remainder, and validate the list first, since about 10% typically no longer need surgery. The risk is throughput gains arriving late; next step, a session-by-session count of theatre time used.

Practice Cases