Business Performance
Assessment 3 – Case study
Background information
Donnys Boutique Pet Stores (Donnys) was established in 2012 as a specialist retailer of luxury pet foods and goods. Donnys was founded by Thomas and Rebecca O’Donnell as a private company in Australia. Thomas and Rebecca each own 50% of the share capital. From its early days, Donnys sought to differentiate itself from its competitors by offering boutique brands to dog and cat owners who love to spoil their pets.
Starting with two stores in high-income suburbs of Sydney, Donnys grew steadily and currently has twelve stores in Australian cities.
Mission statement
Donnys is a boutique, customer-focused business. Its mission is as follows:
Where your pets always come first – a total experience for dogs, cats and owners, Donnys is proud to be at the forefront of pet nutrition, pet fashion, pet accessories and pet grooming.
Strategic objectives
Donnys has grown to be a strong brand, and its stores receive a high proportion of repeat business from loyal, local customers. However. Thomas and Rebecca feel the growth in revenue from existing stores has reached saturation point and they are looking for ways to expand the business. While Donnys’ stores have been profitable to date, despite high rental costs in premium locations, the O’Donnells are aware that the ‘bricks and mortar’ retail industry is declining overall. They have abandoned plans to expand their retail network into regional Australia and have accepted that growth will most likely require investment in an online sales channel. This will allow them to reach regional Australia, as well as current customers who appreciate the convenience of online purchasing.
The O’Donnells have recently met with an IT consultant and been quoted $800,000 to develop and launch a full
e-c ommerce strategy. With limited IT capability within the business to date, Thomas and Rebecca are nervous about investing in this strategy, although they know the existing business model may not be viable in the long term.
Acquisition opportunity
OllieandOscar.com is an online luxury pet goods retailer founded in Perth by Amalia Rompedo in 2016. The business is registered as a company, Ollie and Oscar Pty Ltd (Ollie) wholly owned by Amalia. Ollie is well known for its boutique pet products, including a number of exclusive brands. It offers a wide range of cat and dog products including:
• dog and cat food, toys, accessories, beds
• an exclusive range of cat and dog collars and bandanas
• an exclusive range of high-protein, low-calorie dog biscuits.
To date, 95% of Ollie’s sales have been in Australia and 5% in New Zealand. Amalia had been planning to pursue further growth in New Zealand, but due to the declining health of her elderly parents, she is likely going to have to return to her home country of Spain, where they live. She is reluctantly looking to sell the business and has engaged a broker, Adrian Tan, to find a buyer.
Adrian has approached Thomas and Rebecca O’Donnell with the opportunity and provided an information memorandum.
Your role
Thomas and Rebecca are interested in learning more about Ollie and have approached their accounting firm, CBD Associates, for Helpance.
You are a Chartered Accountant working for CBD Associates. Your manager has sent you an email (below) asking you to evaluate the opportunity for Donnys to acquire 100% of the share capital in Ollie and prepare a report for Thomas and Rebecca with your initial findings.
After you receive this request from your manager, Amalia contacts CBD Associates as she would like to invite the person working on the valuation out to dinner so she can discuss her situation around her need to return to Spain. She indicates that she is facing significant medical costs from the deteriorating health of her parents. She is very interested to discover how keen the buyer is to purchase as she wishes to ensure that she obtains the best price possible for her business.
Your manager’s email
To: You
From: AManager@CBDAssociates.com.au
Subject: Ollie and Oscar Pty Ltd
Adrian Tan (Amalia’s broker) has provided us with an information memorandum, which includes a market-based valuation of $2.9 million based on earnings before interest, taxes, depreciation, and amortisation (EBITDA multiple). Please comment on Adrian’s valuation approach and compare it with an income-based approach using forecasted discounted free cash flow (DCF) over the next five years and the assumptions below.
Thomas and Rebecca need advice on how to fund the acquisition. Please consider that aspect based on the asking price of $2.9 million, as well as your income-based valuation. The relevant IBIS reports may provide more information about industry prospects and key players.
Valuation assumptions
1. The following are based on Ollie’s performance to date and industry trends over a five-year period:
(a) Sales growth of 7.9% per year in line with industry (see IBIS report).
(b) Gross margin percentage maintained at 2021 rate.
(c) Salaries and wages to increase by 1% in year 1 and in year 2 and by 1.5% per year thereafter.
(d) Rent is expected to increase at a rate of 1.5% per year in line with inflation.
(e) Marketing spending is expected to be 11% of revenue in years 1 and 2, decreasing to 9% thereafter.
(f) General and administrative expenses will increase to 5% of revenue per year.
(g) The applicable tax rate is 26%.
(h) Property, plant, and equipment (Ollie’s website and related technology) is depreciated on a diminishing value basis at 20% per annum.
(i) Working capital – based on all current assets less all current liabilities, as a percentage of gross profit – will be maintained at the 2021 level.
2. Donnys weighted average cost of capital (WACC) is 10%.
3. The terminal value growth rate is 2% beyond year 5.
4. Assume cashflows occur evenly throughout the year. Additional things to note:
• Amalia hasn’t been paying herself a salary. So, you’ll need to factor in $75,000 per year for an Online Sales Manager in year one and adjust each subsequent year as per 1.c) above.
• Capital expenditure on upgrades to the IT infrastructure is expected to be $400,000 in year 1, $250,000 in year 4 and $150,000 in year 5. (***Those are fixed assets, therefore, need to depreciate, you must refer how depreciation is calculated in the sample worksheet. In there, deprication is calculated by just average the existing P & E and new capex together by dividing by 2 )
• Thomas and Rebecca recognise the businesses would overlap and understand that Ollie’s growth will come at the expense of Donnys’ retail sales. They estimate Donnys would lose approximately $320,000 in sales in the first year as a result of the acquisition. (This is a potential risk that you can use for Q7)
(Regards,
AM
Required
You need to submit three (3) files for this assessment:
• An email, in a word document, identifying and analysing any ethical issues identified in the scenario (preferred format is Microsoft Word (DOC/DOCX). (Please refer the question 1 below)
• A 2000-word report including an executive summary (preferred format is Microsoft Word (DOC/DOCX).
(Questions to answer and word limits are mentioned below)
• A spreadsheet file (preferred format is Microsoft Excel (XLS/XLSX) containing: (This is the answer for question 2 below)
– workings for calculating the business valuations using DCF (You must refer the attached sample work sheet in order to understand how to do this. You must use formulas to show where you got the numbers like In the sample file.)
– supporting calculations for Donnys capacity to fund the acquisition
– sensitivity analysis.
The content of the three (3) files is detailed below.
Questions:
Ethics
1. Prepare an email to your manager outlining how you plan to respond to Amalia’s invitation by identifying and analysing potential ethical issues of attending such a meeting. (200 words)
(you need to identify two ethical issues from 05 fundamental ethics and analyze them from the Amelia’s invitation)
Report
Prepare a report for Thomas and Rebecca O’Donnell, assessing the opportunity for Donnys Boutique Pet Stores to acquire Ollie and Oscar Pty Ltd. The report will include an executive summary and address the items listed below. It should be no more than 2,000 words (excluding references and the valuation model).
Executive summary
1. An executive summary.(200 words)
(you need to provides comprehensive, clear and logical executive summary covering four key aspects
4 key aspects are:
**Valuation ** Funding ** Risk ** **Recommendations
Valuation
2. Evaluate the appropriateness of the market-based valuation in the information memorandum.
(300 words- 75 words for each Assessment)
You must write 2 appropriate and 2 inappropriate. (I have given 2 inappropriate examples below.)
Appropriate
I.
II.
Inappropriate
I. Selected benchmarks are not appropriate then Use of multiplier is not appropite. Look at the market based valuation in Appendix 1 in this document). Eg Greencross is a huge company compare to Olly. And Pet stock is very small..
II. Comparison of companies. Eg not all the companies are online based.
3. Calculate a business valuation of Ollie and Oscar Pty Ltd using an income-based valuation method and the assumptions in the email from the manager.
• A spreadsheet file (preferred format is Microsoft Excel (XLS/XLSX) containing:
– workings for calculating the business valuations using DCF (You must refer the attached sample work sheet in order to understand how to do this. You must use formulas to show where you got the numbers like In the sample file.)
– supporting calculations for Donnys capacity to fund the acquisition
– sensitivity analysis.
–
4. Compare the market-based valuation with the income-based valuation and justify a reasonable valuation range.
(300 words – 75 words for each justification)
Provides comprehensive, clear and logical comparison of the market-based approach (2.9M) compared to the income-based valuation for Ollie and Oscar Ltd covering four key points. You must ensure the guidance on valuation range is clear and highly convincing. Justification aligns directly with the analysis.
I.
II.
III.
IV.
Funding
5. Evaluate the capacity of O’Donnells to fund the acquisition via debt. (150 words)
You need to make 4 clear, logical and comprehensive points about the O’Donnells capacity to fund the acquisition of Ollie’s by using debt. Your calculations should support a certain position in regards to the D/R ratio. This would be assumed knowledge. You have your acquisition purchase price you need to work out whether Donny’s can finance the whole price by using debt – when they have covenants that need to be kept with the bank and loans falling due.
6. Identify and critique one (1) other funding method available to the O’Donnells. (150 words)
Identifies alternative funding with highly comprehensive critique of alternative funding source.
Risk
7. Using the risk profile and risk assessment matrix, choose four business risks that may impact your valuation. For each risk, calculate a revised valuation assuming the risk occurs and evaluate its impact on your valuation.
(400 words – 100 words for each risk and its Assessment of the impact to the valuation)
(to answer to this question, there should be one revised calculation in the excel sheet and then Provides comprehensive, clear and logical Assessment of impact on the valuation of the four chosen business risks. You must refer to the risk register and risk matrix to the bottom of this document.
I will give you 3 risk, you add another risk. Remember you should adjust the impact of these four risk variables in the revised calculations in the excel sheet. (highlight the four risk variables in the worksheet.)
Risk 1 – Amelia’s Dependency (see the risk matrix). leaving can cause capital expenditure requirements as might have to hire someone for more higher salary.
Risk 2 – loss of sales and cannibalization of sale from each other (320,000 sales loss)
Risk 3 – Infrastructure cost increase due to new purchase (financial risk – see risk matrix for evaluate the impact of this risk)
Risk 4 –
You must provides comprehensive, clear and logical Assessment of impact on the valuation for each four risks above.
8. Using a data table, evaluate the impact on your original valuation of a 1% unfavourable movement in both the growth rate in the terminal value and in the WACC (separately) and provide appropriate brief commentary.
(100 words – 50 words each for brief commentary for terminal value and WACC movements)
(Once you done the initial calculation, you can only change the % of terminal value and WACC. So other number should change accordingly when changing terminal value and WACC as numbers must be formulated and linked. So copy the original data into new tab and show the changes when terminal value is at 1% and WACC is at 9%)
Recommendation
9. Recommend how the O’Donnells should proceed. (200 words)
Other than calculations, you must refer attached IBIS reports to support your answer.
Appendix 1
Extracts from the information memorandum The opportunity
Amalia is seeking a sale price of $2.9 million for 100% of the shares in Ollie and Oscar Pty Ltd.
The business has seen significant growth in recent years and is well-positioned to take advantage of growth in the online pet retail industry.
Ollie and Oscar Pty Ltd state-of-the-art e-commerce site currently offers 3,000 products. The online infrastructure has capacity for significant growth, but this will require capital expenditure in the near future.
Purchasing Ollie and Oscar Pty Ltd gives access to a profitable established online business, as well as intellectual property relating to its exclusive brands.
Market-based valuation
A valuation has been prepared using a market-based approach as follows:
a. Recent small business sales we have brokered have yielded on average a multiple of 2.7 of sales price to EBITDA.
b. According to the IBIS report for Greencross Pty Limited (owner of Petbarn stores in Australia and Animates stores in New Zealand), Greencross is trading at an EBITDA multiple of 6.9.
This produces a valuation range of $1.6 million to $4.1 million, and a mid-point of $2.9 million.
Small business Ollie (mid point) Greencross
Ollies 2021 EBITDA ($) 596,271 596,271 596,271
Multiple 2.7 4.8 6.9
Market value ($) 1,609,932 2,862,101 4,114,270
c. Recent small business sales*
Recent sales – small business
Business
Annual revenue $
EBITDA $
Sales price $
Multiple
Type
Sage Candle Ltd (online) 1,956,004 90,000 295,000 3.3 Online
Terrys T-shirt Printing Pty Ltd 650,000 35,000 100,000 2.9 Online
Auckland Book Stores Ltd (online) 2,205,600 60,000 198,000 3.3 Retail
Daisys Dog Grooming Pty Ltd 200,000 30,000 60,000 2.0 Service
EMI Merchandise Ltd 4,320,875 750,000 1,500,000 2.0 Online
Average
2.7
*The information in this table is fictitious.
d. Greencross Pty Ltd
Comparable industry – Greencross (Petbarn and Animates stores)
Greencross valuation
2019 equity value $ Million
506
Less debt (15)
Enterprise value 491
2019 EBITDA 71
EBITDA multiple 6.9
(Source: IbisWorld 2022, Greencross Pty Limited – Australian Company Profile, accessed 15 February 2022,
https://www.ibisworld.com/au/company/greencross-pty-limited/413475/
Appendix 2
Ollie and Oscar Pty Ltd: 2021 financial statements
Year ended 30 June 2021
Statement of profit and loss A$
Revenue
2,965,580
Cost of goods sold (1,579,358)
Gross profit 1,386,222
Expenses
Salaries and wages
(185,000)
Rent (120,000)
Marketing (350,875)
General & admin (134,076)
Total expenses (789,951)
EBITDA 596,271
Depreciation (136,000)
EBIT 460,271
Interest 0
NPBT 460,271
Income tax (128,876)
NPAT 331,395
As at 30 June 2021
Statement of financial position A$
Current assets
Cash 90,800
Receivables 205
Inventories 593,116
Other 15,000
Total current assets 699,121
Non-current assets
Plant and equipment 475,000
Other 10,000
Intangibles 400,000
Total Non-current assets 885,000
Total assets 1,584,121
Current liabilities
Payables 95,688
Other 1,589
Total current liabilities 97,277
Total liabilities 97,277
Net assets 1,486,844
Equity
Contributed equity 10,000
Retained earnings 1,476,844
Total equity 1,486,844
Appendix 3
Risk profile
The following is an extract from Ollie’s risk register. Below the table, these risks have been plotted on a risk matrix.
Risk category Explanation
Strategic risk
• Retail environment and general market conditions
• Key role dependency on Amalia a. Ollie’s products are discretionary and therefore sensitive to consumer sentiment and retail market conditions.
b. Amalia is the founder and CEO and has developed Ollie’s IT infrastructure.
Cybersecurity risks
Reliance on online market – Ollie operates online only. c. Ollie collects customer data for every sale. The protection of customer and corporate data is critical.
d. Downtime caused by technical issues, hacking or other cyber-sabotage could damage the business.
Financial risk
Foreign exchange risk – Ollie purchases approximately 30% of its products from China in US dollars. e. An unfavourable exchange rate variance would impact gross profit (assuming additional costs are not passed on in sales price).
Reputational risk
Ollie has two exclusive ranges:
• collars and bandanas for cats and dogs
• high-protein, low-calorie dog biscuits. f. Any quality issues with these ranges could impact Ollie’s reputation. Sales from these ranges make up 30% of revenue.
Safety risk
Exclusive-range products are produced in a small factory and kitchen in Perth. g. Limited safety procedures are in place in this small business. The risk is considered low given the nature of the work performed; however, any staff downtime could affect productivity. In Ollie’s history there have been no lost-time’ incidents.
Operational risk
As an online business, Ollie depends on marketing spend to attract customers. h. Marketing may not be correctly targeted, resulting in lower conversion of marketing spend to revenue.
i. There may be an overspend in marketing, recent growth in sales due to word-of-mouth recommendations and repeat business may mean the current marketing spend is too high.
Risk assessment matrix
Business Performance Assessment 3 – Case study
Information on the background
Donnys Boutique Pet Stores (Donnys) was established in 2012 as a specialist retailer of luxury pet foods and goods. Donnys was founded by Thomas and Rebecca O’Donnell as a private company in Australia. Thomas and Rebecca each own 50% of the share capital. From its early days, Donnys sought to differentiate itself from its competitors by offering boutique brands to dog and cat owners who love to spoil their pets.
Starting with two stores in high-income suburbs of Sydney, Donnys grew steadily and currently has twelve stores in Australian cities.
Mission statement
Donnys is a boutique, customer-focused business. Its mission is as follows:
Where your pets always come first – a total experience for dogs, cats and owners
