Fifth part of a 10 part series from the presenters of Finding Cash in Your Business podcast and book. Get Cash in quicker, handle it better and leverage it's power.

1. Finding Cash in your BusinessWays to find cash you didn’t know you had, and attract cash you didn’t now you needed.The essential business guideModule 5 Your Company’s health check

2. Learning objectives Meaning of Business plan Treasure map Top tip The company health checklist Profitability Return on Capital Employed Return on Shareholders Funds Asset Turnover Current Ratio Quick Ratio Gearing Interest Cover Earnings Per Share Price Earnings ratio History Market perception Share Price analysis Accounting and IRUs

3. Business plan:is a statement of business goals, the reason why they are achievable, and the plan to reach those goals. Treasure map The treasure map is a sketch of how your business model works more commonly known as the Business Plan. Many people see it as a necessary evil to get investors to provide the funding required to kick-start a business, rather than a control mechanism. Out of interest, how is your business plan performing against its original objectives? Have you read the original business plan? How often do you compare it against performance and realign the objectives? My personal favourite response to this question is, ‘the company intends to be cash flow positive next year.’ Why not just say, ‘next year I will rule the world.’ Though unlikely or ridiculous each statement cannot be disproved. However, if I told you that I was Genghis Khan and you had watched the progress of my armies across Asia you should start packing. Looking at a your company’s progress allows you to get an indicative view of future outcomes.

4. Top tip: Keep key stakeholders informed about the health of the company and your business plan’s progress The Company health check How healthy is your company? Lets get back to the examination. This module reveals how your company is performing against its long-term objectives. Data gathered from 5 years worth of the annual reports will be used to generate the trends. The trends will convey both the effectiveness and efficiency of the management of your businesses financial resources. This study will highlight areas for improvement, and give focus to the areas within the business that require the greatest attention to the working capital cycle, and hence provide the greatest positive impact on the business overall. A comparison is made against the KCOM Group and the sector average using ratio analysis. Ratio analysis is a method of identifying the financial strengths and weaknesses of a company by establishing relationships between items in the Profit and Loss and Balance Sheet. A thorough analysis will give a greater understanding of the financial health and future earnings potential of your business. The KCOM trends have been graphed from the annual reports of 1997 – 2001. The industry benchmarks were obtained from the financial results section of http://moneycentral.msn.com and are only correct for a moment in time. Ratios are shown in framed boxes.

5. Profitability KCOM profitability peaked in 1999 prior to the IPO, and as can be seen in the figure opposite both net and gross profits margins have converged. KCOM cost of sale has passed the turnover generated as can be seen in the figure below, and remedial action is required. KCOM Industry Net Profit Margin -10.7% -44.3% Gross Profit Margin 53.3% 23.4% The rest of the industry would appear to be making a greater loss than KCOM.

6. Return on Capital Employed EBIT: Earnings Before Interest and Tax This ratio shows as a percentage the profit produced by the invested capital. It is calculated by dividing the EBIT by what is left of the asset base once the current liabilities have been paid. The graph opposite shows a serious decline in fortunes, highlighting potential weakness in the finance function. The decline in profitability could be the result of poor budgetary control, an inadequate costing systems or an inability to monitor and control cash. Compared to the Industry KCOM looks good! The greatest area for improvement is the control of cash, and the only area of the business where cash flows are not nailed down is within the business to business division. KCOM Industry Return on Capital Employed -9% -105.7%

7. Return on Shareholders Funds ROSF is a gauge of the amount of profit available to shareholders. A high ROSF indicates that a company is profitable and could provide a good dividend. The graph opposite shows that the ROSF weak, the ability to raise additional capital through public offerings will remain elusive for the foreseeable future, although compared to the industry’s average KCOM looks like good stock to have. KCOM Industry Return on Shareholders Funds -10.3% -132.1%

8. Asset Turnover This ratio is used to gauge how effectively the assets of the business are being employed, the higher the ratio the better use of company assets to generate sales. It is calculated by dividing sales revenue by the total assets. Companies with low profit margins tend to have high asset turnover, and those with high profit margins low asset turnover. Within communications companies there is a new priority to “Sweat the assets”, however, recovering profitability through this means can only be measured in the long term. KCOM Industry Asset Turnover 0.7 0.8

9. Current Ratio The investor’s ideal value is 2 or above. KCOM is just able to pay it’s way in the near future, if it’s stock was sold and all the debtors realised see the graph below. It is calculated by dividing the Current Assets by the Current Liabilities. Company liquidations are clearly linked to the state of the economic cycle and the assumption that all the debtors will pay is a matter of extended faith. In an economic downturn it is vital to keep a short rein on debtors KCOM Industry Current Ratio 1.0 1.4

10. Quick Ratio The quick ratio is a more stringent test of liquidity than the current ratio, focusing on cash and near-cash. It is defined as the current assets minus stocks, divided by current liabilities. The findings mirror those of the current ratio see graph below. KCOM Industry Quick Ratio 0.7 1.0

11. Gearing Gearing measures the degree to which assets are financed by debt. The higher the borrowing the higher the risks to the business – there will potentially be more returns to shareholders but there will also be greater risks regarding payment of interest and loan repayments. Soon after the 2001 accounts were filled a short-term bank loan facility for £250m was set up with the expectation that the money markets for equity would open up and clear the debt. As of 2008 the Bank debt was running at about £200million, placing a significant burden on the business just to cover interest repayments . KCOM Leverage 32%

12. Interest Cover This ratio reflects the ability of the company to cover the interest payable. The ratio for 2002 showed that KCOM has slowed down the slide south in interest cover, but is now worse than the industry average. KCOM Industry Interest Cover -6.6 -0.4

13. Earnings per Share This ratio shows that earnings attributable to each share are negative and shareholder value is decreasing. KCOM EPS -0.09p Price Earnings Ratio KCOM Industry P/E -6.1 11.5 The P/E ratio details what the market thinks about the potential for future earnings. This analysis shows the market has concerns over the growth potential of KCOM’s earnings.

14. History Three key issues have been identified as putting the telecommunications sector in turmoil during 2001-2002. The issue of 3G(third generation mobile licences) and the ridiculous heights bidding went to. This has caused execution delays in the delivery of the 3G services as mobile operators pleaded with the banks for long-term loans to create the networks. This was also a major factor in mounting £30 Billion debt of BT in 2000 and the subsequent divestment of its mobile arm; 02. The fall from favour of the dot com revolution and the realisation that future profits potential needs to have secured funding in place to enable cash flow in the short to medium term. Local Loop Unbundling (LLU) for the deployment of high-speed services over the last mile of BT copper. 33 companies have dwindled to just 3 as many new entrants have run out of cash.

15. Market perception In 2002 KCOM was a secure hundred-year-old business with steady revenue growth, a flair for innovation and an ambition to become a major UK alternative communications company. Hull is the only place in the UK where you find white instead of red telephone boxes. Soon after floating on the stock exchange in July 1999 the “high tech hype” catapulted KCOM into the FTSE 100 with a share price at one point of over £17; as I write the share price has hit close to 10p. In 2007 after 103 years of ownership Hull city council sold their remaining 30.6% stake in the business for £107m.

16. Share Price Analysis In 2002 the positive EBITDA status and the profitable, cash-generating core business in Hull was not reflected in the share price. Market sentiment was depressing the Share price and not taking into account the true value of the secure investment with the potential of high yields from the B2B division.

17. Accounting and IRUs or Money for old rope Indefeasible Rights of Use (IRU): is the effective long-term lease (temporary ownership) of a portion of the capacity of an international telecommunications cable. Companies were putting values for assets that did not belong to them on the books – creating money for old rope. Global Crossing was one of the first ALTNET companies to warn about enhancing its financial condition through the use of IRUs. Although common practices within the industry, many investors were not aware of IRUs and the accounting practice being implemented. Global Crossing and its competitors frequently bought space on one another’s networks in areas not covered by their own systems to offer corporate customers a more complete data and network system. These companies would buy an IRU and book the price as a capital expense, which would be spread over a number of years. It would then resell that capacity and book the proceeds as revenue immediately, thereby boosting revenue and reducing its cost base. The effects of IRU sales, excess bandwidth capacity, price degradation and accounting scandals led to several pan-European alternative carriers, such as KPNQwestgoinginto bankruptcy.

18. Conclusion Carry out a full review of the original Business model, and the Marketing plan. The objective of this review would be to make sure that the Strategy and Tactics employed are still current. It will also enable a re-evaluation of your target market from a historic and a future perspective. The outcome of the reviews should be communicated to employees so that they are assured that the business is keeping in step with current market conditions. In our case study the accounting policies of KCOM differ from others in the Communications sector, making ratio analysis seem less a science and more an art. It could be that your Company is judged more on its ability to utilise accounting policies than a fair representation of their relative performance compared to your industry peers.

20. Return on Capital employed

21. Return on Shareholders Funds

22. Asset Turnover

23. Quick ratio

24. Gearing

25. Interest cover

26. Earnings per Share

27. Price Earnings (P/E) ratioScour and improve the ratio/areas that supports your business plan’s progress. Help the investment community to understand why cash in your business is a safe investment by using the ratios to back up your business plan’s progress creating financial differentiation with the competition.

28. Quiz 1 of 2 What is a Business plan? A business plan is a statement that answers the questions What, Why and When. The franchise area associated with a business “a necessary evil to get a bank to lend you money” “a statement of business goals, the reason why they are achievable, and how you plan to reach those goals” “a decision making tool to decide whether or not to pursue a goal” What element of the Current assets does the Quick ratio disregard? Buildings. Stock Debtors What does the Return on Capital Employed ratio gauge? How hard your investment is working How many people work for the company How much you should expect as a dividend All of the above

29. Quiz 2 of 2 Why is it dangerous to only look at your ratios alone? Ratios are only correct at the point time they are calculated. Your Accounting practices may be different from your competitors. Ratios are sometimes calculated using different components. Trends provide a better indication of future performance All of the above Why is high Gearing bad for a business? Debt financing requires interest payments associated which eat into profits. Bank loans facilities may be stopped. High gearing reduces the dividend potential ofshareholders. All of the above. Where can you get additional cash to invest in your business? Debt financing – Short to Long term Bank Loans. Equity financing – Share Capital. Downsize – reduce headcount Generate more free cash flow by tuning the WCC All of the above.

30. To contact the author: craigscopy@gmail.com Finding Cash in your BusinessWays to find cash you didn’t know you had, and attract cash you didn’t now you needed. Here’s some other free resources you’ll enjoy. Podcast: http://itunes.apple.com/us/podcast/finding-cash-in-your-business/id420457227 Blog: http://craigscopy.blogspot.com/ Tweets: http://twitter.com/craigscopy Here’s the answers to the questions: 4. 1. 2. 4. 5. 5.

31. What next In the next Module looks into the Internal Accounts. The Internal Accounts are graphed over a 4-month period and compared to the previous years results over the same period. This trend analysis highlights the areas where cash flow improvements are required.