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You, CPA, are the assistant controller at Conglomerate Inc. (CI), a public corporation. Today is September 16, 2022. The controller, Louise Desmarais, calls you into her office to present an assignment to you. Louise tells you the following. "As you know, we just acquired all the shares of Hometown Telecom (HT) on August 1, 2022 (Appendix I). I just left the HT board of directors meeting. At the meeting, HT's management put forth a proposal for new performance measures (Appendix II) and a plan to spend $1.6 million on a new integrated management information system (IT system; see Appendix III) with the goal of increasing revenues. The board's discussions centred on four main issues: . Are the proposed measures an improvement over the existing ones already in place? The board discussed whether the old indicators needed replacing and whether the new indicators would motivate the desired management behaviour and increase shareholder value. Some concern was expressed as to whether two indicators were sufficient. Some members wondered what additional measures might be useful. Some board members wanted to know if the decisions that are related to current day-to-day operations and the proposed measures link with HT's current mission statement. Is the proposed capital expenditure for the new IT system financially prudent? What are the particular benefits and risks associated with the proposed IT system that HT must consider in making its decision? "The HT board has asked us to prepare a memo with our views on the main issues they discussed. I'd like you to review the information and then prepare a draft memo for me."Appendix I Hometown Telecom Description of the business - Notes from the acquisition file HT is a small regional Canadian supplier of telecommunications products and services. The products it currently provides are long-distance services, local telephone access, high-speed internet through fibre optics, and high-speed data products. HT owns some facilities for providing these services and has interconnection agreements with other telecommunications suppliers that allow it to resell those companies' services. HT's mission statement, developed and approved by the board of directors 12 years ago, IS: Hometown Telecom is a regional telecommunications provider that concentrates on providing price competitive telecommunications services to existing and new customers. Hometown Telecom's existing profitable business will expand, where judged necessary, through the adoption of proven, well established technology to provide new products and services to its customers and increase margins. The telecommunications industry has undergone significant changes since the mission was written. The book value of HT's tangible capital assets is $24 million. Its debt-to-equity ratio is approximately 40%, which is near the average for the Canadian telecommunications industry. About 50% of its cash operating expenses are for the salaries and wages of its 47 employees, with another 35% being payments to other telecommunications companies under the interconnection agreements. The average employee salary is approximately $55,000 per year, including benefits. HT, like its competitors, operates in a capital intensive, regulated market and often relies on outside financing. Amortization and interest represent the other major expense categories. HT pays tax at a rate of 38%. Historically, HT has always been profitable. In 2021, HT generated $650,000 of profit on revenues of $7.3 million.Appendix I {continued} Hometown Telecom Description of the business Notes from the acquisition file Revenues om longdistance services have remained at industJvwide over the last three years, as increased usage has offset downward price pressures. Growth has come mostly from data services, with intemet and localaccess services also providing some growth. However, longdistance margins have increased due to regulating:r changes that have allowed for lower pavments under interconnection agreements. Long distance, therefore, continues to be a profrtable product. While revenues om data services have been growing, margins have been reduced due to intense competition and bargaining power of the larger businesses that require the service. However, overall, data services have recentiyr been the company's growth engine. HT attempts to keep intemet and localaccess services at a breakeven level, using them as "loss leaders" to help sell related services in long distance and data. However, when vou analyze the revenues om customers that bought a bundle of services, HT has lost money:r on a grossmargin basis. HT continues to keep the products in order to retain customers, awaiting the testing results for twisted bre optic technologv that will reduce operating costs, thereby creating positive margins. The new technblogvr should be ready in the rst quarter of 2023. Appendix II Hometown Telecom Proposed performanoe measures Prepared by HT management Historically, shareholder value has been assessed using ratios such as debttoequity, retum on equity, capital expenditures as a percentage of revenues, and cash flow generation. The industry is changing, with new technology bringing opportunity for increased automation, system integration, and new products and services. There are also increased opportunities to outsource functions such as customer relationship management and sales through the use of call centres. We would like to propose indicators that will encourage aggressive customer and revenue growth in order to create higher shareholder value. For the rst time, in addition to their regular salaries, HT's senior management will be paid bonuses. In order to motivate them to implement the necessary steps, they will be evaluated using the proposed measures. This approach will encourage aggressive sales growth while keeping wages and salaries in line with what we are currently paying. We propose that earnings before interest, taxes, depreciation, and amortization {EBITDA} be our key performance indicator, since it will encourage aggressive capital spending to gain customers. Specic actions planned to drive EEilTDA growth are: a- Loss leader marketing of customer premise equipment. Ir Use of new technology to provide new services on a \"rsttomarket" strategy. Loss leader marketing consists of providing a customer with telephone equipment and charging a rental rate that does not fully cover the cost of the equipment. The loss on the rental is then made up by the incmased margin on other services to that customer. Appendix II (continued) Hometown Telecom Proposed performance measures - Prepared by HT management We propose that revenues generated per employee also be a key performance indicator. Using this indicator will encourage efficiency in our management of human resources. Specific actions that we plan to undertake to increase revenue per employee are: Integrating our systems. Through the purchase of a new IT system we will combine current billing, general ledger, accounts receivable tracking, and customer management systems into one. Outsourcing our current collections department, payment receipts department, and call centre operations. We have provided a business case for the first of these new initiatives for board approval. We request immediate approval for $1.6 million of spending and related financing on the new IT system, as it is the first of many steps down the path to building shareholder value.Appendix III Hometown Telecom Proposal for a new IT system - Prepared by HT management The cost of the proposed system is $1.6 million, including initial software licence fees, external consulting costs for design and implementation, and labour costs for implementation. The first of several lump-sum payments to the software vendor is in November 2022. The first payment of $800,000 is the largest. The remaining three payments are for $300,000 on January 1, 2023, $300,000 on April 1, 2023, and $200,000 on May 1, 2023. The system is being financed with a five-year loan that is to be repaid at $30,000 a month, including principal and interest calculated at 7% per annum, with any remaining balance to be paid at the end of the five-year term. The software would be ready for use on June 30, 2023, at which time HT would stop using the old systems. It is anticipated that the system will have zero salvage value at the end of the five-year term. The proposed system would allow HT to integrate its current billing, general ledger, accounts receivable tracking, and customer management systems. This would allow HT to permanently cut five jobs in the finance, customer relationship, and operations areas. Shareholder value will be created by taking advantage of this opportunity to reduce our workforce. The new system would be used by all of HT's employees, while the current systems are each used only by the functional areas that they support. HT's billings are currently performed on two separate systems. Customers who use data services and one other service are issued two separate invoices on a monthly basis. This causes difficulties in tracking accounts receivable, with much effort spent by the employees preparing spreadsheets to get a picture of the amounts receivable from customers. Another drawback of the current two systems is that it is difficult to evaluate whether the internet and local-access services are creating sales to data customers, as the marketing department desires. The billing system does not interface with the general ledger. Much time and effort on the part of employees is required to ensure that revenues are recorded properly in the appropriate revenue categories.Appendix III [continued] Hometown Teleoom Proposal for a new IT system Prepared by HT management Spreadsheets are currently used by HT's salespeople to manage their customer relationships. For example, HT may have a campaign to sell more of a product to its existing customer base. The spreadsheets are used to gather information about how much a customer is spending on each product and service at the various locations where the customer receives HT services. The salesperson then generates a list of leads where it appears that increased sales are til-rely. This effort is entirely manual. The new system would automate this process through the integration of the billing systems and would have the ability to handle more sophisticated data queries. The new system will enable HT to matte greater use of tablet devices, through remote access, in managing its sales. The salespeople would use their device to retrieve, store, and send data back and forth from HT's server at head ofce. This allows realtime data to be available for efciency and effectiveness in the sales and provisioning functions. The current version of the new system is not capable of sending or receiving encrypted data to wireless devices, but the manufacturer expects that encryption will be ready in late 2023. At the same time as the IT proposal was made, another proposal was made to outsource the worlr of 13 additional employees. Dver a period of three years, HT will cut its stafng in its call centres until they can be closed completely. Instead, a third party will be provided access to the new IT system and will receive calls from customers and make cold calls to potential customers on behalf of HT Gur goal is to cut six jobs in the rst year, four jobs in the second year, and the remaining three jobs in the third year. Overall, we believe the wage and salary savings from the total 13 eliminated jobs justies the proposed capital expenditure for the new IT system

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