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2016 Nov Higher Level Paper 1 Mock Examination Medimatters Exemplar Answers Interactive Click or Tap to go Question 1 1 A B Question 2 A B Question 3 A B Question 4 A B Question 5 ERQ recommendation C

IB Business Management Higher Level Paper 1 Examination IB Business Management www BusinessManagementIB com N16 3 BUSMT HP1 ENG TZ0 XX IB BUSINESS MANAGEMENT HIGHER LEVEL PAPER 1 Practice examination 2016 Medimatters 2 hours 15 minutes INSTRUCTIONS TO CANDIDATES Do not open this examination paper until instructed to do so A clean copy of the IB Business Management case study Todos os Mercados is required for this examination paper Read the case study carefully A clean copy of the IB Business Management formulae sheet is required for this examination paper Section A answer two questions Section B answer question 4 Section C answer question 5 A calculator is required for this examination paper The maximum mark for this examination paper is 60 marks Jump to start P a g e 2 20

IB Business Management Higher Level Paper 1 Examination IB Business Management www BusinessManagementIB com SECTION A Answer two questions from this section QUESTION ONE a With reference to Medimatters outline two key features of operating as a private limited company 4 marks A Private Limited Company such as Medimatters is a company that can only raise share capital from friends and family not the general public Key features off a PLC include Directors can maintain overall control over the business as they control the trading of shares in their company Thus the six founding members of Medimatters will be able to choose who owns how much of the company Further the six owners shareholders of this private businesses will be able to have more of a say as there are less shareholders and so each director has more influence over business decisions Another feature is that it is relatively less expensive to start a private limited company rather than a public one Medimatters is looking to become established with only 60 000 in startup capital However private companies such as Medimatters will not usually be able to raise as much finance as public limited companies Award 3 4 marks if the student s answer meets the following criteria b The student demonstrates knowledge and understanding Appropriate terminology is used and explained The response is applied to the stimulus material With reference to Medimatters distinguish between leadership and management line 24 6 marks Ahmed is the leader at Medimatters Leadership I defined as the art of motivating a group of people towards achieving a common objective Leadership is different to management as It is essentially about motivating and inspiring others Leaders are innovators who encourage others to accept change Jump to start P a g e 3 20

IB Business Management Higher Level Paper 1 Examination IB Business Management www BusinessManagementIB com It stems from personal qualities and traits Leadership is based on an individual s natural abilities and instincts The leader believes in doing the right thing He or she is respected and trusted by followers they want to follow because of the leader s personality A leader creates and develops a culture of change Ahmed is the driving force behind Medimatters and he has the trust and respect of the group of directors Establishing a new business is a risky proposition and Ahmed is seen by the group as being the most capable of leading the company through the startup stage Management on the other hand is defined as the organisation and coordination of the activities of a business in order to achieve defined objectives Management is different to leadership as It is about directing and monitoring others It attracts problem solvers to positions of managerial responsibility It is an official position of responsibility in the organisation The manager skilled and qualified to perform role The manager believes in doing things right The manager is listened to by others because of status not necessarily because of personality He or she accepts and conforms to the norms of the organisation Leadership is a key part of being a successful manager Ahmed as a leader and as a manager will need to set a clear direction and vision for Medimatters that others will be prepared to follow Employees will want to follow a good leader and will respond positively to them A poor leader will fail to win over staff and will have problems communicating with and organising workers effectively Most good managers are also good leaders but some managers are not Managers who focus on control of people and allocation of resources can fail to provide a sense of focus that others will understand and be prepared to follow Without the clear and charismatic leadership that Ahmed is said to provide workers may very well be managed but will they be inspired to help Ahmed and Medimatters take a fresh direction and achieve new goals Jump to start P a g e 4 20

IB Business Management Higher Level Paper 1 Examination IB Business Management www BusinessManagementIB com Award 5 6 marks if the student s answer meets the following criteria An analysis of the relevant issues is made with good use of business management tools where applicable techniques and theories Appropriate terminology is used throughout the response There is effective use of the stimulus material QUESTION TWO a With reference to Medimatters outline one internal source of finance and one external source of finance that could be used by the startup company line 64 4 marks Internal finance is internal money raised from the businesses own assets or from profits left in the business retained profits At this stage Medimatters has not been operating long enough to be able to make let alone retain any profits Nor are there any assets mentioned in the case study This leaves Medimatters with only external sources of finance which is defined as external money raised from sources outside the business At this very early startup stage of operations it is unlikely that a bank is going to lend money unless it is secured against the personal assets of the directors of Medimatters so the best form of external finance will likely come from the issuing of shares Investors could be found that are willing to purchase shares in Medimatters in return for an equity stake in the company Award 3 4 marks if the student s answer meets the following criteria The student demonstrates knowledge and understanding Appropriate terminology is used and explained The response is applied to the stimulus material Jump to start P a g e 5 20

IB Business Management Higher Level Paper 1 Examination IB Business Management www BusinessManagementIB com b With reference to Medimatters distinguish between flow and batch production methods line 90 6 marks Flow production also known as line production is where items are produced in a continually moving process and this production method comes under the category of mass production where large quantities of a standardised product are produced Flow production involves the production method being carried out in a sequence where as soon is one task is complete the next stage in the process must start immediately Thus there will be different stages in the manufacturing of lenses for the Medimatters product and each lens passing through the production line will undergo a new process on the production line until it emerges at the other end as a fully functional lens carrying the Medimatters logo and encased in Medimatters packaging This is different to batch production Batch production involves producing a limited number of identical products known as a batch From this case study batch production is an option that is being explored to manufacture the lens that Medimatters aims to produce The level of demand for the lens and app has made batch production ideal for this specific product for Medimatters Both batch and flow production produce more of the same product unlike say job production which customises each order to customer specifications Both manufacturing processes can enjoy economies of scale as machines can be used to produce larger quantities technical economies and also the degree of specialisation can lead to increased productivity Given the level of estimated demand just over 800 lenses would be required each month it does not make sense for flow production to be considered Flow production typically requires a much higher level of capital investment to produce the automated machinery needed for the production process and the level of extra investment needed is justified through economies of scale 800 lenses are unlikely to achieve any meaningful economies of scale Flow production is suited to mass production and could be considered by Medimatters if the level of demand reached a scale where lens manufacturing could occur continuously over at least one but preferably two shifts each day Demand would likely need to be in the order of 1000 lenses per day 30 000 each month before it could be justified Batch production has a little more flexibility as before a batch has been started it is possible to change the requirements for that batch of lenses different sizes or positioning mechanisms for different types of phones could be an example here If Medimatters considered setting up their own manufacturing production lines and not outsourcing the production of lenses then batch production would be more cost effective than flow production as the capital equipment is likely to cost far less than a fully automated flow production system Jump to start P a g e 6 20

IB Business Management Higher Level Paper 1 Examination IB Business Management www BusinessManagementIB com QUESTION THREE a With reference to Medimatters distinguish between a product being a good and a service 4 marks In business management products can be classified into goods and services Goods are items that are tangible such as books pens salt shoes hats and folders Services are activities provided by other people such as doctors lawn care workers dentists barbers waiters or online servers Although goods and services are often discussed separately the goods and services continuum illustrates that goods and services often occur jointly For example having the oil changed in your car is a service but the oil that is delivered is a good Similarly house painting is a service but the paint is a good The goods service combination is a continuum It can range from primarily goods with little service to primarily service with few goods There are relatively few pure goods or pure services companies usually sell product packages which are a combination of goods and services There are elements of both goods production and service delivery in these product packages This makes managing operations more interesting and also more challenging which can be seen within the Medimatters business model The IBAT app is a pure service intangible and the lens necessary to make the IBAT work is a pure good tangible Together Medimatters will need to establish an operations strategy that combines both elements of a good and service into its product Award 3 4 marks if the student s answer meets the following criteria b The student demonstrates knowledge and understanding Appropriate terminology is used and explained The response is applied to the stimulus material Analyse the impact of two external environmental factors on the business objectives of Medimatters 6 marks Without specifically stating what the business objectives of Medimatters actually are it is safe to assume that the company s objectives are profit maximisation market share and shareholder value the most common business objectives in for profit firms External environmental factors refer to the importance of external influences on business performance Jump to start P a g e 7 20

IB Business Management Higher Level Paper 1 Examination IB Business Management www BusinessManagementIB com and decision making To survive and prosper businesses must understand and respond to external factors that are beyond their control There are various factors a firm needs to consider within the external environment it operates in social technological economic ethical political legal and environmental change Economic factors such as interest rates economic growth employment international trade and the state of infrastructure will impact on business objectives For example since the Global Financial Crisis of 2007 2008 and the Great Recession that followed global interest rates have been at historical lows Low interest rates would make it easier for the directors of Medimatters to take out personal loans which they could then invest in the company to fund operational activities and capital investment e g computers and servers Further once the company is established then low interest rates would enable the company to borrow relatively inexpensively from banks to finance the expansion of the company Thus if an initial objective was to become established to make and begin selling the product low interest rates would help with the financing of this objective Likewise if objectives changed at a later date to one of achieving company growth such as increasing sales by 50 then long term bank financing to fund expansion would be made easier by low interest rates The fast changing technological environment presents constant threats and opportunities for a business Technology affects all aspects of business functions The fast moving healthcare app industry is subject to much technological change and Medimatters and its competitors would be researching and developing technological innovations and incorporating the new technologies developed in other industries into their processes and perhaps their products too Medimatters must respond to changes in technology to remain competitive and ensure that their competitive rivals do not have a point of differentiation or a unique selling point that enables them to develop and sustain a competitive advantage over Medimatters Technological advances e g chatbots virtual reality are a real long term possibility that Medimatters needs to consider and plan for For example developments in machine learning and artificial intelligence would in time allow customers to interact with a health platform using chatbots applications in ways that the first iteration of the platform cannot possibly consider In my opinion the future of such information and diagnostic platforms is likely to be based on technology that allows doctors and patients to simply ask an app a question e g Computer what caused this bite and what should I do about it that would then guide an interaction between human and machine until the desired diagnostic outcome was achieved However intuition suggests such technology is still ten years away from becoming mainstream in applications and it will take even longer for the healthcare industry to incorporate such applications into day to day practice Considered and careful investment in R D and or partnerships with companies such as IBM and its Watson chatbot platform could then produce the next Medimatters application Jump to start P a g e 8 20

IB Business Management Higher Level Paper 1 Examination IB Business Management www BusinessManagementIB com Award 5 6 marks if the student s answer meets the following criteria An analysis of the relevant issues is made with good use of business management tools where applicable techniques and theories Appropriate terminology is used throughout the response There is effective use of the stimulus material SECTION B Answer the compulsory question from this section QUESTION FOUR At the end of three months when the group met again Didi presented the group with the following financial information she had prepared for the business plan She had a quote from a supplier who would be able to supply Medimatters with up to 1000 of the special lenses a month at a price of US 26 50 per lens Table 1 Selected financial information Capacity 1000 lenses a month Demand 800 lenses IBAT app a month Price US 99 00 Cost per lens US 26 50 Rent US 600 per month Salaries US 3000 per month Admin US 200 per month Server costs US 50 per month Utility bills US 150 per month Jump to start P a g e 9 20

IB Business Management Higher Level Paper 1 Examination IB Business Management www BusinessManagementIB com a Explain one advantage and one disadvantage of Medimatters having a relatively high capacity utilisation rate 4 marks Capacity utilisation is the proportion of maximum output capacity currently being achieved An advantage of Medimatters having a relatively high capacity utilisation rate is that it minimises the firm s average fixed costs which in turn reduces the firm s average cost i e average cost per unit which allows the firm to achieve economies of scale Economies of scale reduces costs and all things being equal makes Medimatters more profitable and or more price competitive in the market place Operating at a relatively high capacity utilisation is important for firms that have high fixed costs Fixed costs do not increase or decrease with the quantity of product produced rent loan repayments manager s salaries etc The higher the capacity utilisation the lower the average fixed costs of the firm will be Average fixed costs are calculated by dividing the total fixed costs by the quantity produced There are potential drawbacks to operating at full capacity for a long period of time and one of the most important for Medimatters to consider would be that customers who wish to increase their orders will have to be turned away or kept waiting for long periods This could encourage them to use other suppliers with the danger that they might be lost as long term clients Thus if demand was unexpectedly strong i e over 1000 units per month then Medimatters would not be able to satisfy all orders customers would be kept waiting and sales would be lost So many firms attempt to maintain a very high level of capacity utilisation but to keep some spare capacity for unforeseen eventualities Award 3 4 marks if the student s answer meets the following criteria The student demonstrates knowledge and understanding Appropriate terminology is used and explained The response is applied to the stimulus material Jump to start P a g e 10 20

IB Business Management Higher Level Paper 1 Examination IB Business Management www BusinessManagementIB com b Using information in Table 1 above calculate i Calculate the sum of fixed costs Rent ii US 600 per month Salaries US 3 000 per month Admin US 200 per month Server costs US 50 per month Utility bills US 150 per month Total 2 marks US 4 000 per month Calculate the firm s capacity utilisation rate 2 marks Capacity utilisation Actual output Productive capacity x 100 Capacity utilisation rate 800 1000 x 100 80 iii Calculate the break even quantity per month 2 marks Unit contribution Price AVC 99 00 26 50 72 50 Break even quantity Fixed costs unit contribution BEQ 4000 72 50 55 17 56 units IBAT lens iv If the business has sales at 80 of its capacity calculate the margin of safety 2 marks MOS level of demand break even quantity MOS 800 56 744 units IBAT lens Jump to start P a g e 11 20

IB Business Management Higher Level Paper 1 Examination IB Business Management www BusinessManagementIB com c New startup companies often have cash flow problems Evaluate different strategies that Medimatters could use to improve liquidity if sales prove to be lower than expected in the first year or two of operations 8 marks Liquidity is the ability of a firm to be able to pay its short term debts In Medimatters case these debts would listed as short term loans such as overdrafts and company credit cards and creditors such as suppliers who have invoiced Medimatters but have yet to have been paid Cash is always important short term and long term Cash flow relates to the timing of payments to workers and suppliers and receipts from customers If a business like Medimatters does not plan the timing of these payments and receipts carefully it may run out of cash even though it is operating profitably If suppliers and creditors are not paid in time they could force Medimatters into liquidation of its assets if it appears to be insolvent Note Cash is not the same as profit It is very common for profitable businesses to run short of cash On the other hand loss making businesses can have high cash inflows in the short term Essentially Medimatters net cash flow position is determined by the balance of cash leaving the business cash outflow paying suppliers expenses etc and cash coming into the business cash inflow sales revenues debtor s accounts being paid etc To improve liquidity at Medimatters the firm needs to reduce cash outflow and or increase cash inflows Either method will increase the amount of cash on hand to service its short term debt obligations To increase cash inflow Medimatters could take actions such as reduce credit terms to customers or increase cash sales with no promotional costs by discounting product and increasing demand However reducing credit terms and discounting may well reduce total revenues and negatively affect the firm s profitability And seeing as profitability is likely to be one of Medimatters s objectives these methods are perhaps not as good as others such as sale and leaseback Sale and leaseback is a financial transaction where Medimatters would sell an asset such as an expensive server system perhaps to a finance company and then leases it back for the long term therefore Medimatters continues to be able to use the asset but no longer owns it Thus sale and leaseback has the very real advantage of Medimatters being able to use the proceeds of the sale to reduce its short term debt improve its liquidity position and continue its business operations without interruption There are a few disadvantages to this method of improving liquidity Firstly the leasing costs will add to annual overheads Gross profits would not be affected but net profitability would be As dividend payments to shareholders are typically paid for through end of year profits this key stakeholder group may raise some valid objections However Medimatters is a startup company and is unlikely to have surplus or underperforming assets on its books that it could simply sell to raise additional cash without the need for leasing them back Secondly if the assets that were sold to the leasing company increase in price then there could be a potential loss of profit for Medimatters For example if Medimatters sold land and buildings worth 500 000 to a finance company this year any appreciation in the value of that land would now accrue to the finance company and not Medimatters itself In fact in this situation lease terms may well be renegotiated at a higher cost to Medimatters to reflect the increase in asset price Jump to start P a g e 12 20

IB Business Management Higher Level Paper 1 Examination IB Business Management www BusinessManagementIB com To reduce cash outflow Medimatters could use methods such as further delaying payments to suppliers creditors or cut overhead spending that does not directly affect output e g promotion costs However Medimatters being a startup company it would have low power over its suppliers and further delaying payments just kicks the can down the road Reducing promotion costs may negatively affect sales and contribute to further liquidity problems It would be much better for Medimatters to delay spending on capital equipment in the shortterm if this is possible By not buying equipment vehicles and so on cash will not have to be paid to suppliers and it can then be used to reduce Medimatters short term debt burden If this method is feasible then Medimatters liquidity position can easily be improved in the short term without any real opportunity cost However the opportunity costs of Medimatters using this method will manifest in the long term Without capital expenditure Medimatters may become less efficient if outdated and inefficient equipment is not replaced One of TM s greatest competitive advantages is that it is a new small and efficient company which allows it to have lower costs relative to its competitors Further expansion may become difficult To grow and expand its market share Medimatters needs to bring its products to new locations Asia Africa etc If Medimatters delays building a database of insect bites for say China then the firm loses out on the opportunity to sell its products to a large number of potential customers And if it delays too long a competitor may establish its own health app in that location and grow its market share Medimatters market share would then decline and growth in market share is likely to be one of the company s key objectives In conclusion I have discussed the strategy that I think best suits Medimatters to increase its cash inflow and its outflow position These two strategies combined would free up substantial sums of money in which Medimatters short term debt could be paid down and its liquidity position improved However the senior management at Medimatters needs to be very aware of the consequences of such strategies especially the long term implications of reduced capital expenditure Award 7 8 marks if the student s answer meets the following criteria There is a good understanding of the demands of the question including implications where relevant Relevant business management tools where applicable techniques and theories are explained clearly and applied purposefully and appropriate terminology is used throughout the response There is an effective use of the stimulus material in a way that significantly strengthens the response There is evidence of balance and this is consistently applied throughout the response The judgments are relevant and well substantiated Jump to start P a g e 13 20

IB Business Management Higher Level Paper 1 Examination IB Business Management www BusinessManagementIB com Additional information There is no additional information in this paper for Sections A and B SECTION C Answer the compulsory question from this section QUESTION FIVE 5 Bella reports that the app is close to completion and Carlo says that the app now has access to a catalogue of almost 65 of the world s known insect bite images However Carlo says that he has not been able to make any progress in developing communication or marketing channels with healthcare professionals Three financing options for the Medimatters have been tabled for discussion at the latest Medimatters board meeting Option 1 A venture capital fund has stated that it is willing to provide 60 000 to cover setup costs and a further 40 000 if required In return for this funding they require a 55 equity stake in the business and for the company to engage in a joint venture or strategic alliance with UnitedHealth Group which is one of the world s largest healthcare companies and has operations in all regions of the world UnitedHealth Group has established marketing and distribution operations in health clinics doctors surgeries medical centres and hospitals throughout Europe Asia North and South America Africa and Oceania In this agreement revenues would be split evenly between Medimatters and UnitedHealth Group It is estimated that the price of the package IBAT app lens could be increased by 50 sales would increase by 200 and the direct cost of the lens to produce would fall by 20 per unit Indirect costs would remain the same Option 2 An investor has been found that is prepared to immediately pay the six founders 250 000 in return for complete control of the company including all rights to the firm s intellectual property Option 3 Ahmed and Didi states that the original business model should still be a viable proposition if the six founders can come up with the required 60 000 in capital between them Each in the group would be required to take out a 10 000 personal loan secured or unsecured which they would then use to inject the required capital into the business Jump to start P a g e 14 20

IB Business Management Higher Level Paper 1 Examination IB Business Management www BusinessManagementIB com Using quantitative and qualitative data from the case study and the additional stimulus material in table 1 above and items 1 2 below recommend to the board of Medimatters whether or not they should go ahead with option 1 option 2 or option 3 20 marks The recommendation follows an analysis of quantitative and qualitative factors associated with each of the three options Considerable attention is paid to the accuracy of the forecasted sales figures the advantages and disadvantages of strategic alliances and joint ventures and equity finance A quick financial analysis indicates that option 2 is a poor deal for the directors and current shareholders in Medimatters If the market research is valid and the level of demand turns out to be the forecasted 800 units IBAT lens a month then the firm should be booking profits of 53 940 a month or 647 280 per annum These figures are derived from the following calculation MOS level of demand break even quantity MOS 800 56 744 units IBAT lens Profit MOS x unit contribution Profit per month 744 x 72 50 53 940 x 12 months 647 280 per year Selling the business for 250 000 does not compare favourably especially considering the projected profits should be able to be booked year in year out and even increased as the company grows over time However 250 000 would be paid to the directors immediately and there is no associated risk The directors will need to ask themselves how confident they are in the quantitative figures that have been provided in the course of their marketing and operations research A quote from a company willing to supply the lenses is a good indication that Medimatters can be reasonably sure that their unit costs are accurate However the level of demand is much more difficult to accurately forecast sales especially when there is no data to extrapolate a trend Trend Underlying movement of the data in a time series from Sales forecasting predicting future sales levels and sales trends has the following potential benefits If marketing managers were able to predict the future accurately the risks of business operations would be much reduced If a precise forecast of monthly sales over the next say two years could be made the benefits to the whole organisation would be immense The production department would know how many units to produce and what quantity of materials to order and would hold the correct level of stocks The marketing department would be aware of how many products to distribute and whether changes to the existing marketing mix were needed to increase sales Human resources workforce plan would be more accurate leading to the appropriate level of staffing Finance could plan cash flows with much greater accuracy Jump to start P a g e 15 20

IB Business Management Higher Level Paper 1 Examination IB Business Management www BusinessManagementIB com However attempting to predict the future is a difficult thing This is mainly that there are so many different variables that could change The further into the future forecasting tries to extrapolate the greater the degree of likely error The main problems are Inaccuracy of predictions Attempts to look into the future are speculative and often the forecaster s biases and subjectivity can be influential in determining the result For example the marketing director may provide overly optimistic figures because she wants to justify the project moving forward Limited information Sales forecasting is an estimated prediction based on trends in past data Estimates are only as good as the quality of the data and information available at the time The case study doesn t state where the marketing director has obtained her estimates for the level of demand External influences There are so many factors outside of a firm s control that can influence sales at any time The economy may suddenly boom benefiting all the exchange rate may rise hurting exporting firms or a competitor may launch a great new product and capture market share The external environment can be significant Knowing there is likely to be real risk in the accuracy of the projected sales forecasts for the IBAT means that the management can control for it All directors should closely scrutinise the research the sales estimates are based on Even if actual sales turn out to be 50 lower than the initial marketing director s figures Medimatters would still be looking at annual profitability of over 350 000 Even a lower level of profitability makes the 250 000 proposed in option 2 look like a bad deal Thus option 2 should be rejected Moving forward deciding between options 1 and 3 is essentially a choice between going it alone and retaining full control of the company or partnering with two additional stakeholders and losing much control of the firm These two stakeholders are The investor i e the venture capital fund Venture capital is financing that investors provide to startup companies and small businesses that are believed to have long term growth potential For startups without access to capital markets venture capital is an essential source of finance Risk is typically high for investors but the downside for the startup is that these venture capitalists usually get a say in company decisions UnitedHealth Group the partner in the proposed joint venture or strategic alliance A joint venture is where two or more business agree to work closely together on a particular project and create a separate business division to do so A strategic alliance is an agreement between firms in which each agrees to commit resources to achieve an agreed set of objectives Teamwork can really pay off So a joint venture with another company may be an excellent opportunity to grow Medimatters quickly without the complexities and cost of making an outright purchase of another company With a joint venture Medimatters would make an arrangement with UnitedHealth Group to cooperate in a way that can improve the prospects of both businesses Of course a formal agreement needs to be negotiated that specifically documents the roles of each company and how potential profits or losses will be shared There can be significant advantages in creating a joint venture such as Jump to start P a g e 16 20

IB Business Management Higher Level Paper 1 Examination IB Business Management www BusinessManagementIB com Entering a highly competitive health care market that presents high barriers to entry Gaining access to expertise without the need to hire more staff Leveraging existing technologies and patents developed by other companies Sharing the risk of high leverage but uncertain ventures Establishing a presence in new untapped markets including international opportunities Some disadvantages of entering into a joint venture with UnitedHealth Group include Setting unrealistic objectives that may not be completely clear in advance and not aligned to a common goal Coping with differing cultures management styles and working relationships that prevail in each company UnitedHealth Group is one of the world s largest health care companies and Medimatters is a small new startup there is likely to be a clash between the corporate cultures of both firms Managing communication with senior managers and employees in both companies so there s a consistent understanding of the objectives of the joint venture Making poor tactical decisions caused by a misunderstanding of the roles of each company A joint venture with UnitedHealth Group could help Medimatters grow and expand into new markets but they can be highly complex and require excellent relationships between the senior management teams of each partner A strategic alliance is similar to a joint venture in that two or more businesses Medimatters and UnitedHealth Group cooperate in a business venture for mutual benefit The firms in the strategic alliance usually share the cost of product development operations and marketing Although in the case study it states that UnitedHealth Group would take a 50 share of the revenues without necessarily contributing to operations costs However they would almost certainly be responsible for the marketing and distribution of the app as this is where the strengths of this large multinational corporation lie Unlike joint ventures forming a strategic alliance means that the affiliated businesses remain independent organisations Typically there are four key stages to the formation of a strategic alliance that Medimatters would need to consider Feasibility study Investigate and establish the rationale objectives and feasibility of the strategic alliance Partnership assessment Analyse the potential of UnitedHealth Group such as what they have to offer to the alliance in terms of both human and financial resources and expertise Contract negotiation Negotiations take place to determine each member s contributions and rewards thus forming a mutually acceptable contract Implementation Operations are initiated with commitment to the contract from both parties The main purpose of strategic alliances is to gain synergies from the different strengths of the members of the alliance by pooling their resources to benefit from each other s expertise and financial support Thus UnitedHealth Group has considerable financial resources and expertise in marketing and distribution Medimatters has the intellectual property associated Jump to start P a g e 17 20

IB Business Management Higher Level Paper 1 Examination IB Business Management www BusinessManagementIB com with the IBAT Strategic alliances also gain from economies of scale Economies of scale are reductions in a firm s unit average costs of production that result in an increase in the scale of operations The case study outlines this occurring unit costs reduce by 20 with a 200 increase in output Customers are also likely to benefit from added value services under a strategic alliance such as the convenience of access to wider channels of distribution which UnitedHealth Group could provide There is very little downside to Medimatters engaging in either a joint venture or a strategic alliance with UnitedHealth Care group This massive multinational company would provide considerable marketing distribution and financial resources have invaluable industry knowledge and be able to provide valuable guidance and mentoring advice for the startup firm The projected increase in sales revenues and profitability easily justifies UnitedHealth Care s 50 share of revenues MOS level of demand break even quantity New BEQ 32 units new price 149 and new unit costs 21 20 assuming fixed costs remain the same MOS 2400 32 2368 units IBAT lens Profit MOS x unit contribution Profit per month 2368 x 127 300 000 x 12 months 3 600 000 per year Medimatters share of profit 3 6m 149 x 2400 x 12 x 50 1 454 000 Thus Medimatters share of the expected profit form the joint venture or strategic alliance 1 454 000 per year is far greater than the expected profit were they to go it alone 647 280 per year The joint venture or strategic alliance is a good deal for the startup firm However this leads us to the second issue embedded in option 1 The founders will need to cede a 55 equity stake to the investor Assuming that all profits are distributed to shareholders in the form of dividends then the founders are not much better off financially The founders will take home 45 of the expected profit and this works out to be 1 454 000 x 45 654 300 an almost exact equivalent to the financial rewards gained from going it alone option 3 It is assumed that the company would take on the debt of the founders in the form of a loan to be repaid to them when the firm is operating profitably i e the owners would inject the 60 000 capital and this would show as a 60 000 long term liability in the company accounts If the founders decided to take on the venture themselves then the advantages are that As no shares are sold the ownership of the company does not change and is not diluted by the issue of additional shares Loans will be repaid eventually so there is no permanent increase in the liabilities of the business Lenders have no voting rights therefore there is no loss of control of the company Interest charges are an expense and are thus tax deductible reduce the total company tax paid by the business Jump to start P a g e 18 20

IB Business Management Higher Level Paper 1 Examination IB Business Management www BusinessManagementIB com However if the directors decide to go with option 1 the business is startup is financed through an equity stake Equity financing is the process of raising capital through the sale of shares in an enterprise Equity financing essentially refers to the sale of an ownership interest to raise funds for business purposes It has its advantages It never has to be repaid Dividends do not have to be paid every year In contrast interest must be paid when demanded by the lender Much larger amounts of finance can possibly be raised than through debt financing The advantages of equity financing are essentially the disadvantages of debt financing and the advantages of debt financing are the disadvantages of equity financing In weighing up whether the founders should proceed with option 1 or 3 it really comes down to a decision as to whether the advantage of entering the strategic alliance or joint venture with UnitedHealth Group outweighs the loss of control the founders will cede to the venture capital fund However given the industry expertise of UnitedHealth Group and the considerable resources and expertise it brings to the table it is recommended that the founders accept option 1 Medimatters will be able to grow faster and owning a share of a big pie is on balance better than owning a much smaller pie Risks will be diversified the venture capital firm will bring invaluable expertise to the deal and ensure a valuable exit strategy for all concerned and will provide additional back up funds if Medimatters experiences a liquidity crisis in its first years of operations as so many startups do Jump to start P a g e 19 20

IB Business Management Higher Level Paper 1 Examination IB Business Management www BusinessManagementIB com Section C Marking Rubric Marking criterion Marking judgement A Knowledge and understanding Award up to 4 marks if good knowledge and of tools techniques and theories understanding of relevant tools techniques or theories is demonstrated B Application Award up to 4 marks if relevant business management tools techniques and theories are well applied to explain the situation and issues of the case study organisation Examples are appropriate and illustrative C Reasoned arguments Award up to 4 marks if relevant balanced arguments are made and these are well justified D Structure Award up to 4 marks if all of the structural elements are present and ideas are clearly organised E Individual and societies An introduction A body A conclusion Fit for purpose paragraphs Award up to 4 marks if balanced consideration is given to relevant individual and group perspectives Total 20 marks Jump to start P a g e 20 20