Mini Case

timer Asked: Apr 11th, 2014

Question description

Complete a case study paper.

Look in the Ross text at the case studies at the end of chapters 10 and 11. This case is in two parts with the first part in chapter 10 and the second part in chapter 11.

***Before you proceed to answer the questions do a paragraph on what you think the answers might be and why – then test your hypothesis by running the numbers and answering the questions.

Put yourself in the place of a consultant and make the presentation of your responses as you would to professionally present to your client.

There is a spreadsheet provided that you will need to complete in order to do the analysis. You do NOT need to build a separate spreadsheet to do this assignment. Please become familiar with the spreadsheet before starting the assignment.

Your response should have an introduction and a conclusion.

Mini Case

Waldo County

Waldo County, the well-known real estate developer, worked long hours, and he expected his staff to do the same. So George Chavez was not surprised to receive a call from the boss just as George was about to leave for a long summer’s weekend. Mr. County’s success had been built on a remarkable instinct for a good site. He would exclaim “Location! Location! Location!” at some point in every planning meeting. Yet finance was not his strong suit. On this occasion he wanted George to go over the figures for a new $90 million outlet mall designed to intercept tourists heading down east toward Maine. “First thing Monday will do just fine,” he said as he handed George the file. “I’ll be in my house in

Bar Harbor if you need me.” George’s first task was to draw up a summary of the projected revenues and costs. The results are shown in Table 10.8. Note that the mall’s revenues would come from two sources: The Company would charge retailers an annual rent for the space they occupied and in addition it would receive 5% of each store’s gross sales.

Construction of the mall was likely to take three years. The construction costs could be depreciated straight-line over 15 years starting in year 3. As in the case of the company’s other developments, the mall would be built to the highest specifications and would not need to be rebuilt until year 17. The land was expected to retain its value, but could not be depreciated for tax purposes.

Construction costs, revenues, operating and maintenance costs, and real estate taxes were all likely to rise in line with inflation, which was forecasted at 2% a year. The company’s tax rate was 35% and the cost of capital was 9% in nominal terms. George decided first to check that the project made financial sense. He then proposed to look at some of the things that might go wrong. His boss certainly had a nose for a good retail project, but he was not infallible. The Salome project had been a disaster because store sales.

Mini-Case: Ecsy-Cola

p. 317

Libby Flannery, the regional manager of Ecsy-Cola, the international soft drinks empire, was reviewing her investment plans for Central Asia. She had contemplated launching Ecsy-Cola in the ex-Soviet republic of Inglistan in 2013. This would involve a capital outlay of $20 million in 2012 to build a bottling plant and set up a distribution system there. Fixed costs (for manufacturing, distribution, and marketing) would then be $3 million per year from 2012 onward. This would be sufficient to make and sell 200 million liters per year—enough for every man, woman, and child in Inglistan to drink four bottles per week! But there would be few savings from building a smaller plant, and import tariffs and transport costs in the region would keep all production within national borders.23

 The variable costs of production and distribution would be 12 cents per liter. Company policy requires a rate of return of 25% in nominal dollar terms, after local taxes but before deducting any costs of financing. The sales revenue is forecasted to be 35 cents per liter.

 Bottling plants last almost forever, and all unit costs and revenues were expected to remain constant in nominal terms. Tax would be payable at a rate of 30%, and under the Inglistan corporate tax code, capital expenditures can be written off on a straight-line basis over four years.

 All these inputs were reasonably clear. But Ms. Flannery racked her brain trying to forecast sales. Ecsy-Cola found that the “1–2–4” rule works in most new markets. Sales typically double in the second year, double again in the third year, and after that remain roughly constant. Libby’s best guess was that, if she went ahead immediately, initial sales in Inglistan would be 12.5 million liters in 2014, ramping up to 50 million in 2016 and onward.

 Ms. Flannery also worried whether it would be better to wait a year. The soft drink market was developing rapidly in neighboring countries, and in a year’s time she should have a much better idea whether Ecsy-Cola would be likely to catch on in Inglistan. If it didn’t catch on and sales stalled below 20 million liters, a large investment probably would not be justified.

 Ms. Flannery had assumed that Ecsy-Cola’s keen rival, Sparky-Cola, would not also enter the market. But last week she received a shock when in the lobby of the Kapitaliste Hotel she bumped into her opposite number at Sparky-Cola. Sparky-Cola would face costs similar to Ecsy-Cola. How would Sparky-Cola respond if Ecsy-Cola entered the market? Would it decide to enter also? If so, how would that affect the profitability of Ecsy-Cola’s project?

 Ms. Flannery thought again about postponing investment for a year. Suppose Sparky-Cola were interested in the Inglistan market. Would that favor delay or immediate action?

 Maybe Ecsy-Cola should announce its plans before Sparky-Cola had a chance to develop its own proposals. It seemed that the Inglistan project was becoming more complicated by the day.

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