Fundamentals of Value Creation - Case Study Example

of project: FUNDAMENTALS OF VALUE CREATION and number: submitted: Recommendations to Management of Good Health Drinks Company Decision whether the firm should proceed with the investment project The detail calculation of Fresh Lemonade Project for firm has been performed in Exhibit 1.1 in the Excel Sheet attached. However, the result demonstrated from the various calculations performed based on the available details of the projects; the following are some of the recommendations to the management on the basis of such outcome; Cash Inflows and cash outflows, with the overall net cash flows of the proposed project are quite favorable and it would be yielding much positive and beneficial result towards the Company in the upcoming four years period. Since the entity has to incur one time huge cost on the project itself with some of the incremental cost linked to the project and that is too managed through the means of medium term loan obtained from the lending institutions, therefore, future cost or cash outflows in respect of project would be minimized as also demonstrated from the calculations performed. Hence, the entity would be entering into the positive cumulative cash flows from the end of the first year of the start of project, with further ad enhanced generation of net cash flows on the coming years ahead. On the basis of such attractive scenario yielding from the project initial statistics and calculations, the firm should positively opt and proceed with the project on immediate basis. In addition, estimated terms of payback period calculation has also shown positive signs to proceed with the project itself, i.e. the payback period of 1.5 years is quite a lucrative symbol for the entity which represents that it would take only 1.5 years for the entity to pay off its loan liability from the cash generation of project itself. Calculation of IRR, NPV and Profitability Index (PI) for the project has all yielded an outstanding result in favor of the project. However, the current IRR and PI has both shown return and profitability over 500% in respect of the project which is a straight away go ahead for the management of the entity with respect to current project proposal. Assumptions on items included and excluded from the incremental cash flow analysis Each of the items has been validly included in the development, calculation and analysis of incremental cash flow of the Project due to the following factors; Interest Cost has been included in the incremental cash flow calculation because the inception of project is not possible without obtaining the loan of $ 250,000 and thus, due to the acquisition of loan, annual cost of interest has to be deducted as the cash flow from the project overall Cash flow on annual basis Inclusion of plant rehabilitation cost of $ 80,000 is also charged to the project incremental cash flow calculation because of the validity of the reason being presented by Mr. Kevin Smith, accountant of Company. As the cost was incurred in previous year but it was not utilized for any other project or investments activities of Company since the expenditure and therefore, now such rehabilitation cost is directly connected with the project feasibility, because the project would not have been started on proper grounds if such cost have not been incurred in previous year by the Company. The reduction in Good health’s frozen lemonade sales and associated production costs have been included in the project cash flow calculation because such sales and cost reduction is directly dependent on the after the initiation of the project and thus, their affect should be thoroughly represented into the project overall cash flow calculation and analysis. Leasing opportunity of lemonade production site is validly included in the calculation of incremental cash flow of project on the assumption that the entity has enough space availability in its Lemonade production site facility in order to accommodate a lessee for yearly rental of $10,000. Advise to management on various sensitive factors of the project The ultimate success of project is majorly dependent on couple of sensitive factors, the dynamic of which should be well managed and controlled by the management to ensure the smooth and swift movement of project over it complete tenure, i.e. 4 years. This factor includes estimated and expected annual sales volume of new product line of fresh lemonade, its sales price and related fixed and variable overheads associated with such sales volume. Sales price and related overheads cost of new product line can be quite fluctuated in nature but not on substantial basis as concluded by marketing and production manager of Company, but either of such fluctuation in negative direction would impact the net cash flow of the entity. On the other hand, overall volume level of sales unit from project is considered as one of the major and substantial sensitive aspects on the grounds that the success and positive results of projects can only be capitalized if the entity is quite successful in selling out its estimated level of sales volume on annual basis, otherwise the project accrue give certain negative cash flows hitting the ultimate backbone and survival of the project. Therefore, the manage should keep an strict watch and control over these couple of sensitive factors and aspects in line to keep the current project to work as per its initial net cash flow calculation and analysis. Furthermore, the entity should continuously and consistently revised its initial targets of sales volume and sales price to the overall breakeven levels, so as to prepare itself to mitigate the high extent of risk associated with projects if its sales volume decline substantially on immediate basis due any unfavorable circumstances beyond the entity’s control. Potential risks and opportunities for firm after completing project whole tenure After the completion of 4 years of project from its inception period, there lie certain signs of expected risks and opportunities that could change the overall fate of the organization. However, there is an existence of risk of new product of fresh lemonade reaching its saturation level after the period of 4 years or the performance and gross revenue and profitability of firm could also be hamper or obstruct due to potential entrance of new competitors in similar field offering more better and attractive differentiated products to existing customer base of Company. Moreover, there are also certain opportunities expectation on future grounds which can favor the firma and its project on positive level, which include the further expansion plans of project by the Company if it attracted a convincing base of customer over the 4 year periods or Company entering into acquisition plans with another suitable Company or group of Companies engaged in similar types of business in order to expand its overall business horizons. In addition, suggestions on two project options that could impact the overall project valuation could be the financing of the project by equity based components rather than opting for loan, that should have enhanced the overall net cash flow of the project on greater terms and similarly, if the project initial cost of machine acquisition has been agreed to bought on lease basis then certainly it could also have certain beneficial effect on the overall net cash flow of project on substantial basis. Read More