Project Financial Plan

Name : K.Povenesan

Student ID : 1191543

Cover Sheet for Individual Assignments Name: Povenesan Krishnan Muthi Student ID No: 1191543 Course Name: Master of Project Management Subject Name: Project and Innovation Finance and Accounting Assignment number: 4 Due Date: 7th September’2009 Lecturer Data Stamp (Office Use Only)

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Signed:

K.Povenesan

WORD COUNT: 2095 words

Date: 6th Sept’2009

Name : K.Povenesan

Student ID : 1191543 PIFA Assignment 4

1. Executive Summary Marrow Choices (here after will be known as MC) is a young and promising that is rapidly expanding its business locally. Marrow Choices is the answer to an increasing demand from market on differentiated healthy and nutritious breads and cakes. Our target market wants: •

Neighborhood businesses in City of Singapore

•

Great bread, cakes and cookies at a competitive price

•

A healthy and diet supplement for daily consumptions

The objectives of this report is two fold. Firstly, an longitudinal analysis of MC to better understand the project alternatives in the context of food & beverage industry it operates. This report is prepared to obtain supplemental financing is required to prepare the selected site, purchase equipment, and cover expenses during the first year of operation. This financing will allow MC to successfully open and maintain operations. The large initial capital investment will allow MC to provide its customers with an inviting atmosphere and quality products. Successful operation in year one will provide MC with a customer base that will allow it to be self sufficient in year two onwards. Even with our conservative sales forecast, we will maintain a positive cash flow from 3 rd year onwards, repay the loan in 4 years, and have a positive net worth over by year three. It is been projected that net profits will increase 20% over the next three years. With SWOT analysis and define the way to drive the business. It is planned to reach our breakeven point within two year from launch and to earn double revenue within five years. Secondly, brief estimates of projected cash flow of MC’s continued expansion plans are highlighted with Discounted Cash Flow Analysis. Thirdly, strategic issues facing by MC’s proposed projects being tabled in details. To this end, a financial overview of proposed projects is conducted to outline its financial performance are highlighted with proposed solutions an recommendations.

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Name : K.Povenesan

Student ID : 1191543 PIFA Assignment 4

Table of Contents 1.Executive Summary........................................................................................................................ .................2 2.Introduction.................................................................................................................................... ..................3 3.Project Alternatives................................................................................................................... .......................5 4.Capital Structure......................................................................................................................... .....................6 5.Capital Budgeting & Benefits of the project........................................................................................ ..............8 6.Analysis of the Project Investment............................................................................................ .....................12 7.Risk Evaluation ........................................................................................................................ .....................17 8.Recommendations & Conclusion............................................................................................... ....................18 9.References...................................................................................................................... ..............................19

2. Introduction

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Name : K.Povenesan

Student ID : 1191543 PIFA Assignment 4

The proposed three project alternatives present an investment opportunity in setting up a Bakery & Confectionery. Major products in this case would be bread, cakes, cookies, snacks, biscuits, sweets and general items. In order to attract a cross section of Singapore population, a combination of 3 outlets being proposed, one in posh area and another in universities while last one in industrial are with sales to other bakeries. This combination can however, vary according to the final site selection and amount of investment being incurred by individual investor. Although for this particular project study only Bakery & Confectionery items along with general items are included, however, production unit covering cookies, brownies, tea, coffee and allied items is not incorporated in this report. The reason being that bread production unit in it is a complete unit and requires a heavy investment. Almost all the bakers & confectioners purchase these items from specialized manufacturing units. Initial capacity of MC is calculated on the basis of total expected sales of items. Maximum sales are expected during festival seasons and international events. However, in order to calculate average yearly sales, potential revenue is estimated by using potential demand estimates. It is expected that annual increase in sales would be 15%. Although due diligence is carried out in estimating these numbers, the final outcome will vary depending on the selection of location, pricing, product mix and the marketing strategies.

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Name : K.Povenesan

Student ID : 1191543 PIFA Assignment 4

3. Project Alternatives

Alternatives / Project

Description

Location

A

Setting up bakery and confectionery and sales outlet at Singapore Integrated Resort

Marina Bay

B

Setting up bakery and confectionery and sales outlet at National University of Singapore campuses.

Kent Ridge Rd, Bukit Timah Rd, Outram Rd

C

Setting up bakery and confectionery factory with distribution centre to all others retailer and hypermarkets (like Giant, Carrefour, NTUC and etc.)

Sengkang Industrial area

Table 1: Proposed 3 alternatives Bakery & Confectionery business for investment Table above describes the proposals for MC to venture into the market. Some of the key factors that have been measured before coming out with these proposals include: 

Products range selection and introduction of sitting areas



Quality and Innovation in products and sales strategy



Selection of location



Pricing strategy



Understanding of target customers, alternative availability (product differentiation)



Hygienic condition

A. With Singapore Integrated Resort opening in 2010, which is expected to pull a crowd of 2-3

million visitors per year to the resort, opening an outlet will give an option for visitors from overseas and locals to enjoy delicacies of Asian breads over here. Tying in to hotels for contracts for delivery of bakery items tend to be lucrative as well. B. With intake of 4,000 student per year to NUS and existing students around 29,000, its an highly

populated area ideal for bakery business. For healthy lifestyle, students are seeking for higher standard of food quality. Value for money and choice and exposure to new bread both have resulted in demand for diversity in terms of food varieties and uses. It’ll be cafeteria based outlets for students to relax to music and books while they enjoy the delicacies.

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Name : K.Povenesan

Student ID : 1191543 PIFA Assignment 4

C. A factory in Sengkang area, where there is no any bakery & confectionery factory yet to be

established in East Singapore. This would be opportunity for a medium competition and proper positioning of the brand name, as one has to open factories in vicinity of competitors. This will be a direct marketing of the brand name for the best quality and the best competitive price. With supplies contract with SIA, NTUC, Carrefour and Giant, it gives steady sales revenue throughout the years.

4. Capital Structure The total investment capital for Project A: S$ 2.5M, Project B: S$ 1.5 M, Project C: S$ 3.4M which made up of the purchase of machinery, new molds, factory/space, contingencies in improving the new outlet and net working capital.

Capital Investment Purchase of Machinery Purchase of Space / Factory Net Working Capital Contigencies Total

Alternatives A ('000) B ('000) C ('000) 800 800 1,500 1,000 600 100 2,500

– 600 100 1,500

1,200 600 100 3,400

Table 2 : Total investment capital for all 3 alternatives The way the new projects proposed to be financed is 50% debt and 50% equity. It’s been proposed to seek loan from DBS bank which is offering a loan at Commercial Variable rate (CVR) 4.5% + 0.75%. The remaining 50% will be financed by issuing stocks to the public. Even the company is running at slight margin profit, it is forecasted that with this new projects, the company will gain more profit. Although the financial impact is minimal compared to the group huge assets, this project has the potentials to increase the firm’s value by bringing in more income and improve the quality of the bread & pastry through R&D.

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Name : K.Povenesan

Student ID : 1191543 PIFA Assignment 4

The cost of equity should be calculated using the Capital-Asset-Pricing Model (CAPM)

Rj =RF +β (RM – RF) =4.69 +0.88 (9.01) =12.6188% Assuming, Risk free rate, RF Company’s Beta , β

=4.69 % 0.88

Market portfolio premium, Where RM =13.7 % Cost of Debt

=BLR +0.75%

Corporate Tax

=5.25% =17%

WACC =

D (1 - T) D +E

* Rd +

E D +E

* Re

Assumptions Re =cost of equity Rd =cost of debt E =market value of the firm's equity D =market value of the firm's debt T =corporate tax rate @ 17% Weighted average cost of capital (Project A) WACC = 1785000*(1 - 17%) 3570000 = 8.5%

* 5.25%+ 1785000 * 12.62% 3570000

Weighted average cost of capital (Project B) WACC = 1234000*(1 - 17%) 2468000 = 8.5%

* 5.25%+ 1234000 * 12.62% 2468000

Weighted average cost of capital (Project C) WACC = 2467000*(1 - 17%) 4935000 = 8.5%

* 5.25%+ 2467000 * 12.62% 4935000

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Name : K.Povenesan

Student ID : 1191543 PIFA Assignment 4

5. Capital Budgeting & Benefits of the project To make decision on selecting the suitable project alternatives plan as described in the previous section, we have to have a careful look at the projected cash flows in project assessment. This projected cash flow will be used for the investment decision rules; the payback period, IRR, NPV and etc. Tables below shows the projected initial investment cash flow and yearly sales and expense figures from operating activities of MC investment plan (3 alternatives). This investment plan has estimated life of 5 years.

Cash Flow Cash In-Flow Sales Revenue Cash Out-Flow Cost of Sales Depreciation Administration Expenses Advertising & Promotions Research & Development Selling & Distribution Expenses Sub-total of Cash out-flow Profit Before Tax Taxation Profit After Tax Depreciation Net Cash Flow fromOperation

CF0

CF1

CF2

CF3

CF4

CF5

–

2,080,500

2,392,575

2,751,461

3,164,180

3,638,808

– – – – – – –

1,314,000 160,000 100,000 200,000 100,000 10,000 1,884,000

1,511,100 160,000 100,000 100,000 100,000 10,000 1,981,100

1,633,499 160,000 100,000 100,000 0 10,000 2,003,499

1,765,813 160,000 100,000 50,000 0 10,000 2,085,813

1,908,843 160,000 100,000 50,000 0 10,000 2,228,843

– – – –

196,500 33,405 163,095 300,000 463,095

411,475 69,951 341,524 300,000 641,524

747,962 127,154 620,809 300,000 920,809

1,078,368 183,323 895,045 300,000 1,195,045

1,409,964 239,694 1,170,270 300,000 1,470,270

0

Investment Cash Flow Purchase of Machinery Purchase of Space / Factory Net Working Capital Contigencies

800,000 1,000,000 600,000 100,000

– – – –

– – – –

– – – –

– – – –

– – 600,000 –

Net Cash Flow fromInvestment

2,500,000

0

0

0

0

600,000

Net Cash Flow fromProject

-2,500,000

463,095

641,524

920,809

1,195,045

2,070,270

Table 4: Projected Cash Flow Analysis for Project A

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Name : K.Povenesan

Student ID : 1191543 PIFA Assignment 4

Project A: The first year sales are assumed that the number of delicacies to be sold per day is 2000. Sales are expected to rise with the assumption of 15% growth per year. The average price per bread/delicacies is S$2.85 which is 58% mark up of the average cost per bread. The cost of sales is for first year and second year are total number of breads sold multiply by the average cost per bread which is S$1.3M and S$1.5M respectively. The cost of sales is expected to fall 6% in third year onwards with the assumption of the reduction in food spoilage. The initial investment in fixed assets is S$800,000 and because it will be worthless in five years, assumptions made that it loses value at the rate S$160,000 [(800,000/5)] each year. Straight-line depreciation used to get the depreciation cost. The reduction in cost of sales from year 3 onwards, reduction of 50% in advertisement & promotion expense and discontinue of R&D at year 3 resulting in the increase of profit before-tax cash.

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Name : K.Povenesan

Student ID : 1191543 PIFA Assignment 4

Cash Flow Cash In-Flow Sales Revenue Cash Out-Flow Cost of Sales Depreciation Administration Expenses Advertising & Promotions Research & Development Selling & Distribution Expenses Sub-total of Cash out-flow Profit Before Tax Taxation Profit After Tax Depreciation Net Cash Flow fromOperation Investment Cash Flow Purchase of Machinery Purchase of Space / Factory Net Working Capital Contigencies Net Cash Flow fromInvestment Net Cash Flow fromProject

CF0

CF1

CF2

CF3

CF4

CF5

–

1,613,300

1,855,295

2,133,589

2,453,628

2,821,672

– – – – – – –

1,116,900 160,000 100,000 100,000 100,000 15,000 1,591,900

1,284,435 160,000 100,000 50,000 100,000 15,000 1,709,435

1,388,474 160,000 100,000 50,000 0 15,000 1,713,474

1,500,941 160,000 100,000 50,000 0 15,000 1,825,941

1,622,517 160,000 100,000 50,000 0 15,000 1,947,517

– – – –

21,400 3,638 17,762 300,000 317,762

145,860 24,796 121,064 300,000 421,064

420,115 71,420 348,695 300,000 648,695

627,687 106,707 520,980 300,000 820,980

874,155 148,606 725,549 300,000 1,025,549

0

800,000 – 600,000 100,000

– – – –

– – – –

– – – –

– – – –

– – 600,000 –

1,500,000

0

0

0

0

600,000

-1,500,000

317,762

421,064

648,695

820,980

1,625,549

Table 5: Projected Cash Flow Analysis for Project B

Project B: The first year sales are assumed that the number of delicacies to be sold per day is 1700. Sales are expected to rise with the assumption of 15% growth per year. The average price per bread/delicacies is S$2.60 which is 44% mark up of the average cost per bread. The cost of sales is for first year and second year are total number of breads sold multiply by the average cost per bread which is S$1.1M and S$1.3M respectively. The cost of sales is expected to fall 6% in third year onwards with the assumption of the reduction in food spoilage. The initial investment in fixed assets is S$800,000 and because it will be worthless in five years, assumptions made that it loses value at the rate S$160,000 [(800,000/5)] each year. Straight-line depreciation used to get the depreciation cost.

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Name : K.Povenesan

Student ID : 1191543 PIFA Assignment 4

The reduction in cost of sales from year 3 onwards, reduction of 50% in advertisement & promotion expense and discontinue of R&D at year 3 resulting in the increase of profit before-tax cash.

Cash Flow Cash In-Flow Sales Revenue Cash Out-Flow Cost of Sales Depreciation Administration Expenses Advertising & Promotions Research & Development Selling & Distribution Expenses Sub-total of Cash out-flow Profit Before Tax Taxation Profit After Tax Depreciation Net Cash Flow fromOperation

CF0

CF1

CF2

CF3

CF4

CF5

–

2,102,400

2,417,760

2,780,424

3,197,488

3,677,111

– – – – – –

1,576,800 300,000 100,000 200,000 100,000 40,000 2,316,800

1,813,320 300,000 100,000 100,000 100,000 40,000 2,453,320

1,960,199 300,000 100,000 100,000 0 40,000 2,500,199

2,118,975 300,000 100,000 50,000 0 40,000 2,608,975

2,290,612 300,000 100,000 50,000 0 40,000 2,780,612

-214,400 -36,448 -177,952 440,000 262,048

-35,560 -6,045 -29,515 440,000 410,485

280,225 47,638 232,587 440,000 672,587

588,513 100,047 488,465 440,000 928,465

896,499 152,405 744,094 440,000 1,184,094

– – – – – 0

Investment Cash Flow Purchase of Machinery Purchase of Space / Factory Net Working Capital Contigencies

1,500,000 1,200,000 600,000 100,000

– – – –

– – – –

– – – –

– – – –

– – 600,000 –

Net Cash Flow fromInvestment

3,400,000

0

0

0

0

600,000

Net Cash Flow fromProject

-3,400,000

262,048

410,485

672,587

928,465

1,784,094

Table 6: Projected Cash Flow Analysis for Project C

Project C: The first year sales are assumed that the number of delicacies to be sold per day is 1700. Sales are expected to rise with the assumption of 15% growth per year. The average price per bread/delicacies is S$2.60 which is 44% mark up of the average cost per bread. The cost of sales is for first year and second year are total number of breads sold multiply by the average cost per bread which is S$1.5M and S$1.8M respectively. The cost of sales is expected to fall 6% in third year onwards with the assumption of the reduction in food spoilage.

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Name : K.Povenesan

Student ID : 1191543 PIFA Assignment 4

The initial investment in fixed assets is S$1,500,000 and because it will be worthless in five years, assumptions made that it loses value at the rate S$300,000 [(1,500,000/5)] each year. Straight-line depreciation used to get the depreciation cost. The reduction in cost of sales from year 3 onwards, reduction of 50% in advertisement & promotion expense and discontinue of R&D at year 3 resulting in the increase of profit before-tax cash.

6. Analysis of the Project Investment Five approaches being adopted for evaluating the capital budgeting decision of the projects. The decision to accept or reject a capital budgeting project depends on an analysis of the cash flow generated by the project and its cost. They are as follows: a. Payback Period

Alternative A

Year

0 1 2 3 4 5

Yearly Projected Cash Flow Accumulated Projected Cash Flow S$ -2,500,000 463,095 641,524 920,809 1,195,045 2,070,270 Payback Period (years):

S$ -2,500,000 -2,036,905 -1,395,381 -474,572 720,473 2,790,743 = 3 + (474572/1195045) 3.40

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Name : K.Povenesan

Alternative B

Year

0 1 2 3 4 5

Student ID : 1191543 PIFA Assignment 4

Yearly Projected Cash Flow Accumulated Projected Cash Flow S$ -1,500,000 317,762 421,064 648,695 820,980 1,625,549 Payback Period (years):

Alternative C

Year

0 1 2 3 4 5

S$ -1,500,000 -1,182,238 -761,174 -112,479 708,501 2,334,050 = 3+ (112479/820980) 3.14

Yearly Projected Cash Flow Accumulated Projected Cash Flow S$ -3,400,000 262,048 410,485 672,587 928,465 1,784,094 Payback Period (years):

S$ -3,400,000 -3,137,952 -2,727,467 -2,054,880 -1,126,415 657,679 = 4 + (1126415/1784094) 4.63

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Name : K.Povenesan

Student ID : 1191543 PIFA Assignment 4

b. Discounted Payback Period

Alternative A

Year

0 1 2 3 4 5

Yearly Projected Cash Flow

S$ -2,500,000 463,095 641,524 920,809 1,195,045 2,070,270

Discounted Cash Flow Accumulated Projected Cash 8.5% Flow S$ -2,500,000 426,816 544,946 720,908 862,314 1,376,824 Payback Period (years):

Alternative B

Year

0 1 2 3 4 5

Yearly Projected Cash Flow

S$ -1,500,000 317,762 421,064 648,695 820,980 1,625,549

Alternative C

0 1 2 3 4 5

Yearly Projected Cash Flow S$ -3,400,000 262,048 410,485 672,587 928,465 1,784,094

Period (years): c. Net Payback Present Value (NPV)

= 3 + (607430/862314) 3.70

Discounted Cash Flow Accumulated Projected Cash 8.5% Flow S$ -1,500,000 292,868 357,675 507,869 592,398 1,081,064

S$ -1,500,000 -1,207,132 -849,457 -341,588 250,810 1,331,874 = 3 + (341588/592398) 3.58

Payback Period (years):

Year

S$ -2,500,000 -2,073,184 -1,528,238 -607,430 587,616 2,657,886

Discounted Cash Flow Accumulated Projected Cash 8.5% Flow S$ -3,400,000 241,519 348,689 526,574 669,957 1,186,504

S$ -3,400,000 -3,158,481 -2,809,792 -2,283,219 -1,613,262 -426,758 = 4 + (356380/1502601) 5.36

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Name : K.Povenesan

A B C

Net Present Value (NPV)

CF0

CF1

CF2

CF3

CF4

CF5

Discount factor @ 8.5% Present Value

1.00 -2,500,000

0.92 426,816

0.85 544,946

0.78 720,908

0.72 862,314

0.67 1,376,824

Net Present Value Present Value

1,431,808 -1,500,000

292,868

357,675

507,869

592,398

1,081,064

Net Present Value Present Value

1,331,874 -3,400,000

241,519

348,689

526,574

669,957

1,186,504

Net Present Value

-426,758

d. Profitability Index (PI)

PI = PV of cash flows subsequent to initial investment Initial Investment

A

PI =

5,290,743 2,500,000 2.12

ALTERNATIVES

Alt.

Student ID : 1191543 PIFA Assignment 4

B

C

PI =

PI =

3,834,050 1,500,000 2.56 4,057,679 3,400,000 1.19

e. Internal Rate of Return (IRR)

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Project A

Year 0 1 2 3 4 5 IRR

Cashflows -2,500,000 463,095 641,524 920,809 1,195,045 2,070,270 23.78%

Project B

Student ID : 1191543 PIFA Assignment 4

Year 0 1 2 3 4 5 IRR

Cashflows -1,500,000 317,762 421,064 648,695 820,980 1,625,549 30.37%

Project C

Name : K.Povenesan

Year 0 1 2 3 4 5 IRR

Cashflows -3,400,000 262,048 410,485 672,587 928,465 1,784,094 4.71%

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Name : K.Povenesan

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7. Risk Evaluation

Before making any investment decision, it is advisable to evaluate the associated risk factors by taking into consideration of certain key elements. Based on risk evaluation done on each project, alternative A represents a moderate level risk for better option ahead of other projects. With proper mitigation activities, we could keep the risk at bay for successfulness of the project.

Table 7: Risk Evaluation for each project No

Identified Risk

P

PROJECT A I RISK

PROJECT B P I RISK

PROJECT C P I RISK

1

Competition with existing Bakery & Confectionery in the target place.

4

3

12

3

2

6

2

2

4

2

Demand potential: Location of facility that have a target group to cover the proposed production of this business

2

2

4

3

3

9

4

3

12

3

Inflation

3

3

9

3

3

9

3

3

9

4

Easy imitation of its products & business strategies by competitors

4

3

12

4

4

16

3

3

9

5

Equipment performance (e.g: machinery failures,oven not heating to temperature, mold malfunction)

2

2

4

2

2

4

3

3

9

6 7 8 9 10 11

Cost over-run Sponsor commitment Management & Labor Performance Payment Risk Interest Rates Force Majeure

4 4 3 1 3

3 4 3 1 3

12 16 9 1 9

4 4 3 1 3

4 4 3 1 3

16 16 9 1 9

4 4 4 3 3

4 4 3 3 3

16 16 12 9 9

3

3

9 97

3

3

9

3

3

9 114

Level of Risk P=Probability I=Impact Risk =P x I

Moderate

104 High

High

1 =Very Low 2 =Low 3= Moderate 4 =High 5 =Very High

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Name : K.Povenesan

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8. Recommendations & Conclusion

Project Investment Analysis

Project A

Project B

Project C

Preferable Project

Payback Period

3.40

3.14

4.63

Project B

1

Discounted Payback Period

3.70

3.58

5.36

Project B

2

Net Present Value ( NPV)

1,431,808

1,331,874

-426,758

Project A

3

Internal Rate of Return (IRR)

23.78%

30.37%

4.71%

Project A

4

2.56

1.19

Project B

5

Profitability Index WACC

2.12 8.50% 1

Assuming the payback period required is 4 years.

2

Assuming the payback period required is 4 years. Choose Highest

3 4

5

>than WACC due to lower IRR but Higher NPV Choose Highest

In the analysis to choose the best project amongst the 3 proposal, the above mentioned ratios and computations have been taken into account. The above summary outlines the figures attributed to each of the analysis methods and the preferred project by its applications. As noted, project C is not feasible amongst the three projects in all the areas of analysis leaving the option to both A and B. Recommendation of project based on analysis below; •

Payback period/Discounted Payback Period: It is assumed the company would require to recover it’s investment and capital within the first 4 years.

•

NPV: NPV represents the value that is added on in the implementation of the project. Therefore in this case Project C is not applicable as it is yielding a negative value. However between A and B, Project A would be considered the most feasible project as it is yielding a higher value to the company.

•

IRR: The IRR is computed in order to determine the profitability of the projects in the proposal. Therefore the choice would be between project A and B. However we will not be able to choose project B (holding the highest IRR) as a feasible project between the 2. This is due to the fact that the IRR is not a suitable analysis to be used to rate mutually exclusive projects but in a single project and it

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Student ID : 1191543 PIFA Assignment 4

feasibility. Therefore although the highest IRR is project B the more feasible project that would increase shareholders wealth is the Project A. •

PI : The rule of thumb in the project selection is that if the PI > 1 then we will accept the project. All the projects are feasible.

Therefore in conclusion the most feasible project will be PROJECT A as it fulfills most of the criteria and is able to expand the shareholders value within the company.

9. References

1. Atrill, Mclaney, Harvey & Jenner - Accounting an introduction 3 edition, Chapter 11. Cited on 21, 23, 25, 27 & 28 July 2009. 2. Ross, Westerfield & Jaffe and Jordan. Modern Financial Management: International Student Edition (8th ed ).New York: Mc-Graw-Hill

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