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
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WORD COUNT: 2095 words

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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3. Project Alternatives

Alternatives / Project Description Location

Setting up bakery and confectionery and sales outlet at
A Marina Bay
Singapore Integrated Resort
Kent Ridge Rd, Bukit
Setting up bakery and confectionery and sales outlet at
B Timah Rd, Outram
National University of Singapore campuses.
Rd
Setting up bakery and confectionery factory with
Sengkang Industrial
C distribution centre to all others retailer and hypermarkets
area
(like Giant, Carrefour, NTUC and etc.)
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.

Alternatives
Capital Investment
A ('000) B ('000) C ('000)
Purchase of Machinery 800 800 1,500
Purchase of Space /
–
Factory 1,000 1,200
Net Working Capital 600 600 600
Contigencies 100 100 100
Total 2,500 1,500 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 =4.69 %
Company’s Beta , β 0.88

Market portfolio premium,

Where RM =13.7 %

Cost of Debt =BLR +0.75%

=5.25%
Corporate Tax =17%

WACC = D (1 - T) * Rd + E * Re
D +E D +E

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%) * 5.25%+ 1785000 * 12.62%
3570000 3570000
= 8.5%

Weighted average cost of capital (Project B)

WACC = 1234000*(1 - 17%) * 5.25%+ 1234000 * 12.62%
2468000 2468000
= 8.5%

Weighted average cost of capital (Project C)

WACC = 2467000*(1 - 17%) * 5.25%+ 2467000 * 12.62%
4935000 4935000
= 8.5%

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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 CF0 CF1 CF2 CF3 CF4 CF5

Cash In-Flow
Sales Revenue – 2,080,500 2,392,575 2,751,461 3,164,180 3,638,808

Cash Out-Flow
Cost of Sales – 1,314,000 1,511,100 1,633,499 1,765,813 1,908,843
Depreciation – 160,000 160,000 160,000 160,000 160,000
Administration Expenses – 100,000 100,000 100,000 100,000 100,000
Advertising & Promotions – 200,000 100,000 100,000 50,000 50,000
Research & Development – 100,000 100,000 0 0 0
Selling & Distribution Expenses – 10,000 10,000 10,000 10,000 10,000
Sub-total of Cash out-flow – 1,884,000 1,981,100 2,003,499 2,085,813 2,228,843
Profit Before Tax – 196,500 411,475 747,962 1,078,368 1,409,964
Taxation – 33,405 69,951 127,154 183,323 239,694
Profit After Tax – 163,095 341,524 620,809 895,045 1,170,270
Depreciation – 300,000 300,000 300,000 300,000 300,000
Net Cash Flow fromOperation 0 463,095 641,524 920,809 1,195,045 1,470,270

Investment Cash Flow

Purchase of Machinery 800,000 – – – – –
Purchase of Space / Factory 1,000,000 – – – – –
Net Working Capital 600,000 – – – – 600,000
Contigencies 100,000 – – – – –

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 CF0 CF1 CF2 CF3 CF4 CF5

Cash In-Flow
Sales Revenue – 1,613,300 1,855,295 2,133,589 2,453,628 2,821,672

Cash Out-Flow
Cost of Sales – 1,116,900 1,284,435 1,388,474 1,500,941 1,622,517
Depreciation – 160,000 160,000 160,000 160,000 160,000
Administration Expenses – 100,000 100,000 100,000 100,000 100,000
Advertising & Promotions – 100,000 50,000 50,000 50,000 50,000
Research & Development – 100,000 100,000 0 0 0
Selling & Distribution Expenses – 15,000 15,000 15,000 15,000 15,000
Sub-total of Cash out-flow – 1,591,900 1,709,435 1,713,474 1,825,941 1,947,517
Profit Before Tax – 21,400 145,860 420,115 627,687 874,155
Taxation – 3,638 24,796 71,420 106,707 148,606
Profit After Tax – 17,762 121,064 348,695 520,980 725,549
Depreciation – 300,000 300,000 300,000 300,000 300,000
Net Cash Flow fromOperation 0 317,762 421,064 648,695 820,980 1,025,549

Investment Cash Flow

Purchase of Machinery 800,000 – – – – –
Purchase of Space / Factory – – – – – –
Net Working Capital 600,000 – – – – 600,000
Contigencies 100,000 – – – – –

Net Cash Flow fromInvestment 1,500,000 0 0 0 0 600,000

Net Cash Flow fromProject -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 CF0 CF1 CF2 CF3 CF4 CF5

Cash In-Flow
Sales Revenue – 2,102,400 2,417,760 2,780,424 3,197,488 3,677,111

Cash Out-Flow
Cost of Sales – 1,576,800 1,813,320 1,960,199 2,118,975 2,290,612
Depreciation – 300,000 300,000 300,000 300,000 300,000
Administration Expenses – 100,000 100,000 100,000 100,000 100,000
Advertising & Promotions – 200,000 100,000 100,000 50,000 50,000
Research & Development – 100,000 100,000 0 0 0
Selling & Distribution Expenses – 40,000 40,000 40,000 40,000 40,000
Sub-total of Cash out-flow – 2,316,800 2,453,320 2,500,199 2,608,975 2,780,612
Profit Before Tax – -214,400 -35,560 280,225 588,513 896,499
Taxation – -36,448 -6,045 47,638 100,047 152,405
Profit After Tax – -177,952 -29,515 232,587 488,465 744,094
Depreciation – 440,000 440,000 440,000 440,000 440,000
Net Cash Flow fromOperation 0 262,048 410,485 672,587 928,465 1,184,094

Investment Cash Flow

Purchase of Machinery 1,500,000 – – – – –
Purchase of Space / Factory 1,200,000 – – – – –
Net Working Capital 600,000 – – – – 600,000
Contigencies 100,000 – – – – –

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

Year Yearly Projected Cash Flow Accumulated Projected Cash

Flow

S$ S$
0 -2,500,000 -2,500,000
Alternative A

1 463,095 -2,036,905
2 641,524 -1,395,381
3 920,809 -474,572
4 1,195,045 720,473
5 2,070,270 2,790,743

Payback Period (years): = 3 + (474572/1195045)

3.40

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Name : K.Povenesan Student ID : 1191543 PIFA Assignment 4

Year Yearly Projected Cash Flow Accumulated Projected Cash

Flow

S$ S$
0 -1,500,000 -1,500,000
Alternative B

1 317,762 -1,182,238
2 421,064 -761,174
3 648,695 -112,479
4 820,980 708,501
5 1,625,549 2,334,050

Payback Period (years): = 3+ (112479/820980)

3.14

Year Yearly Projected Cash Flow Accumulated Projected Cash

Flow
S$ S$
0 -3,400,000 -3,400,000
Alternative C

1 262,048 -3,137,952
2 410,485 -2,727,467
3 672,587 -2,054,880
4 928,465 -1,126,415
5 1,784,094 657,679

Payback Period (years): = 4 + (1126415/1784094)

4.63

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b. Discounted Payback Period

Year Yearly Projected Cash Flow Discounted Cash Flow Accumulated Projected Cash
8.5% Flow

S$ S$ S$
0 -2,500,000 -2,500,000 -2,500,000
Alternative A

1 463,095 426,816 -2,073,184

2 641,524 544,946 -1,528,238
3 920,809 720,908 -607,430
4 1,195,045 862,314 587,616
5 2,070,270 1,376,824 2,657,886

Payback Period (years): = 3 + (607430/862314)

3.70

Year Yearly Projected Cash Flow Discounted Cash Flow Accumulated Projected Cash
8.5% Flow

S$ S$ S$
0 -1,500,000 -1,500,000 -1,500,000
Alternative B

1 317,762 292,868 -1,207,132

2 421,064 357,675 -849,457
3 648,695 507,869 -341,588
4 820,980 592,398 250,810
5 1,625,549 1,081,064 1,331,874

Payback Period (years): = 3 + (341588/592398)

3.58

Year Yearly Projected Cash Flow Discounted Cash Flow Accumulated Projected Cash
8.5% Flow
S$ S$ S$
0 -3,400,000 -3,400,000 -3,400,000
Alternative C

1 262,048 241,519 -3,158,481

2 410,485 348,689 -2,809,792
3 672,587 526,574 -2,283,219
4 928,465 669,957 -1,613,262
5 1,784,094 1,186,504 -426,758

= 4 + (356380/1502601)
c. Net Payback
Present Period
Value(years):
(NPV)
5.36

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Net Present Value (NPV) CF0 CF1 CF2 CF3 CF4 CF5
Alt.
Discount factor @ 8.5% 1.00 0.92 0.85 0.78 0.72 0.67
Present Value -2,500,000 426,816 544,946 720,908 862,314 1,376,824
A
Net Present Value 1,431,808
Present Value -1,500,000 292,868 357,675 507,869 592,398 1,081,064
B
Net Present Value 1,331,874
Present Value -3,400,000 241,519 348,689 526,574 669,957 1,186,504
C
Net Present Value -426,758

d. Profitability Index (PI)

PI = PV of cash flows subsequent to initial investment

Initial Investment

5,290,743
PI =
A 2,500,000
2.12
ALTERNATIVES

3,834,050
PI =
B 1,500,000
2.56

4,057,679
PI =
C 3,400,000
1.19

e. Internal Rate of Return (IRR)

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Year Cashflows
0 -2,500,000
1 463,095

Project A
2 641,524
3 920,809
4 1,195,045
5 2,070,270
IRR 23.78%

Year Cashflows
0 -1,500,000
1 317,762
Project B

2 421,064
3 648,695
4 820,980
5 1,625,549
IRR 30.37%

Year Cashflows
0 -3,400,000
1 262,048
Project C

2 410,485
3 672,587
4 928,465
5 1,784,094
IRR 4.71%

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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

PROJECT A PROJECT B PROJECT C
No Identified Risk
P I RISK P I RISK P I RISK
Competition with existing Bakery &
1 4 3 12 3 2 6 2 2 4
Confectionery in the target place.

Demand potential: Location of

facility that have a target group to
2 2 2 4 3 3 9 4 3 12
cover the proposed production of
this business
3 Inflation 3 3 9 3 3 9 3 3 9
Easy imitation of its products &
4 4 3 12 4 4 16 3 3 9
business strategies by competitors

Equipment performance (e.g:

5 machinery failures,oven not heating 2 2 4 2 2 4 3 3 9
to temperature, mold malfunction)
6 Cost over-run 4 3 12 4 4 16 4 4 16
7 Sponsor commitment 4 4 16 4 4 16 4 4 16
8 Management & Labor Performance 3 3 9 3 3 9 4 3 12
9 Payment Risk 1 1 1 1 1 1 3 3 9
10 Interest Rates 3 3 9 3 3 9 3 3 9
11 Force Majeure 3 3 9 3 3 9 3 3 9
97 104 114
Level of Risk Moderate High High
P=Probability 1 =Very Low
I=Impact 2 =Low
3=
Risk =P x I
Moderate
4 =High
5 =Very
High

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8. Recommendations & Conclusion

Preferable
Project Investment Analysis Project A Project B Project C Project
1
Payback Period 3.40 3.14 4.63 Project B
2
Discounted Payback Period 3.70 3.58 5.36 Project B
3
Net Present Value ( NPV) 1,431,808 1,331,874 -426,758 Project A
4
Internal Rate of Return (IRR) 23.78% 30.37% 4.71% Project A
5
Profitability Index 2.12 2.56 1.19 Project B
WACC 8.50%
1
Assuming the payback period required is 4 years.
2
Assuming the payback period required is 4 years.
Choose
3
Highest
4
>than WACC due to lower IRR but Higher NPV
Choose
5
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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Name : K.Povenesan 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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