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INTRODUCTION
New Heritage Doll Company is a firm that has ventured into Doll production which has
sought to extend its brand in order to broaden its market framework and more
importantly capitalise on high levels of customer loyalty. The vice president of the
Company, Emily Harris is to forward her project proposal to the Budgeting Committee
for evaluation. The Vice-president’s objective for proposing the project stood out based
on potential to strengthen the Company’s division of production and to drive future
growth. Emily Harris has to produce a compelling project to avoid the committee to
decline the proposal.
Basis of assessment
There are two projects between which the company will have decision option to accept
or drop the proposal. The method of project evaluation would be based on discounting
cash flows (DCFs) and thereafter determining the Net Present value (NPV) of each of
the proposed project. The project proposal with the positive and highest NPV would be
acceptable for investment. If the project has a positive NPV suggests that such a project
is generating more cash than is required to service the debt and to provide the
appropriate returns to the firm’s shareholders and this cash accrues solely to the firm’s
shareholders. If the firm projects generate a negative NPV then the project is not
feasible.
New Heritage Doll Company managed to produce a capital budgeting structure in order
to evaluate the revenue generated in the Doll industry. It is clearly evident that, a
segment of the Doll industry generates the income progressively with an increasing rate
of 4.6%. It is a project that has a going concern as illustrated;
The Doll industry Company revenues outlays: market for doll toy and game industry
year 2008 2009 2010 2011 2012 2013
Cash
outlays
$(000) 42 43.93 45.95 48.06 50..27 52.5
Cash flows forecast is used to capture the incremental effect of a proposed project in
order to acknowledge the breakeven point and profit or loss time frame
If the company continues with its investment in for toy and game segment it is going to
experience the economies of scale and have high operating profits.
However, for a company to embrace another project proposal it has to oversight its
financial capacity to fund the project .Meaning for any project which does generate
insignificant revenues the Company must cultivate the capital rationing. Similarly, the
Company must consider some factors in the assessment of project’s risk. Factors
considered in the assessment of a project’s risk include;
(a)Whether the project product’s required new traders or consumers who are willing to
accept the goods or services rendered by the Company
(b)Where the project proposal requires high level of the fixed costs, the project to be
appraised is at very high risk considering such costs do not generate high returns.
PROBLEM IDENTIFICATION
The Heritage Doll Company is appraising two proposed projects that are; Design My
Doll and Match My Doll Clothing. The Vice president must have a compelling reasons
and factors to influence the Budgeting Company to accept the project for
implementation.
(a) The products produced do fully match all season clothing for the young girls and
their preferred doll;
(c) It was the best time for the expansion due to its popularity
(a)The Companies products would have high correlation with the consumers
(b)The Company’s doll can be customized based on the tastes and prefers by the
consumers
(e)The Company has the potential to strengthen and the future growth
The Company is also limited to take this project due to the following reasons for
proposal;
Match my
Doll
clothing 625 625 800 1470 3520
Design my
Doll 841 360 4610 (1000) 5811
This means that the Design my Doll has got higher Total cost by $ 2291 than the Match
my Doll Clothing. If Company uses the total cost to appraise these projects the Match
Doll clothing would be feasible for acceptance since it has less of capital invested on it
yet much returns would be realised. Design my Doll would be rejected due to its high
costs of investment.
Critically, the prudent way to evaluate the Company’s feasibility in order to invest on it is
by analysing the returns or the operating profits. If the firm’s is to experience some
losses the Company should reject such a proposal otherwise accept the proposal.
However, if the firm is operating at a breakeven point the Company may have the option
to forecast whether it is a going concern.
Presentation of DCFs and arguments for assumptions Match My Doll Clothing Line
Total cost= $ 3,520,000
Operating profit
Year $(000) PVIF,9% PV
4555.09
IRR=a+(A/A-B *a-b)%)
IRR=12%(1945.1/1945.1-2267.44) * 7% -12%)
=0.0362
3.6%
Operating profit
Year $(000) PVIF,9% PV
8569.95
Design my Doll
PVIF12%
(1201) PV TRY 7%
0.01035
=1.035%
Conclusively, both of the projects are feasible but Design my Doll has the higher Net
Present value $ 238.86 than the Match My Doll Clothing. This means that the Company
would accept Design My Doll for its investment. It again means that this project, Design
My Doll generates high cash flows compared to the other, match my doll clothing. High
returns is for the company would be realized, and therefore the projects that the Vice
President, Emily Harris would go with is Design my Doll. One of the key distinctions
between the two projects, Match My Doll Clothing and Design My doll is that the two are
mutually exclusive projects. These are projects are those whose cash flows are related,
they do have the same function and they thus compete with one another. This means
that the acceptance of one project eliminates from further consideration other projects.
Working Capital Assumptions
Minimum Cash Balance % of Sales
3% x 14360= 3% x 20222=
Design My Doll 3% x 6000= 180 430.8 606.66
Sensitivity analysis
9%=be a
Pv9%
2093.69
IRR=9%(2093.69/2093.69-1945.1)*(12%-9%))
=3.8%
DESIGN MY DOLL
Let
12% be b
9% be a
Npv = 5623.84
IRR=9%{5623.84/5623.84-5329.96 * (12%-9%))
=0.0517
=5.17%
The internal rate of return is the most critical method to determine the decision option
for accepting the project proposal. In this case Design my Doll again has the highest
IRR meaning it has the highest operating rate of returns with the shortest payback
period of the cost of capital and therefore it is opted to be accepted.
Design My Doll is best project proposal to be accepted instead of Match My Doll by the
Budgeting Committee since it has the higher Net present value, Higher IRR and the
shortest payback period as it is computed above.