Reference no: EM133491602

Case: Dan Branson is a farmer in Abbotsford, British Columbia. A major part of Dan's farm is blueberries. Dan is entrepreneurial and ambitious. He is considering opening the processing of blueberries into blueberry jams in an abandoned barn nearby. Dan is an experienced and very passionate farmer but has no finance or even business background. He invited you as a consultant to help him evaluate the project. Here is the data you and he have managed to collect so far. The processing equipment would cost $295,000, will be good for 5 years, and after 5 years will need to be demolished and replaced since will no longer produce high-quality jam. With this new product being launched (Dan named it "Merry Berry Blue"), some time will be required to gain market share in grocery stores. Sales of the first year are planned to be 12,000 jars, doubling with market engagement in year 2 and a 20% increase every next year. Dan talked to Choices and Whole Foods, and they indicated the price for a jar they are willing to pay: $14. They also mentioned that due to inflation expectations, they are going to increase their retail prices by 3% per year and they are comfortable if Dan increases his prices as well. You and Dan estimated that variable costs will be about 30% of the price. Lucrative business! Also, due to inflation, they are expected to be increasing 3% per year. Dan will hire 2 employees for 2 first years and then one more employee starting year 3 as production increases. Dan is looking at average salaries in Abbotsford and $40,000/year seems reasonable. Also, you expect that the salaries will need to increase 3%/year due to inflation. The abandoned barn is for rent, and the rent is $2,500/month. As the owner of the barn was very excited to make some money on otherwise hopeless asset, the contract assumes that the rent is not going to be increased for all the 5 years it will be signed for. Dan will need to spend $20,000 on marketing - meetings with retailers, promotions, testing campaigns, collaboration with influencers. Also, it is expected that inflation will cause these costs to increase 3% per year. The retailers never pay in advance. Based on the tentative agreements, the accounts receivable by the end of every year will be equal to 30% of the revenue. Dan is going to negotiate with suppliers as well so that the accounts payable are equal to 20% of costs of goods sold. Dan will need an inventory of jars and some blueberries which is estimated $7,000 before the start and 10% of revenue during the production years. You defined that an alternative investment of similar risk would bring Dan a return of 15%. The government supports farmers, and Dan's income tax is 13%.

Your report to Dan should contemplate the following questions and problems:

Question 1. NPV and IRR analysis.

Question 2. Analysis using other project evaluation criteria that you learned from the textbook (payback, discounted payback, breakeven point, profitability index, degree of operating leverage) and explain what they mean in terms of this project, and how it will influence your decision.

Question 3. Analysis of the sensitivity of this project to sales and another parameter of your choice (you only need to consider NPV and IRR for the analysis).

Question 4. If you look at all your analysis above, what will your final recommendation and major considerations be? What risks would you recommend Dan pay special attention to?