Financial Feasibility of the Business – Click to get a Free Solution

Discuss about the Financial Feasibility of the Business.

Answer:

Introduction

Mrs. Fanny who lives in Chicago has recently taken retirement and has received a sum of $475000 for 30 years of work with the pharmaceutical company. She has decided to start a new venture with the amount in hand. Mrs. Fanny wants to sell gourmet chocolates imported from France in the US markets. She will be purchasing the gourmet chocolates from Choc-O-LaySA an established company in France which is known for its fine chocolates with unusual and innovative flavors. Choc-O-LaySA will provide Mrs. Fanny exclusive rights to sell their products in USA. Mrs. Fanny will have to provide an upfront payment for the exclusive rights and the rights will be for 5 years. Her husband has decided to support her with her new business idea and has suggested to develop a financial plan for the feasibility of the business.

Breakeven Analysis

Breakeven Analysis is a method to find the revenue a business must generate such that the total revenue is equal to the total cost of the business. i.e. at Breakeven point there is no profit and loss.

It is given by Break even analysis =   (Gallo, 2014)

Credit Card cost = 1% of revenue = $12

Unit margin = 120 – 76.45 – 19.98 – 2 - 12 = $9.57

Rent = $5040

Fixed costs = $5250 + 6500 +3500 + 40800 + 5040 = 61090

Profit and loss statement

The Profit and loss statement can be divided into Operating revenue, Other revenue, Operating expenses, EBIT and Profit.

Operating revenue – The Operating revenue of the company is the revenue generated by the company from daily sales. Thus it is the main source of income of the business. In this case, the sale of gourmet chocolate to the customers via internet is the primary source of revenue and hence the operating revenue. The company was able to sell 5231.25 kg via internet at $120 per kg and hence the operating revenue = $627750.

EBIT: EBIT is earnings before interest and taxes. It is the earning of the company by reducing all the expenses from the revenue earned by the company to get the earnings of the company before it pays interest on loan (if any) and taxes . For the business EBIT is calculate by subtracting the operating expense from the operating revenue. Thus EBIT = 702150 – 557013.80 = $74262.20

Interest expense – It is the amount of money to be paid by the business as interest over the loan taken by the company. This amount is deducted from the EBIT before tax is implemented on the earnings as no tax is implemented on the interest. Mrs. Fanny has not taken any loan for the business. Hence the interest expense = 0

Balance Sheet

For any Balance Sheet, Assets = Liabilities + Shareholder’s Equity. (Averkamp, 2015)

The following is the balance sheet for Mrs. Fanny

CL or Currents Liabilities– The Currents Liabilities are all the liabilities the company needs to pay to its account holders in a short span of time (less than one year). Eg Salary, rent, accounts payable, etc. In this case Current Liabilities of the company = $159688.51.

NCL or Non Currents Liabilities – The Non Currents Liabilities of the company are liabilities which the company needs to pay back in a longer period of time (more than one year).. In this case Non Current assets of the company = $0.

Cash Flow Statement

The cash Flow Statement of a company tells in detail about the cash transactions of the company and helps in determining the cash present with the firm at any given point in time. In a business, the cash is used for operating activities (day to day operations of the business), investing activities (investment in long term assets like plant, property, machinery, etc.) and financing activities (purchase of shares, securities etc.)

The operating activities of the 1^st month are: Revenue, Cost of goods sold, rent, salary, credit card cost.

Since No revenue received this month, the cost of credit card = 0

Thus total cash flow in the operating activities = - (7232.44 + 420 + 3400 + 0) = - 11052.44

Market study = 6500

Rent advance = 1260

Conclusion:

The net cash flow value in the 1^st month is negative. i.e. the cash outflow is more than the cash inflows. The revenue for this month will be realized in the next month so the income is zero but the expenditure for the month takes place hence net operating cash flow is negative. In the investment activities the cash outflow takes place due to purchase of assets and hence net investing cash flow is negative. In the financing activities, the cash inflow takes place due to investment from the equity. 

Annual Cash Flow Statement

Discounted Cash Flow Analysis

The discounted cash flow method is used for the valuation of the project by taking time value of money into consideration. In Discounted Cash Flow Analysis, the cash flow all the future years of the project is estimated and the these cash flows are discounted to their present value using the discount rate. If the sum of the discounted cash flow is less than the initial investment by the company, the company should not go ahead with the project but if the sum of the discounted cash flow is more than the initial investment by the company then the company should take the project as it will be profitable for the company. (Stockopedia, 2012)

PV = present value = FV/ (1+r)ⁿ Where r is the discount rate and n is the number of years before the cash flow occurs, FV = future value of the cash flow.

Initial investment = 38788.66

Thus the net value of the project = -38788.66 + 37131.10 + 56259.62 + 40185.44 + 28703.89 + 20502.78 = $166272.82

Sensitivity Analysis

Thus it can be seen that the company will be able to recover the initial investment in 12 months and the profits will be much more than the profits earned at the current selling price. Hence the company should reduce the price.

Conclusion

Thus from the financial analysis I think Mrs. Fanny should go ahead with the venture as the business can breakeven in a year and generate profits for her and think that she should reduce her price by 10% so that profits are increased.

Recommendations

4. I think the company can reduce the shipping cost and bring efficiency in the distribution process to save on the spending.

5. In my view, investment in advertisement can help to increase the demand for the gourmet chocolate and hence the profitability of the business be increased.

References

Stockopedia. (2012). What is a DCF Valuation? Retrieved on August 5, 2016 https://www.stockopedia.com/content/valuation-101-how-to-do-a-discounted-cashflow-analysis-63489/