Background

Beauty and the Beholder, plc is a cosmetics manufacturer based in the UK$,$ which, despite being relatively new, has enjoyed significant success and achieved sales growth rates of over $20\%$ in the last five years.

It has now identified another growth opportunity which involves exporting its products to Asia and South America and this opportunity would double the size of the company both in terms of long term financing raised and in terms of sales. In order to pursue this opportunity, the company will have to build a new factory for which they have identified a site, and they believe the factory could be up and running in $2$ years.

Currently, Beauty and the Beholder, plc believes the level of risk of its activity is the same as the average level of risk for its industrial sector, resulting in a discount rate of $12\mathrm{.}64\%$ but there are currently differing views on the board of Beauty and the Beholder, plc on how this investment would affect that level of risk.

Financial Information

Beauty and the Beholder, plc has made the following assessment of the financials associated with this investment opportunity:

Feasibility study on the site of the new factory has been conducted for $1$million, of which half has been paid and the other half will be paid in six months time;

Required investment in acquiring the land and building the factory is $4$million, which will be spent $75\%$ now and $25\%$ at the end of this year

Sales are expected to be $750,000$ units in year one at an average price of $2\mathrm{.}5$ per unit split evenly between the two geographical areas

Unit sales are expected to grow at $25\%$ per year in Asia and $10\%$ per year in South America for the first $4$ years, after which they will stabilise, while prices are expected to remain unchanged in real terms for the whole period of the analysis;

Variable production costs will follow the following patterns:

o Materials $30\%$ of price in year one, decreasing by five percentage points in each of the following $3$ years, after which is stabilises;

o Labour $-20\%$ of price in year one, decreasing by $25\%$ in each of the following $2$ years, after which is stabilises;

o Other costs $5\%$ of price throughout the planning period

Administration costs are expected to be $15\%$ of sales in year one. They will remain at the same absolute value until year four, at which time they will increase by $10\%,$ and then will remain unchanged until the end of the planning period

Increase in working capital will be in line with increase in sales for the first three years and no change afterwards. Initial working capital is $0\mathrm{.}5$million;

The factory is expected to last for $20$ years and will be depreciated over that period of time.

It is not the companys intention to make any significant changes to its existing business and it normally uses a $7-$year planning period.

Inflation rate is expected to be $3\mathrm{.}5\%$ per year and the company pays Corporate Tax at a rate of $30\%.$ Beauty and the Beholder, plc has no special agreements with the Inland Revenue, and as such capital allowance levels follow the general UK rules.

Required:

You are required to present a report to the Board of Beauty and the Beholder, plc$,$ which answers the following questions:

$1.$ Identify the different sources of finance available to Beauty and the Beholder, plc in order to fund this project and the advantages and disadvantages of each

$2.$ Discuss what measure of return on capital Beauty and the Beholder should adopt to assess whether to proceed or not with this investment opportunity

$3.$ Assess whether the company should go ahead with this investment using Payback Period, Net Present Value and Internal Rate of Return, including a recommendation

$4.$ Given that it is highly unlikely that future economic and market conditions will be exactly as expected, meaning future assumed cash$-$flows are at risk, companies will further assess the feasibility of an investment projects using metrics such as scenario analysis, risk analysis or simulation. Identify the two variables you believe the outcome of the project will be more sensitive to$,$ conduct a sensitivity analysis and indicate whether this analysis will lead you to change the recommendation from question $3$ above.

$5.$ List $10$ questions you should ask in order to better assess the viability of this investment opportunity. The questions should address three types of potential problems with the analysis conducted, namely:

any items$/$issues forgotten at the start and therefore not included in the analysis;

any weaknesses$/$missing further analysis;

any additional issues $($marketing$,$ product, political, economic, etc.$)$ that can impact this analysis.