Introduction:

On November $20,2023,$ Matt Dylan, the CFO of MM$2$ Corporation, is preparing for the

November meeting of the project expenditure committee $($PEC$).$ Dylan is one of the five

executive officers who are members of the PEC. Ten projects for this meeting represented nearly

$$300$ million in capital expenditure requests. With the fiscal year$$s end approaching in January,

there was a need to determine which projects best fit MM$2$s future growth and capital

investment plans, with the knowledge that these plans, if adopted, would be shared early in $2024,$

with the board and investment community. In reviewing the ten projects before the committee, it

was clear to Dylan that five of the projects, representing about $$200$ million in requested capital,

would demand the more significant part of the committee$$s attention and discussion during the

meeting.

The PEC was keenly aware that MM$2$ had been a strong$-$performing company in part because of

its successful investment decisions and continued growth. Moreover, MM$2$ management is

committed to continuing the company$$s growth strategy of investing in approximately $100$ new

projects annually. Each investment decision would leave long$-$term implications for the company

as an underperforming project would drag on earnings and be challenging to turn around without

significant investments of time and money. Whereas a top performing project would add

financial and strategic value for years to come.

Project Expenditure Approval Process:

The PEC comprises a team of top executives who meet monthly to review all capital project

requests $($CPRs$)$ over $$100,000.$ CPRs were either approved by the PEC or$,$ in the case of

projects larger than $$50$ million, require approval from the board of directors. Project proposals

varied widely and included remodeling, relocating, rebuilding, R&D$,$ information technologies,

closing an existing store, and building a new store. A typical PEC meeting involves the review of

$10$ to $15$ CPRs$.$ All the proposals were considered economically attractive, as any CPRs with

questionable economics were usually rejected at the lower levels of review. In the rare instance

when a project with a negative NPV reached the PEC, the committee may consider the project in

light of its strategic importance to the company.

PEC meetings last several hours as each project receives scrutiny from the members. The process

was designed to be rigorous because the PEC recognized that capital investment could

significantly impact the company's short$-$term and long$-$term profitability. In addition to the large

amount of capital at stake, approvals and denials also had the potential to set precedents that

would affect future decisions. For example, the committee might reject a proposal with a positive

NPV if the investment amount requested was much higher than usual and, therefore, might create

a troublesome precedent for all subsequent requests. Despite how much the projects differed, the

committee was usually able to reach a consensus decision for the vast majority of them.

Occasionally, however, a project led to such a high degree of disagreement within the committee

that the CEO made the final decision.

Projects typically require $12$ to $24$ months of development before being forwarded to the PEC for

consideration. The committee considers several factors to accept or reject a project. An

overarching objective was to meet the corporate goal of adding $100$ new investments per year

while maintaining a positive image. Projects also needed to fulfill various financial objectives,

starting with providing a suitable financial return measured by discounted cash flow metrics.

Other financial considerations included profit, earnings per share impacts, total investment size,

impact on sales of other nearby locations, and sensitivity of NPV and IRR to sales variations.

Projected sales were determined based on economic trends and demographic shifts but also

considered the risks of entering new competitors and competition. Lastly, the committee attempts

to keep the project approvals within the capital budget for the year. If projects were approved

more than the budget, MM$2$ would likely need to borrow money to fund the shortfall. Adding

debt unexpectedly to the balance sheet could raise questions from equity analysts as to the

increased risk to the shareholders and the ability of management to project the company$$s

funding needs accurately.

Other considerations include tax and real$-$estate incentives from local communities and area

demographics. MM$2$ typically purchases properties where it built stores, although leasing was

occasionally considered. Population growth and affluent communities were attractive for the

retail side of its business. However, these factors also invited competition. Occasionally, MM$2$

would strategically build a new store to block other retailers despite marginal short$-$term returns.

When deciding whether to open a new store, the PEC was often asked to consider alternative

store formats.