Investment Decision Making

SVENSKA LIVSMEDEL AB

Svenska Livsmedel AB is a foods corporation based in Stockholm Sweden. ${?}^1$ The board of directors of Svenska Livsmedel must consider and approve the firm's capital budget for $2023$ from a final list of eleven project proposals. Many projects proposed by managers at several facilities were initially submitted to the firm's capital budgeting committee. These project proposals were further analyzed and scrutinized by the firm's capital budgeting committee. The committee has now finalized the proposed $2023$ project list and has thus submitted eleven project proposals to the board of directors for final consideration for the $2023$ capital budget.

Due to external factors, the directors have unanimously chosen to limit the capital spending budget for $2023$ to SEK $1\mathrm{.}7$ billion $($SEK is Swedish Kronor$).$ The SEK $3\mathrm{.}2$ billion total cost for all eleven proposals does exceed the constrained capital budget for $2023.$ The company policy is driven by a goal to maximize shareholder value with its investment policy. The company policy states that capital budgeting tools based on Net Present Value or NPV are the only tools that can measure the amount of shareholder value or wealth created by any project.

As the capital budget is limited to SEK $1\mathrm{.}7$ billion $($SEK $1700$ million$),$ the final capital budgeting decision enacted by the board of directors must choose the optimal collection or bundle of projects that maximize the Net Present Value or wealth created given the limited capital budget of SEK $1\mathrm{.}7$ billion. The Profitability Index $($PI$)$ scales the NPV by the size of the project $($e$.$g$.,$ NPV per $ spent$),$ and is the method to be used to choose the best bundle of projects given the limited capital budget $-$ rank projects from highest to lowest PI and choose from the top on down until the budget is consumed.

Svenska Livsmedel has a formal policy that establishes the risk$-$based cost of capital or discount rate used to analyze projects as shown in the table below. The Excel sheet supplied for this case lists the classification of each proposed project. The Excel sheet also contains the cash flows of every project.

$\backslash$table$[[\backslash$table$[[$Project$],[$Classification$]],\backslash$table$[[$Classification or type of$],[$project$]],\backslash$table$[[$Cost of capital $($hurdle$],[$rate$)]]],[1,$New product or new markets,$12\%$