Company_Analysis_Guillernmo

Guillermo Furniture Corporate Finance 517 May, 2013 Guillermo Navallez has made handcrafted furniture for years in Sonora, Mexico. Recently Guillermo watched his profit margins shrink as prices fell and costs rose. This status change was caused by the influx of competitors and an increase in development into the Sonora area (University of Phoenix). The options for continued success must be determined for this independent furniture manufacturer. Analysis of alternatives available to Guillermo will be implemented. According to Investopedia, capital budgeting is defined as the process in which a business determines whether projects such as building a new plant or investing in a long-term venture are worth pursuing. Oftentimes, a prospective project's lifetime cash inflows and outflows are assessed in order to determine whether the returns generated meet a sufficient target benchmark. Guillermo has spent time analyzing the new competitors process and procedures. There are five steps of the capital budgeting process which are further classified into: 1. Maintenance projects 2. Cost-saving/revenue-enhancing projects 3. Capacity expansions in current businesses 4. New products and new businesses (Emery, Finnerty & Stowe, 2007) The company must recognize value of options to expand. Postpone or abandon a capital project. It must recognize signaling, which are the products and actions of competitors. The competition is using a high-tech approach that uses a computer controlled laser lathe to produce exact cuts in the wood. Highly automated, the plant uses very little labor as robots even perform the precise movement and assembly functions. The cost of the technology is immense, as is the reduction in the labor needed for production. In addition, the production can move between products quickly, and it runs on a 24-hour basis, as the shift-differentials are more than offset by the reduction in labor. One option for Guillermo is to convert production to the same model used by competitors. It would be expensive, but could also dramatically decrease production costs. A second option for Guillermo is to work in conjunction and move the mostly manufacturing business to predominantly distribution and retain some high-end custom work. Guillermo has the comparative advantage over the competitor. Guillermo also has a patented process for creating a coating for furniture. There is a market for the flame retardant, but not as much of a market for the finished coating. This would be a third option for business success and longevity. Weighted Average Cost of Capital (WACC) Investopedia defines WACC as a calculation of a firm's cost of capital in which each category of capital is proportionately weighted. All capital sources - common stock, preferred stock, bonds and any other long-term debt - are included in a WACC calculation. All else equal, the WACC of a firm increases as the beta and rate of return on equity increases, as an increase in WACC notes a decrease in valuation and a higher risk.The WACC equation is the cost of each capital component multiplied by its proportional weight and then summing: | Mortgage note payable and current portion of notes payable is: $ 936,628 + 29.238 = $ 965,866 @ 7.5% = 80.4% of capital and 6.03% WACC. Total Equity = $235,805 at 16% = 19.6% of capital and 3.145 WACC. Therefore total WACC = 9.17% Net Present Value (NPV) According to the text, NPV is defined as the present value of the expected future cash flows minus the cost. The market value of an investment differs from its cost by the investment’s NPV (Emery, Finnerty & Stowe, 2007). Potential differences in the value of a project between one firm and another undertaking the project are reflected in the expected cash flows rather than the cost of capital. A measure of discounted cash a in flow to present cash outflow to determine whether a prospective investment  will be profitable. 
NPV = C*t/(1 + r)' - C. where: C*t = return after period t, C. = initial investment, t = time period and r = discount rate.
Assign values to the variables in the project under scrutiny. This example uses a project that will return $200 after 2 years with an initial investment of $100, an interest rate of 3 percent and no risk. Enter the variables into the NPV equation. In this example:
NPV = $200/(1+.03)² - $10
 

 Solve for NPV. In this example:
NPV = $200/(1.03)² - $100 = $200/1.0609 - $100 = $188.52 - $100 = $88.52

(www.ehow.com) Summation Capital budgeting is necessary to best determine companies options for future success. Guillermo will risk his family and the business he conducted for years if the best option is not determined. When a few minor adjustments, adding a lathe machine decreasing cost for employee can keep this furniture store independent and a unique asset to this growing community. | | Reference: * www.cwu.edu/~youngm/FIN%20470/.../Chapter%209.ppt‎ * http://beginnersinvest.about.com/lw/Business-Finance/Personal-finance/Weighted-Average-Cost-of-Capital.htm * How to Calculate NPV by Hand | eHow.com http://www.ehow.com/how_6752791_calculate-npv-hand.html#ixzz2RzlFj0fU * Emery, D. R., Finnerty, J. D., & Stowe, J. D. (2007). Corporate financial management (3rd ed.). Morristown, NJ. Wohl Publishing Inc.. * Farlex Financial Dictionary. © 2012 Farlex, Inc. All Rights Reserved * University of Phoenix. (). Guillermo's furniture store scenario [Multimedia]. Retrieved from University of Phoenix, FIN571 website.