The Super Project

WAC Report

Submitted By:
Group 9
Sameer Kalamkar (P15018)
Himanshu Agrawal (P16002)
Amit Dhalia (P16015)
Sunil Kakarla (P16024)
Dhruv Sonagara (P16052)

Date of Submission: 10/12/2016

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Table of Contents
Memo...............................................................................................................2
Executive Summary.........................................................................................3
Situation Analysis............................................................................................5
Problem Statement..........................................................................................6
Options............................................................................................................6
Criteria for evaluation......................................................................................6
Evaluation of Options.......................................................................................6
Recommendation.............................................................................................8
Action Plan.......................................................................................................8
Exhibits............................................................................................................9
Exhibit 1........................................................................................................9
Exhibit 2........................................................................................................9

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Memo
Date: March 10th, 1967
From: Group 9, Consultant
To: Mr. J.C. Kresslin, Corporate Controller
Subject: A full report on the feasibility of Super Project

Please find enclosed within a report to determine the future course of actions
regarding the Super Project.

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Executive Summary
General Food Corporation is in dilemma whether to go ahead with the Super
Project or not. If company is going ahead, it has three alternatives to
evaluate the project. Each alternative is using ROFE and payback criteria for
evaluation. Each evaluation basis is providing significantly differing results
and the company is not sure which option is providing the most relevant
data.
ROFE and payback are not satisfactory criteria for evaluating a project
investment (Refer to Exhibit 1). Each alternative, is then evaluated based on
the NPV (Net Present Value). Based on the NPV calculations, it is
recommended that General Food Corporation should not proceed with the
Super Project as the NPV is negative for every other alternative.

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Situation Analysis
Super, the new instant dessert, based on a flavored, water soluble, agglomerated
powder is to be released in 4 flavors. It is estimated that chocolate flavor would
dominate the sales with 80 % of the total sales. Capital investment for this project
would be $200,000 which involves $80,000 for building modifications and $120,000
for machinery and equipment.
If General Foods chooses to launch Super in the market, following are the
advantages and disadvantages of the same:
Advantages:
1. General foods, by introducing Super product in the market can capture
10% share of the total dessert market (as per a test market analysis). This share
would majorly be from growth in the total market share.
2.
Currently, Jell-O agglomerator is not running with full capacity so the
available capacity can be used to produce Super product.
Disadvantages:
1. Based on the test market experience, introducing Super leads to the
erosion of the sales of Jell-O by 20%.
If General Foods chooses not to launch Super in the market, following are the
advantages and disadvantages of the same:
Advantage:
1.
General Foods can save a fixed capital of $653 million by not launching Super
project.
Disadvantages:
1.
General Foods has spent $360 million on test marketing which would become
a sunk cost.
2.

The excess capacity of Jell-O agglomerator will be idle.

If General Foods consider option of launching Super Product into market, it has
following alternatives to follow for the evaluation of investment:
Incremental basis:
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This is imperfect because it excludes the cost connected to the utilization of the
available capacity by Super Project from Jell-O. These expenses ought to be
incorporated as they are opportunity costs, so the choice to consider those costs as
sunk expenses can be eliminated. Additionally, this alternative does not consider
any of the incremental overhead expenses brought about because of launching
Super project, therefore, not recognizing all cash flows.
Facilities-used Basis:
This alternative effectively perceives the opportunity costs for the idle capacity.
However, it does not consider the future overhead charges. This option neglects to
consider all cash flows and is not a strong technique for settling on capital
budgeting decisions.
Fully allocated Basis:
This is most comprehensive alternative as it considers both the components
mentioned above. Nevertheless, this option incorporates the test promoting costs
which, as said above, are sunk expenses and should be avoided.

Problem Statement
Should General Foods Corporation go ahead with the launch of Super or not? If yes,
which of the available alternatives are to be used for valuing the Super Project?

Options
1.
2.
3.
4.

They should launch Super and evaluate the project using:

Incremental basis technique
Facilities-used basis technique
Fully allocated basis technique
They should not launch Super

Criteria for evaluation

(Refer to Exhibit 1)
1. ROFE
2. Payback period
3. NPV

Evaluation of Options
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1. Incremental basis:
a. ROFE: 63%
Based solely on ROFE, this alternative can be considered as the actual
ROFE is significantly greater than the required ROFE of 20%. But, as
mentioned above, ROFE is not a good measure for evaluating the
feasibility of a project. So, a decision cannot be made based solely on
ROFE.
b. Payback Period: 7 years
Based solely on Payback period analysis, this alternative can be
considered as the actual payback period is lower than the required
payback period 10 years. But, as mentioned above, calculating payback
period is not a good measure for evaluating the feasibility of a project. So,
a decision cannot be made based solely on payback period calculation.
c. NPV: $270.9 (Refer to Exhibit 2 for calculations of NPV)
NPV is a better measure than ROFE and Payback period as it overcomes
the drawbacks of the two mentioned above (Refer Exhibit 1). Based solely
on NPV, this option is considerable. But, this calculation of NPV does not
consider the overhead costs as well as the opportunity costs from the
erosion of the Jell-O. Therefore, it is obvious that the NPV for this
technique would be positive due to the exclusion of the above-mentioned
costs.
Hence, this option is not recommendable.

2. Facilities-used basis:
a. ROFE: 34%
Based solely on ROFE, this alternative can be considered as the actual
ROFE is significantly greater than the required ROFE of 20%. But, as
mentioned above, ROFE is not a good measure for evaluating the
feasibility of a project. So, a decision cannot be made based solely on
ROFE.
b. Payback Period: 7 years
Based solely on Payback period analysis, this alternative can be
considered as the actual payback period is lower than the required
payback period 10 years. But, as mentioned above, calculating payback
period is not a good measure for evaluating the feasibility of a project. So,
a decision cannot be made based solely on payback period calculation.
c. NPV: -$80.5 (Refer to Exhibit 2)
Based solely on NPV, this option is not advisable. And as NPV is a better
criterion for evaluation, we reject this option.
3. Fully allocated basis:
a. ROFE: 25%
Based solely on ROFE, this alternative can be considered as the actual
ROFE is significantly greater than the required ROFE of 20%. But, as
mentioned above, ROFE is not a good measure for evaluating the
feasibility of a project. So, a decision cannot be made based solely on
ROFE.
b. Payback Period: 7 years

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Based solely on Payback period analysis, this alternative can be

considered as the actual payback period is lower than the required
payback period 10 years. But, as mentioned above, calculating payback
period is not a good measure for evaluating the feasibility of a project. So,
a decision cannot be made based solely on payback period calculation.
c. NPV: -$271 (Refer to Exhibit 2)
Based solely on NPV, this option is not advisable. And as NPV is a better
criterion for evaluation, we reject this option.

4. They should not launch Super:

a. ROFE: Not applicable here as there are no funds employed for the
project.
b. Payback period: Not applicable here as there is no investment made
that needs to be paid back.
c. NPV: This option will save the investment of $200,000 towards the
packaging machinery required for the Super project. Moreover, it will
also save the $453,000 which consists of Supers pro rata share of the
Jell-O machinery usage.
Based on above figures, this option seems to be quite lucrative for
General Foods Corporation, as saving costs is always better than investing
it in some project that gives us a negative NPV.

Recommendation
Based on the evaluation of all the options above against their criteria, the option of not
going ahead with the Super project is the most appropriate one.
Rationale for the recommendation above:
ROFE and payback period are not satisfactory criteria for evaluating the project. So
solely based on NPV, we recommend the option of not going ahead with the Super
project, as all the other options besides this have negative NPV (except the first option,
which we reject as it does not consider all the relevant cash flows for calculating NPV.

Action Plan
General Foods Corporation should concentrate only on their current projects and should
not consider about the Super project.

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Body

Exhibits
Exhibit 1
ROFE (Return on Funds
Employed)
This gives an understanding
of when initial investments
can be recouped
This index ignores timing of
cash flows, size of cash flows,
span of project

NPV (Net Present Value)

Payback

NPV considers time value of

money, that is dollar today has
a value more than dollar
tomorrow
A small change in the discount
rate will have significant effect
on final output, but
nevertheless is superior to
ROFE and Payback period
calculation as it overcomes
their limitations

Payback tells, how rapidly a

project returns the initial
investment back to the
company.
It ignores the cash flow after
the payback period is
reached

Exhibit 2
Financial analysis
1958

1959

1960

1961

1962

1963

1964

1965

1966

1967

Average price

31.50

45.50

62.31

87.81

76.50

84.06

85.75

83.69

72.50

73.13

Payout

50%

52%

52%

52%

55%

57%

60%

58%

56%

56%

PAT+Depn. (m)
Cpex (m)
Debt/Value

59
28
6.1%

68
24
3.8%

76
35
2.5%

85
40
1.7%

93
42
1.8%

103
57
1.6%

110
70
1.1%

115
54
1.7%

126
65
2.9%

133
59
3.7%

ROE

16.7%

17.1%

17.6%

17.4%

17.2%

17.4%

17.1%

16.3%

16.5%

16.2%

ROE
1-b
Growth rate

16%
44%
7.0%

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Div. yield
rE
Cost of capital
Tax
rate

Jell-O fac. used:

Building
Agglomerator
Total shared
facilities

3.0%
10.0%
10%
49%

Value
200
640

Super
Share
2/3
1/2

Amoun
t
133
320
453

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