Analysis of Expansion Options for Golden Limited UK: Research Paper

Executive Summary

This paper gives the analysis details of the expansion options for Golden Limited UK, a subsidiary of Award Group of Brazil. The firm deals in the provision of a range of financial such as the investment property funds for Small and Medium Enterprises (SMEs) and has been in operation for the past 20 years. However, with the company experiencing frequent cash flow problems and, consequently, being over-dependent on the mother company located in Brazil, the Finance Director is considering incorporation of systems that promote proper bookkeeping and stimulate the firm's expansion in general. The plan includes the adoption of a New Information System and the introduction of new products in the market. For the first section, the firm is considering Major Package and Major Promo methods of building the information system while for the second bit, the firm is considering the introduction of either the Single Tool Set (STS) or the Multi-Tool Set (MTS) into its European market.

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Since the firm wants an option that will not only prove to be efficient but also profitable in the long run, this report presents the analysis based on present estimated costs of the systems and the items using various analysis tools like Net Present Values and the Breakeven Analysis. It also gives the probable sources of the finances for the expansion plan and gives the rationale for the choice of the mentioned financial tools in the analysis. Finally, considerations for proper implementation of business growth as well as the recommendations to the firm on the best alternatives have been given.

Introduction

In the business world, it is important for any business that wants to stay long enough in operation to maintain a consistent and adequate finance base. For the subsidiary entities, overdependence on the mother firms on finance supply may disrupt the business operations at certain durations. Additionally, every firm should keep track of its cash flow to ensure that it is sound and can support all the business expenses promptly. It is, therefore, appropriate that the business not only expand its operations through additional investment avenues but also ensure proper cash flow model in the said ventures. The expansion bit allows the business to increase its market share, a move that directly leads to the increment in the sale revenues of the business if the operational and fixed expenses are kept to some appropriate minimum but critical values.

In the case study of Golden Limited UK, a subsidiary of Award Group of Brazil that deals in provision of a wide range of financial services like investment property funds for Small and Medium Enterprises (SMEs), there are problems of overdependence on the mother company for financing and the company's finance director is willing to explore means of solving the problem. Moreover, the company is experiencing cash flow problems. As part of the solution, investment in new ventures has been proposed to not only boost the firms' cash profile but also increase its market share and customer base. As part of this, the business proposes to start a New Service Hub and introduce two new systems, namely Single Tool Set (STS) and Multi-Tool Set (MTS) into its European market. Also, the company considers introducing a new modern system for maintaining its information using two alternatives with investments running throughout a five-year duration. This paper will provide an analysis of the two investment options for the new information system to decide the right one using the Present Net Value (NPV). For the investment project, the paper will provide a detailed breakeven analysis to determine the most profitable item and the duration needed for each product introduced to steer the business into profit status. Based on the findings, appropriate evaluations, conclusions, and recommendations will be made, and the right direction for business operation provided.

Literature Review to Support the Accounting Models Used

There are several methods of financial budgeting for investment portfolio analysis. The popular ones include payback, Accounting Rate of Return (ARR), Internal Rate of Return (IRR), and Present Net Value (NPV). However, going by the findings of Wnuk-Pel (2014), it is noteworthy to state that the NPV is the most preferred of them all for the large firms. NPV gives the difference between the present values of the future cash inflows and the present value of the initial outlay, discounted at a value proportional to the firm's cost of capital. This forms the basis of the use of this method for the Golden Limited case study in deciding between Major Package and Major Promo investment alternatives. For the method, the cash flows for each particular period are calculated and expressed in both nominal forms as well as the cost of capital. If not in the stated form, the real cash flow and real discount rate should be used. At this stage, the effects of the non-cash expenses of the project, such as depreciation and amortization expenses should be isolated from the project cash flows. Appropriate treatment of finance costs and inflation should be largely taken into account. In particular, the cash flows should exclude the costs of financing because it is already included in the discount rate. The other key factors for consideration in the investment appraisal are the discount rates and the riskiness in the cash flows of the project, according to Lee (1988). The discount rate used should be reflective of the risks of the projects and is usually got by subjective or pure-play approaches, as stated by Ross et al. (2005). The NPV method has advantages such as its recognition of the time value of money, its absolute measurement of profitability, recognition of all the cash flows arising from the project over its useful life, its consistency towards shareholder wealth maximization, and its fulfillment of the value-additively principle.

Another crucial tool is the breakeven analysis that is used to determine the point in time of operations at which the business will no longer operate with a loss. The breakeven analysis will be applied in the Golden Limited case scenario to evaluate the New Service Hub Project. This point is usually called the breakeven point, where the business's incomes from sales can cover all the fixed costs and expenses. From it, the total sales amount that the business needs to make before beginning to realize a profit can be got and hence relevant decisions made to steer the business towards profit-making status. The business can also find proper ways of cutting down on its fixed expenses to achieve profitability business status within the shortest time from the start of business operations.

Sources of Funding

At this particular point in time, Global Limited should consider various forms of expansion financing arrangements. The firm should consider the ability of the method settled upon to support a continuous and efficient cash flow without disruptions thought the entire project duration. There are two broad classifications of the sources - Internal and external sources of funding. To begin with, the business can consider internal source such as plowing back some of the internally generated funds from its main offices in Brazil. This will ensure that the business only suffers the forgone interest costs should it have saved its profits in a financial institution. Secondly, the business can consider external sources such as going for bank loans and other lines of credit. Under a similar arrangement, the firm can consider taking an installment loan with spread out equal payback amounts spanning the entire project period. This will enable the business to finance the loan as long as it starts generating some income.

Additionally, due to its multinational status, the business can consider using a letter of credit to obtain similar loans from international financial institutions and pledge to refund over the project duration using installment terms. Still, under the banks as the source of financing, the business can apply for bank overdrafts that will allow it to spend money to finance the project in an expedited manner without limits maybe during the durations when the business has not started making profits. When the first profits have started been realized, the business can then start simply financing the overdraft without much financial strain. Thirdly, trade credit can be an appropriate means of financing the project considered that it aims at expanding the business. This can be achieved by entering agreements with the suppliers and service providers for the project to be paid later after the project has started generating some profits.

Although it can prove to be expensive over the entire period of the implementation of the project, it proves to be flexible since the firm will not be strained so much to pay on the spot for the supplies and other fixed expenses from the services that support the project. Finally, the business can consider finances from its shareholders, the public investors (angel investors) or the government agencies that will be willing to invest in the business for the particular project. These sources will provide sources of funding for which the business will not be so much pressurized to pay back but to advance certain ideals of the investor. For instance, the government can agree to finance the project based on its ability to create many jobs for the citizens then be repaid in the future after the main objective has been achieved. Also, rich communities of computer scientists or large companies in the information and communication sector can extend funding to the business to see the actualization of the improvement or introduction of a particular technology within the project.

Investment Appraisal

To perform the investment appraisal, the methods of Present Net Value (NPV) and breakeven analysis will be applied. The first part involves determining the most appropriate investment option for the new information system between the Major Package and Major Promo options. The cash flows for each of the years will be calculated based on the realistic assumptions, and a suitable discount applied to calculate the NPV. The formula applied here is given by:

NPV=CF0+CF11+R1+CF21+R2+CF31+R3+CF41+R4+CF51+R5 where NPV is net present value, CF represents cash flow, R represents the discount rate, and the subscripts 0, 1, 2, 3, 4, five are for respective years.

To select the most appropriate investment method, the NPV value is used. If NPV is greater than 0, the investment model is ideal and is recommended for adoption, but if NPV is less than 0, the investment method is inappropriate and is hence rejected. If used to determine the most viable investment project between two mutually exclusive events, the one with the highest NPV value is usually selected since it is usually able to increase the firm's share greatly.

To the second part, determining the venture that will earn the firm the most between Single Tool Set (STS) and Multi-Tool Set (MTS) requires the application of the breakeven analysis. Here, the breakeven point (Breakeven units and costs) will be determined from the breakeven charts that will be prepared using Microsoft Excel. The option that gives the most breakev...