HomeGrown Company is a chain of grocery stores that are similar to indoor farmer's markets, providing fresh, local produce, meats, and dairy products to consumers in urban areas. HomeGrown is considering opening several stores in a new city, and has proposals from three contractors (Alpha, Beta, and
HomeGrown Company is a chain of grocery stores that are similar to indoor farmer's markets, providing fresh, local produce, meats, and dairy products to consumers in urban areas. HomeGrown is considering opening several stores in a new city, and has proposals from three contractors (Alpha, Beta, and Gamma companies) who would like to provide buildings for the new stores.
The amount of expected revenue from the stores will depend on the design of the contractor. For example, if HomeGrown decides on a more open floor plan, with less shelf space for products, revenue would be lower overall. However, if HomeGrown decides on a very crowded floor plan, it may lose customers who appreciate a more open feel.
As the project manager for HomeGrown, you are responsible for deciding which if any of the proposals to accept. HomeGrown's minimum acceptable rate of return is 20%. You receive the following data from the three contractors:
|
Proposal |
Type of Floor Plan |
Initial Cost if Selected |
Residual Value |
|
Alpha |
Very open, like an indoor farmer’s market |
$1,472,000 |
$0.00 |
|
Beta |
Standard grocery shelving and layout, minimal aisle space |
5,678,900 |
0.00 |
|
Gamma |
Mix of open areas and shelving areas |
2,525,960 |
0.00 |
You have computed estimates of annual
|
Proposal |
Estimated Average |
|
|
Annual Income |
Estimated Average |
|
|
(after |
Annual Cash Flow |
|
|
Alpha |
$313,094 |
$351,145 |
|
Beta |
272,019 |
461,411 |
|
Gamma |
620,249 |
717,120 |
You begin by trying to eliminate any proposals that are not yielding the company’s minimum required rate of return of 20%. Complete the following table, and decide whether Alpha, Beta, and/or Gamma should be eliminated because the average rate of return of their project is less than the company's minimum required rate of return.
Complete the following table. Enter the average
|
Proposal |
Estimated Average Annual Income |
Average Investment |
Average Rate of Return |
Accept or Reject? |
|
Alpha |
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|
Beta |
||||
|
Gamma |
You’ve decided to confirm your results from the average rate of return by using the cash payback method.
Using the following table, compute the cash payback period of each investment. If required, round the number of years in the cash payback period to a whole number.
|
Proposal |
Initial Cost |
Annual Net |
Cash Payback Period in Years |
|
Alpha |
|||
|
Beta |
|||
|
Gamma |
Even though you’re fairly certain that your evaluation and elimination is correct, you would like to compare the three proposals using the
Compute the net present value of each proposal. You may need the following partial table of factors for the present value of an annuity of $1. Enter amounts that represent
|
Present Value of an Annuity of $1 at Compound Interest (Partial Table) |
||
|
Year |
10% |
20% |
|
1 |
0.909 |
0.833 |
|
5 |
3.791 |
2.991 |
|
10 |
6.145 |
4.192 |
|
Alpha |
Beta |
Gamma |
|
|
Annual net cash flow |
|||
|
Present value factor |
|||
|
Present value of annual cash flow |
|||
|
Amount to be invested |
|||
|
Net present value |
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