Capital Budgeting Analysis for Steel String Brewery

The report provides an analysis of the capital budgeting decision for Steel String Brewery. The company management is undecided on whether to bottle or not to bottle its operations. The method of analysis includes the use of Net present value (NPV), pricing strategies and determining whether the project is sustainable in the business long-run. Other analytical tools used include environmental scanning of the accommodation and food service industry where the Steel String brewery operates. The scanning tools incorporate, the SWOT analysis, Porters five forces analysis, PEST factors, and the stakeholders’ based ratios. The analysis is through theoretical review of the provided case study and the researched industrial literature. The detailed discussion provided show that the management should go ahead and buy the bottling equipment since it will speed up the business brewing process and as well as increasing the company beer production hence profitable in the long run. Otherwise, on the broad industrial analysis, Steel string brewery Ltd faces stiff competition from the already established brands such as Heineken. However, the business laws of the state of North Carolina have provided enough protection to Small brands like Steel String hence the sustainability of the business.  The recommendation for the management of Steel String include:

•    Managing the business operational cost to ensure that the business operates as a going concern

•     Brand differentiation to attract customer loyalty

•    Continuously engaging in corporate social responsibility to create awareness of the company brands 

Introduction

The case study analyses the Steel string brewery Ltd.  The company is just three year since its step up and is owned by three friends, Will Isley, the brewer, Andrew Scharffenberger, the business manager and Erick Knight, the planner for the events and promotion.  The company area of operation is Carrboro, North Carolina. The management of the company is undecided on several decision that they can undertake. The administration is undecided on whether to invest in the machinery and labor to start bottling the beer. The company is also undecided on which kind of pricing strategy they should use to maximize their profits. Lastly, the management wants to explore the best ways they can use to give back to the community through corporate social responsibility. The administration has to make a big decision on whether to bottle or not to bottle. The decision can be made using capital budgeting techniques such as the net present value. 

Part 1

Identify the problem that management needs to solve. What priority decision needs to be made? Make sure you describe the nature of the problem and why it is important; i.e., what impact will this decision have on the organization and other stakeholders?

The management of steel string faces several capital budgeting problems. The administration is undecided on whether to invest in the machinery and labor to start bottling the beer. The company is also undecided on which kind of pricing strategy they should use to maximize their profits. Lastly, the management wants to explore the best ways they can use to give back to the community through corporate social responsibility. The administration has to make a big decision on whether to bottle or not to bottle. The decision can be made using capital budgeting techniques such as the net present value. 

First, the management needs to make the decision on which type of bottling should be purchased for the brewery process. Scharffenberger reports that he found a machine that had two filling heads. The equipment has the capacity of filling the eight bottles per minute. Starting up the machine and getting all the process adjusted took roughly a half an hour. The machine requires the addition of two employees to keep it running. Hence, it is evident that the machine is not fully automated but still require the use of a workforce to operate it. Again, the automation process will assist the organization to brew approximately 50 to 60 cases in a day. Through consideration of the capital budgeting process, the machine requires initial invested capital of $ 40, 452. Other cash outflows include travel and accommodation cost for one night of 1,500 and the transport and labor-related cost of equivalent to $ 600 per month.  The capital budget for the project can be summarized as table 2.

 For the decision-making process, the management of steel string brewery will have to evaluate whether the there is an alternative for the bottling machine. Likewise, an in-depth analysis must be done find out whether there is a supplier who can sell the machine at the price that is lower than $ 40, 452. The company should also make a summary of the cash inflow and outflow that is expected from the project. This provision will enable the company to evaluate whether the project is worth being undertaken. Again, for the decision-making purposes the management should consider whether the company stream of cash flow will nearly meet the cost of installing and running the bottling machine.

Table 1: total capital summary for bottling machine equipment

Item

Amount

Cost of the equipment

$ 40, 452

Related acquisition costs

$ 1,500

Labelling machine

$ 1,750

Labor costs

$ 600

Total

$ 44,302

To summarize on the problem, the capital budgeting problem is vital to the organization since it will affect the net income of the company. If the bottling machine project is not planned correctly, the company is likely to experience a negative cash flow and thus not able to meets it’s operating working capital expenses. The failed plan may lead to the possibility of closure of Steel String Brewery

Part 2: Factors considered for decision making

SWOT analysis

SWOT analysis may be viewed as a simple but widely used in understanding the organization’s strengths weaknesses, opportunities, and threats. The merits can help Steel string brewers management to step the organization’s competition and marketing strategies. The administration can begin by defining the objective of the project and the internal and external factors that are vital in reaching the goal of the firm (Brooks, Heffner, & Henderson, 2014). The strengths will identify what Steel String can do better, the unique selling points, the perception of the competitors and the customers about the company strengths and the Steel competitive edge. Concerning the company weakness, the management should identify what the other brewers do better than the company, the elements of the business that add little value and then determines how the customers and the competitors perceive the business weakness. Opportunities involve the identification of the changes in the external environment that could favor the business (Brooks, Heffner, & Henderson, 2014). The management will also the current gaps in the market and the innovation that the organization can bring into the market. Steel String threats involve scanning the external environment to identify the factors that could negatively affect its operations. The company SWOT analysis can be as summarized in the table.

PEST analysis

PEST analysis involves the evaluation of the Steel String Company Political, Environmental, Social and technological environment. The study of these environments assists in the scan of the external macro environment in which the firm operates. Also, the PEST parameters are also applied in the evaluation of the steel market growth, position, and the direction of the steal String Company in the short-run.

Political factors. These stipulate the government regulations. For instance, the management must consider the State of Carolina business laws which allows only the small breweries firms to sell their products directly to the stores. Other political factors which should be considered during the decision-making process include employment laws, environmental regulations, and tax policies.

Economic factors. The beer industry is a mammoth but saturated. The industry is composed of the old players who have operated the business for several decades. These old companies compete among themselves for customers and shelf space for doing business. Also, these companies have expanded to the international level hence making them gain a competitive advantage over smaller firms like the steel string breweries. The economic factors will affect the company management decision when making the capital decisions and the general purchasing power of the beer consumers. The economic factors that affect business include, the interest rates, exchange rates, recession, inflation rats and demand, and supply. For example, Steel string brewery management will have to consider the interest rates and inflation when buying the bottling machine. The interest rate and inflation will affect the repayment of a loan advanced to the organization.

Social factors. These factors will affect the consumer needs and the expected size of the market for the beer products. Social factors that will affect the operations of Steel String brewery include population growth, age demographics, and attitudes towards health. Beer industry mostly gets a negative public opinion on social morals. Likewise, the industry is likely to experience opposition in the sale of different brewed brands. For instance, the religious and health organizations have led negative opinion and campaign on the products.

Technological factors. The beer industry depends heavily on technology for refining and distributing beer. The technology will assist the company to speed up the process and prevent the delays of the process. The management must obtain the best technology that will support them in a quick distillation process. Also, technological factors will affect barriers to entry, management makes or buys decisions and the investment in the innovation like automation, investment incentives and the rate of technological change.

Porter’s 5-Force Analysis

Porters five forces analysis was developed in 1979 by Michael E. Porter of Harvard school of business. The framework will assist the management of Steel String Company in assessing the competition strength and the position of the industry. The theory is structured on the concept that there are five forces which determine the market competition and attractiveness. The forces are essential in identifying the where the steel String powers lie within the market segment. It is also critical to the understanding of the organizations’ strengths and the opportunities (Dobbs, 2014). Steel five forces can be summarized as in the table.

The brewery five forces are;

Supplier power: An Assessment of how it is easy for suppliers to manipulate market prices. The company can consider the essential factors such as the number of the supplier of critical inputs, the uniqueness of their product or service, the relative size and the strength of the supplier and the product switching costs. The management should evaluate whether they have the alternative suppliers as it will assist them in bargaining for the favorable prices of the inputs and stock prices (Dobbs, 2014). As the company is considering the purchase of bottling equipment, they should consider whether there are suppliers who can offer at a price which is below $ 40452. Likewise, the company should evaluate whether there are alternative supplies for packaging material, the shorter bottle, the labels, the crown, and the cardboard. The availability of a labeling machine must also be taken into deep consideration since it also requires a significant amount of capital to acquire. Steel String must also consider whether after that sale services being offered by the clients. Such kind of services will help in reducing the relative price of the inputs. For instance, they should look for a supplier who offers product discounts and caters for transportation costs.

Buyer power: The strategy evaluates whether the Steel String Brewery Company has the power to manipulate the market. The plan here must be developed regarding the company position in the market. For example, whether they play the role of a leader or a niche. Regarding the case study, Steel String may not easily move the prices in the market since the firm production is in tiny scale compared to the primarily established brewing companies within North Carolina. However, Big Mon IPA which is the company leading brand is liked by most the customers. Admittedly, the company can take the advantage and stock more of the product to increase the sale of the product (Dobbs, 2014). The company can take advantage of the North Carolina legislation which allows the small brewers like Steel String to deliver their products directly to the stores while restricting the restricting the large brewers to use the middlemen. Concerning the provision, the company develops strong distribution channels to reach most of its customers thus leading to an increase in company sales. The company must also evaluate the buyers switching costs when fixing the prices for their beer. The other factors which the firm should consider include, the number of buyers in the market, the importance of the buyers to the business and cost of the buyer switching from one product to another.

Competitor rivalry: The strategy involves the evaluation of the competitors in the market. It consists in studying the number of competitors, the size of the competitors, the industry rate of growth and the degree of product differentiation. For the Steel String to amicably challenge the competitors in the market, they should provide several lines of differentiated products (Gans & Ryall, 2017). The company prospered in the range of business by offering several brands such as Big Mon IPA, Rubber Room Session, and the high alcohol beer brands.

The threat of substitution: The brewery industry consists of firms that offer almost similar products. The customers can, therefore, switch to other competitors or brands at a very lower cost. Steel String must accordingly not charge higher prices to retain the existing customers (Gans & Ryall, 2017). Also, the management attracts the customers through other methods such as providing for free entertainment and offering products consumed along beer at lower prices.

Threat of new Entry: Mostly profitable business will attract new entrants in the long-run. Steel String management must be prepared to encounter the challenge through operation on the economy of scale basis and creation of customer brand loyalty.

Stakeholder’s analysis

Stakeholder analysis is crucial in the management of the business stakeholders. The stakeholders of Steel String brewery Ltd are the company employees, management, suppliers and general customers. The analysis is vital in weighing and balancing the interest of the various business participants to ensure that their interest are also considered.  For the case analysis, the stakeholder analysis is key during the preparation phase of the project budgeting to get the stakeholders regarding the new project that is likely to be undertaken by the organization.

Part 3

Based on your analyses, identify up to 3 (three) possible decisions you might make. In other words, what are three reasonable alternatives that management might choose to pursue to help solve this problem? (Don’t forget to consult Chapter 7 as you consider strategic options.)

The three decision that must be made on the analysis that has been made revolve around capital budgeting strategies, strategic pricing and the decision on the project sustainability. First, net present value (NPV) will be used to evaluate the decision on whether the acquisition of the bottling machine will be beneficial to steel String brewery. The capital budgeting method measures the stream of the company cash flow present value and weighs if the can comfortably settle the initial capital amount that has been invested in the company. Mostly, the incoming and the outgoing cash flow also represent the benefit and the cost of the outflow from the project. Another important parameter that the company must consider alongside the net present value is the time value of money. This will enable the management to know how to manipulate capital interest at the point of obtaining either debt or equity to finance the bottling equipment budget

The time value of money stipulates that the value of a dollar today is worth more than the value of the dollar tomorrow. For instance, the management of Steel string brewery wants to source an amount equivalent to $ 44,302. Let’s assume that assume the company wants to decide to postpone the project and carry out in the next three years. The management can use the time value of many to make a reasonable project decision. With the stipulated prevailing interest rate of 5. 92%. The future value of the project can be calculated as in table 2

Table 2: Project future value and NPV

Item

Amount

Present value amount

$ 44,302

Interest rate

5.92%

Period

3 years

Interest paid

Pr(1+r)^3=$ 44,302(1+0.059)=52,615

Interest payable

(52,615-44,615)=$ 8,000

As supported by the calculation in table 2, technically cash flow of nominal value results in a different effective value cash flow which renders the future value less valuable over time. Consequently, the management must be aware that the present value cash flow expected from the purchase of the bottling equipment is worth more than its future value.  Besides, the time value of money other parameters in the economy such as exchange rates, legal and political factors must be considered when deciding the long-run.

Through the connection of the time value of money and the net present value. The Management of Steel String can compute the net present value by determining the expenses or the negative cash flows from the initially invested amount and the stream of cash that is expected to be received from the bottling machine over its stipulated lifespan. After obtaining the equipment stream of cash flows, the respective present values will be computed by discounting its future value at the company stipulated interest rate of 5.90%. The net present value will be represented by summing up all the project discounted cash flows and then the initial invested amount is subtracted from the sum of the present values to determine the viability of the project. Net present value can either be positive or negative.  A positive net present value stipulates that the plan is viable for investment while a negative net present value will show the management investing in the bottling equipment will not help the company to generate profit..

Part 4.

Part 4: Decide which the best option for the organization is and create an action plan for that option.

The best option for the company is to purchase the bottling equipment. This because the decision will take the company business to the next level.  The machine will increase the efficiency of the brewing process and has a capacity of producing 50 to 60 cases every day. Consequently, as a result of the increased production capacity, company sales are also likely to increase. The action plan for undertaking the project is as presented in the table.

Table 3: The project action plan

Action

Objective

Accountable

Responsible

Reviewing of alternatives

To ensure that the best alternative is picked

Project manager

Project Manager

Brainstorming on the resources to fund the project.

To find the cheapest alternative means of finance

Project manager

Management

Procuring for the bottling equipment

To find the best procurement chain

Management

Project manager

Installing the bottling equipment

To properly monitor the operation of the machine

Technician

Technician

Employing the machine operators

To provide support to equipment

Management

Management

Conclusion

The Steel String bottling project is viable and the management should take the initiative to invest into the project. With the consideration, the company is likely witness an increase in sales and net profit.

References

Brooks, G., Heffner, A., & Henderson, D. (2014). A SWOT analysis of competitive knowledge from social media for a small start-up business. The Review of Business Information Systems (Online), 18(1), 23.

 Dobbs, M. (2014). Guidelines for applying Porter’s five forces framework: a set of industry analysis templates. Competitiveness Review, 24(1), 32-45.

Gans, J., & Ryall, M. D. (2017). Value capture theory: A strategic management review. Strategic Management Journal, 38(1), 17-41.