Case Study Scenario – SOLGEN Z

Company Background

SOLGEN Z Limited is a new publicly listed company on the ASX that manufacturers and distributes hi-tech monocrystalline silicon/graphite encased solar storage panels to both domestic and global markets. The capital structure of the company is as follows:

$20,000,000 Ordinary shares issued, currently trading at $20.00

$10,000,000 Preference shares issued, currently trading at $13.30

$300,000,000 FV;   6.00% Corporate Bonds currently trading at $87.65

Ordinary shareholders are expecting to receive a dividend of $2.50 next year, with anticipated growth of 3.5% each year thereafter. The risk-free rate in the marketplace is 4%, the market risk premium is 8%, and the Beta of SOLGEN shares is 1.5.

The Preference shares pay a constant dividend of $2.00.

The Corporate bonds have five years to maturity with bond holders receiving the coupon rate paid six monthly (semi-annual).

Current Proposal

The company is experiencing strong and increasing growth due to their extremely efficient solar panels. The company’s current line of solar panels leads the market in helping customers save money on energy costs, while reducing their ‘carbon footprint’. The company believes the next rapid growth area will be in solar storage and the Board of Directors are committed to pursuing this new market. This investment will also maintain the company’s reputation as the market leader in innovation and product development in solar energy.

As general manager of the company’s capital budgeting department, the board has asked your team to evaluate a project for the SLX-2020, the ultimate solar storage system, which has the ability for customers to completely disconnect from the grid. The prototype model has so far cost $4,000,000 in research and development funds, and is now in beta testing, in readiness for full production.

Due to capacity constraints with their current production facilities, the company will need additional new plant which will be built on some of the company’s land which it owns; and the current market value of the land is $3,000,000. The project requires an initial capital investment (CapEx) of $30,000,000 to build a new plant and purchase relevant machinery & equipment. The investment will be depreciated (straight-line) over the life of the project which is estimated to be 5 years.

At the end of the project, the plant and equipment is expected to be worth $1,000,000 and the land is expected to be worth $4,000,000 (ignoring CGT and GST).

Anticipated sales are expected to be 5,000 units in the first year. Sales will increase in the next year (year 2) by 10%; and then due to new & aggressive competition, unit sales will then decline by 10% each year over the remaining life of the project. The company will produce units at a cost of $7,250 each and will sell them for $11,000 each. To supplement the production process, the company will need to purchase $5,000,000 worth of inventory (NWC) to commence production and that inventory will be depleted (or run down & returned to starting levels), during the final year of the project (by year’s end).

There are additional annual fixed costs of $1,000,000 and the company will need to hire an additional factory supervisor with an annual salary of $150,000. Total market survey & data research expenses (information gathering for the project analysis) to date; are $500,000. The company tax rate is 30% and is paid in the year following the year of income.

Capital Expenditure Investment Criteria

The Director’s   believe   the   company’s   risk   tolerance   and   investment   time   horizon   is important due to the rapid change in technology & competition becoming ready to hit the market.  As a result, the Board has adopted the following   decision   rules   for   approving   capital   expenditure:   

projects   need   to   have   a discounted cash flow greater than 50% of ‘CapEx’;  a minimum internal rate of return of 27.5%;  and a payback period of two & a half years or less.

Required:

1. Prepare a spreadsheet clearly showing the discounted cash flow for each year.  The calculations  must  include  the  NPV,  IRR  and  the  Payback  Period  of  the  project. Scenario analysis (3 cases) & Sensitivity analysis (2 cases) should be utilized, to fully justify your recommendations & decision. You should also demonstrate the WACC for the company, as well as each cost of capital/security, and the capital structure of the company. Spreadsheet presentation, functionality and ease of understanding & interpretation;  will also be graded (refer to the marking guide rubric). 

2.   Typed business report, making a recommendation whether to accept or reject the project, in regards of the financial analysis you have conducted above. Include ALL scenarios in the report.  Also a detailed summary analysis of the KEY factors that drive the project & give it the value it has. Highlight the vital elements or factors.

Consideration of broader business factors, the opportunities & threats analysis (SWOT) of the project; also to consider, the general ‘emission reduction targets’ andthe environment. Identify any political issues, policies or strategies that the company may face or benefit from in pur suing of this project; and explain a possible management plan to address such issues. (So you may want to include or refer to a PESTLE analysis).

The executive summary/introduction should contain concise reasons for your recommendation and a summary of your of key financial analysis.  

Your report must also contain a strong conclusion to justify your analysis of the project.