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Che Guevara - Java for the Revolution
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Assignment Task
You have developed a chain of 10 cyber cafes near university campuses like Wits, UCT, UJ, Rhodes and Stellenbosch. Your business concept is to serve Java to the budding revolutionaries, the caviar communists and limousine liberals that live in these vanguards of social change. Smoking is of course prohibited indoors, but outside your cafes the gentle sweetness of clove cigarettes and patchouli scents the air. Marxist slogans are incorporated into the names of chic, soy-based, mocha drinks. Computer terminals allow young manifesto writers to find and comment upon the latest conspiracy theories. Gluten-free brownies are served. All coffees are fair-trade, their flavors untainted by globalism, that hideous scourge so often hoisted on the backs of the innocents by greedy, money-grubbing, warmongering agents of that hegemonic evil, corporate America.
In spite of the fact that money is the root of all evil, you are highly profitable. You have decided to expand you operations by openning new cafes.
You plan to add another 3 cafes each year for the next 4 years so that there will be 22 cafes in all. You lease the space for each cafe for R180,000 per year and you spend R800,000 to build each cafe to your specifications. Construction for 2005 is on schedule and you will have 13 cafes fully operational by the end of the fiscal year.
When a café opens, the R800,000 expenditure is depreciated at 10% per year straight line for book purposes. In addition, each cafe has 20 days of inventories on hand and is able to get 30 days credit terms from its suppliers. You estimate that every cafe you open adds R300,000 per year to your SG&A expense.
It takes 12 mouths to build out each cafe during which you incur lease expenses (and the additional SG&A expenses) but earn no revenue at that site. You expect that, once a cafe opens its doors, revenues flow at an annual rate of R1,000,000 per café with a gross margin of 80%. You maintain a cash balance of 4% of sales for working capital purposes. Accounts receivable and accounts payable are immaterial. The income tax rate is 28%. You have a line of credit at a bank that allows you to borrow up to R10 million at an interest rate of 15%. You paid a special dividend on Dec 31, 2004, but the bank will not allow you to pay dividends if your line of credit is drawn down.
The most recent balance sheet and income statements are:
| Balance sheet | Dec 2003 | Dec 2004 |
| Share capita | 5,000,000 | 5,000,000 |
| Retained earnings | 2,330,000 | 1,521,096 |
| Loans | ||
| Total capital | 7,330,000 | 6,521,096 |
| Fixed Assets | 7,200,000 | 6,400,000 |
| Cost (original) | 8,000,000 | 8,000,000 |
| Acc dep | 800,000 | 1,600,000 |
| Current assets | 430,000 | 326,575 |
| Debtors | 150,000 | 109,589 |
| Inventory | 200,000 | 136,986 |
| Cash | 80,000 | 80,000 |
| Current Liabilities | 300,000 | 205,479 |
| Creditors | 300,000 | 205,479 |
| Overdraft | ||
| NCA | 50,000 | 41,096 |
| Net Assets | 7,330,000 | 6,521,096 |
| Income statement | 2004 |
| Sales | 10,000,000 |
| COS | 2,500,000 |
| GP | 7,500,000 |
| SG&A | 3,000,000 |
| Rentals | 1,800,000 |
| Depreciation | 800,000 |
| PBIT | 1,900,000 |
| Interest | |
| PBT | 1,900,000 |
| Tax | 532,000 |
| PAT | 1,368,000 |
Questions
Draw up a set of proforma financial statements (income statement, balance sheet and cash flow statement) for each of the years 2005 through 2009.
1. How large was the dividend you paid on 31Dec. 2004?
2. Estimate the amount of financing you will need to meet your expansion plans assuming all of your projections are accurate.
Assumptions:
1. It takes 12 months to build each cafe and it produces no revenues during the year it is constructed, although rental (R180,000 per cafe) and incremental SG&A (R300,000 per cafe) start when construction starts.
2. Depreciation does not start until the cafe produces revenues.
3. For simplicity, assume that interest charge in year t is based on the balance of the bank loan at the end year t - 1. (I.e., if the bank loan for 2003 is R100. then the interest payment in 2004 is R15.)
This exercise is designed to familiarise you with the mechanics of financial analysis. After you have built the pro formas, please do the following:
1. Assume a growth rate of 3% and a discount rate of 25% (Don't worry about where these numbers come from) and calculate the NPV of the revolutionary endeavor.
2. A VC offers you R1 million for a 20% equity stake in your company, discuss the merits of this offer.
3. You decide to introduce a loyalty card to those revolutionaries who consume exsessive amounts of esspresso. Your reasoning behind this is to try and retain the support of your customers in a very competitive market. For every 10 esspressos purchased the revolotionary shall get one free. You estimeate that 10% of your sales comes from such customers. How will this decsion effect your NPV? What would be the effect on your NPV if you didn’t offer the loyalty card and your customers decided to go and revolutionise elsewhere?
4. If you offered the loyalty card on a cash upfront basis with the same 10 for 1 offer, what would be the effect on your NPV assuming a “breakage” of 5% (breakage implies that the upfront payment for the card does not get used).
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