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Guillermo Furniture Store Alternatives

Essay by   •  December 12, 2011  •  Case Study  •  2,019 Words (9 Pages)  •  1,937 Views

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Guillermo Furniture Store Alternatives

Guillermo Furniture Store Alternatives

Guillermo furniture store has a location in the beautiful vacation spot, Sonora, Mexico. As a large furniture manufacturing company in North America, Guillermo had a profitable business with good supply of timber and inexpensive labor. With the arrival of a competitor, using hi-tech approach in the furniture business and rising cost of labor; Guillermo saw company profit margins shrink. For the hi-tech approach could provide customized furniture at very low prices. Realizing the threat to the business, Guillermo became open to alternative solutions to improve company's bottom line. Some of the alternatives for changing the direction of the business include a high-tech approach similar to the competition, consolidate into larger organizations by merger or acquisition, become a broker for the Norwegian company or even expand with a new product (University of Phoenix, 2011).

After weighing the options, Guillermo finds two alternatives interesting to become competitive and independent. For this purpose, there are two alternatives as well as forecast cash flow that impact financial and business aspects included in this writing suggested. This paper justifies the recommendation on the chosen alternatives with a three-year pro forma cash flow budget, a computation on the present value, and choice of an appropriate discount rate.

Alternatives

Guillermo is on the outlook for an option to provide substantial value to the company. After narrowing down the focus on the two alternatives, hi-tech and broker alternative; Guillermo realizes the net income from each project. The current situation is no alternative as it provides a negative net income. In view of a project similar to the high-tech approach of the competitor, Guillermo can produce customized furniture at a lower rate and better net income. With the broker alternative, using of the existing center as distribution center provides lower fixed costs such as less utility expenses, less benefit costs, and the least property taxes. However, the element of risk is higher with broker alternative because the lack of zero-sum game is possible with the existence of higher transaction costs and agency costs.

In capital budgeting, options are valuable and opportunity costs are useful to determine the value of the project (Emery, Finnerty & Stowe, 2007). Guillermo has to consider the current situation and analyze on the best solution. With capital budgeting decisions, the benefits of the projects must outweigh the costs to add value to the company. Hence, measuring the project's net present value (NPV) is necessary. This allows estimating the cash flow after projecting the initial investment, annual operating cash flows, and termination cash flows. An investment with positive NPV is considerable and in addition ranking under profitability index provide the choice.

Hi-tech approach is a valuable idea, an optimal alternative, and has future investment opportunities. Hi-tech incurs an operating lease for the equipments, which is purchasable in case of continuing the project, and the depreciation is tax- deductible. Conversely, the tangible asset has a lower transaction cost in case of abandonment, which is an unlikely situation. Again, the hi-tech provides the highest margin of 24% and better net income in comparison to other alternatives, equally important; the project's weighted average cost of capital (WACC) is another measurement useful for determining the useful as a financial benchmark for comparison with the other competitor and as a discount rate for calculating investments of similar risks.

The decision to exercise an option such as hi-tech approach took into consideration the values of the alternatives in analysis such that Guillermo does not incur an opportunity cost in choosing an alternative that was not the best.

Since their competitors are using a high tech approach providing furniture to the exact specifications at very low prices (University of Phoenix Simulation). This approach used by the Guillermo competitors has a high cost for its technology use. With this use the competitor can reduce its labor force thus decreasing the cost and passing the savings on to the customer. When looking at this sensitivity analysis that is one reason it was not the best alternative.

Cash Flow Budget

Planning for the financial outcomes year over year is on the basis of forecast and past year trending, to maximize the value of a company as well as support projects and change. Clearly, there are a variety of benefits to financial planning for a company including, standardizing assumptions through exposing inconsistencies in decision-making methods, planning for the future through orientation and project generation, and objectivity by not making assumptions explicit or based on politics or emotions (Emery, Finnerty & Stowe, 2007). Additionally financial planning supports employee development, supports contingency planning, and plans for financial borrowing for external lenders.

Cash budgeting, or cash flow budgets are the process of projecting and summarizing a company's cash inflows and outflows expected during financial planning (Emery, Finnerty & Stowe, 2007). Cash flow budgets display monthly cash balances, any short or long-term borrowing, and provides a high level overview of the all cash available per term. Typically, short-term plans utilize cash flow budgets, which base on sales forecasts. The amounts for the cash flow statement are typically taken from the income statement with the support from sales. The team will be reviewing and developing a cash flow statement for Guillermo Furniture store on a monthly basis for 2009 followed by annual cash flow statements for 2010, and 2011.

Guillermo has a forecast of sales prepared for the months of January through June for 2009. On the basis of these forecasts one can assume sales for the following six months of the year for 2009 to determine a month to month income statement for 2009. The forecast sales for the first six months for 2009 are:

January February March April May June

High-End 470 456 442 429 416 421

Mid-Grade 2460 2522 2585 2650 2716 2787

Further, analysts predict that sales will be 50% higher than the annual forecast. Hence, the adjustments are shown below:

50% increase January February March April May June

High-End 940 912 884 858 832 842

Mid-Grade 4920 5044 5170 5300 5432 5574

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