Carl Fredrickson started a sandwich shop immediately upon graduation from colleg
ID: 430082 • Letter: C
Question
Carl Fredrickson started a sandwich shop immediately upon graduation from college. The shop serves wraps with a twist: Carl’s lets customers choose from one of 7 main ingredients (either meat or vegetarian offerings); any of 10 different toppings; one of 5 wrap types; and then the piece de resistance, 30 different types of sauce ranging from sweet to semi- hot to melt-your-tongue-off hot. The total number of sandwich combinations is over 10,000 end sandwiches.
The shop did well from the first day it was open because customers loved Carl’s sauces—many customers came in just for his special pepper chocolate sauce, which was spicy with just a hint of sweetness. The shop was primarily run by Carl and one of his best friends in the first year of operation. Sales for the first year were $150,000; sales for the second year were $280,000. Carl has been planning an expansion for the coming year. Table 10.18 shows the projected sales for this year (year 0) and the following seven years. He has two expansion options. He can lease a new facility in which to locate the shop, a 2,000- square-foot space that could be expanded by 2,000 square feet in steps of 1,000. Alternatively, he can lease a 2,000-square-foot space with no option to expand, but then open another restaurant location in another part of town.
Carl has been quoted a price of $350,000 to open a 2,000-square-foot facility. Each expansion of that facility to add a 1,000-square-foot addition will cost an additional $100,000. The alternative approach, opening a single 2,000-square-foot facility and then opening new facilities as needed, requires an investment of $300,000 for each 2,000-square-foot facility. Carl’s operating costs for labor, utilities, equipment, and other expenses are 40 percent of his sales. The maximum capacity of a single 2,000-square-foot facility is $400,000 per year, so Carl must open a new facility or expand the existing facility when sales hit this number. Any new restaurant or expansion has a lead time of one year from the time Carl approves the idea to the time when the facility is up and running.
TABLE 10.18
Projected Sales
Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7
$280,000 $350,000 $420,000 $490,000 $550,000 $600,000 $645,000 $695,000
2. Should Carl go with the option for one facility that can be expanded as needed, or should he plan to open one fixed-size restaurant and add new restaurants incrementally as needed? With either approach, when should Carl make expansion decisions?
4. Carl has used the used the option of opening one facility which can be expanded as needed: Calculate the projected net present value of the proposed capacity expansion strategy.
Explanation / Answer
2) Carl should plan to open one fixed-size restaurant and add new restaurants incrementally for expansion decisions becuase that its having lower cost better than expand 2000 square feet
2,000- square-foot space that could be expanded by 2,000 square feet in steps of 1,000 project cost:
To open a 2,000-square-foot facility =$350,000
Add:
1,000-square-foot addition will cost an additional= $100,000.
Operating costs for year 0 Sales is $280,000 *40/100=$112,000
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Total Cost $562,000
Note: $350,000 to open a 2,000-square-foot facility= $350,000 / 2,000=175
Second Approach: one fixed-size restaurant
opening a single 2,000-square-foot facility = $300,000
Add:
operating costs 40% of year 0 sales $280,000 *40/100=$112,000
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Total Cost $412,000
Note:
of a single 2,000-square-foot facility is $400,000 per year= $400,000 / 2,000=200
So, one fixed-size restaurant is best option for expansion.
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4) Profit= Sales- operating cost
Sales year 0 =$$280,000 *40/100 =$112,000
=$280,000 - $112,000=$$168,000
Sales year1 = $350,000 * 40/100=$140,000
= $350,000 - $140,000
=$210,000
sales year 2 = $420,000 *40/100=$168,000
=$420,000 - $168,000
=$252,000
Sales year 3= $490,000 * 40/100=$196,000
=$490,000 - $196,000
=$294,000
Sales year 4=$550,000 *40/100=$220,000
=$550,000 - $220,000
=$330,000
Sales year 5 = $600,000 *40/100=$240,000
=$600,000 - $240,000
=$360,000
Sales year 6 = $645,000 *40/100=$258,000
= $645,000 - $258,000
=$387,000
Sales year 7 =$695,000 *40/100=$278,000
=$695,000 - $278,000
=$417,000
Total profits = $168,000 +$210,000 + $252,000 + $294,000 + $330,000 + $360,000 + $387,000 + $417,000
=$2,418,000
Total present value of cash inflow = $2,418,000
less: present value of outflow is = $300,000
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Net present value $2,118,000
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