Hansson Private Label, Inc.: Evaluating an Investment in Expansion Harvard Case Solution & Analysis

PART 1

What is the problem/question at Hansson

Hansson Private Label was founded by Tucker Hansson in 1992 and it manufactures personal care products under the brand label of its retail partners. Recently, one of the HPL’s largest retail partners proposed an expansion plan in order to increase in the share of private label manufacturing and it is expected that proposed expansion would require initial investment of 45 million dollars.

In addition to this, it is also expected that 12.817 million dollar will also be needed in working capital in order to finance the day to day activities of the proposed expansion plan. In order to accept or reject this expansion proposal, a return on the potential investment plus the associated expansion risks need to be considered.

Currently, HPL has 4 plants and running at about more than 90% capacity, therefore it is expected that there is no more room of expansion under current facility. Moreover, increase in capacity facilitation will increase the leverage ratio of the company significantly as it would increase the debt ratio as compared to the present debt ratio.

Moreover, the client will commit only three years contract and performance on unit sold is only growing by 1% per year.Therefore, keeping in mind the current growth rate and contract timing, it would be a great problem for the company after the termination of the contract as heavy initial investment would be involved in the project.

How Will the Project Be Evaluated

The project requires 45 million as an initial investment and 12.817 million as a working capital, which could be recovered at the end of the project. The project could be appraised by many methods like NPV, IRR, and Payback period.

Nonetheless,the net present value is the most appropriate method and evaluation of the projects through net present value is also a common practice of the industry as it gives the return in real terms by discounting the future cash flows at an appropriate discount rate. The management

of the company could evaluate the project by using net present value and IRR and net present value of the project could be calculated with the help of free cash flows method.(Drake, n.d.)

Free cash flows related to the project could be calculated using assumptions in capital request form and by discounting these cash flows at an appropriate discount rate, net present value of the project could be identified. If the project generates positive net present value and higher internal rate of return with respect to the company’s predefined return the project could be evaluated that whether it is worthwhile for the company or not.

The project could be evaluated by using historical data, past sales record, historical growth ratio regarding sales and could also be evaluated by using trend series regression analysis by using the past trend regarding personal care products.

(Treasury, 1997)
What Risks Does the HPL Face With This Project

The proposed project is from the largest retailer of the company and it is expected that it will commit only for three years. Heavy initial investment is associated with the project and in addition to the $45 million of initial investment $12 million is also needed in order to meet the working capital requirement. It is also expected that the proposed project will be financed through debt which will increase the debt ratio of the company; therefore termination of the contract from the client could create financial problems for the company.

As the project is debt finance then after the termination of the contract the company will face the problem of interest repayment. Increase in debt will also increase the gearing ratio and will make the company highly leverage. Being highly leveraged itself is a great risk and increase in debt ratio could also increase the interest rate, which is currently 7.75% and it is expected that increase in debt ratio will also increase the cost of debt from 7.75%........................

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