The issues are the future viability of the plant for producing EPC and the long-term effects of not upgrading this production line. The additional upgrade will result in additional production, but as mentioned by the sales director if there is no demand for the increase in supply and Rotterdam plants excess will be added to the Mersey side quantities the plant upgrade could ultimately result in a dropping of prices to shift supply. The transport division is also in dire need for the upgrade in order to facilitate the additional output form the plant and has suggested this to the plan t manager. The business shouldn’t be concerned about the cannibalization the resulting upgrade could have on the Rotterdam plant, as this is already a possibility without additional outputs. The reality of the situation is that the business should be seeking to increase efficiencies, resulting in higher output and ultimately a better value proposition to its customers and a higher return on capital.
Transport Division: The transport division has suggested that the cost of the rail carts should be included in the cost of the project, as the additional output from the upgrade will need to be accommodated by the transport division. Although the transport couldn’t be accommodated correctly in reality the business if it needed to could outsource this business unit. The current culture and procedure within the business is to operate as silos and as a result each business unit is individually accountable. I would recommend the transport costs be added into the project, as the project remains viable by doing so. I wouldn’t do this without the explicit agreement from the management and board that the project would take this into consideration and either exclude this additional capital expenditure from the transport business unit or recommend to the board that running the business in silos has resulted in a lack of organizational congruency which could in turn be detrimental to the future of the business.
Sales & Marketing Dept.: Has advised that the output can’t be sold, and would result in an oversupply and cannibalization occurring between the plants. Given the additional output from the plant I can understand the pressure the sales a manager is having. However, cannibalization from within the organization can only result in a greater opportunity for the business to capitalize on the additional outputs and gain market share. When looking at the opportunity presented from the additional output the business could look at opportunities for reducing its costs per ton and seeking to take market share away from competitors rather than competitors take market share away from Victoria Chemicals. Given the additional output created and the reduction in sales from Rotterdam the calculations have been done with no additional output created.
Treasury Staff: Cash Flows and discount rates should be remain consistent in assumptions about inflation, however as inflation grows at the same rate as costs the result in add in the inflation doesn’t change the calculation. As this is not a directive from the board this change has not been made. The discount rate however has been reduced to 7%.
Assistant Plant Manager: The Plant manager suggested that by adding in the additional EPC upgrades the business could save having to lay people off in the future. The suggestion that this project should be added without the knowledge of the senior management is unethical and wrong. It is also unclear what the market scope is for EPC and to what extent this business has sustainability within the business. The assumptions that has been made in the below calculations is that the project had a bright future, potential to add substantial expansion to the business while offering Victoria Chemicals a competitive advantage.
NB: Preliminary Engineering Costs have been removed as this is not a capital expense
Cash-Flows (including tax and depreciation)
The cash flows that have been included in the calculations include are the result of 250,000 ton output for 5 years, this calculation has been done in order to allow for the market downturn and the expected loss of business from the Rotterdam business. The additional output has been added for this from 6 year point onwards. The cash flows of the EPC project have also been added into the business, although they result in a minimal change in output as at this stage there isn’t enough evidence to prove otherwise. The rail cart project, although it has been added in hasn’t been accounted for in regards to the cash flows. As mentioned above the business would need to be support of updating the business process in order to include and consolidate all business decisions across divisions where each department can mutually benefit from capital spending.
The depreciation for the EPC project and the rail cart project has been added in and depreciated at the varying DDB rates – at both 15 years and 10 years.
Calculation & Outcome
The resulting outcome is the consolidation of the upgrade project, the add-on of the EPC project and the inclusion of the rail cart project still proves to meet all four criteria.