Case Study: Analyzing Lady M's Financial Decisions for Expansion

This case study analyzes the financial decisions of Lady M Confections, a specialty cake bakery, as it considers expanding its business. The analysis includes a breakeven point calculation, evaluating the number of cakes needed to be sold to reach profitability, and an assessment of the potential sales at a new World Trade Center (WTC) location. The study examines the company's growth rate, the advantages of its unique product offerings, and the implications of opening a new boutique in the WTC. Furthermore, it delves into financial decisions, including the enterprise value of Lady M, the impact of perpetuity growth and EBITDA on financing decisions, and whether to accept an offer from a Chinese investor. The case explores alternative financing options like bank loans, government funding, and venture capital, considering the implications of giving up equity stakes. The analysis also provides calculations for contribution per cake, total overhead, break-even units, and NPV under different sales growth scenarios, supporting the recommendations for the company's expansion and financing strategies.

Case studies in finance

Analysis of breakeven point
Cakes required to be sold by Lady M in a year to reach to break even
Findings and analysis: if the cost of sales assumes to be 50 percent and the net income of Lady
M to be 0 then the gross sales of the enterprise will be $1880000 (80X23600). To achieve a
reasonable profit in year 1 the average selling is taken at $80 per unit. If the selling price per unit
of $80 will be considered then the breakeven sales for the year after which the boutique will start
earning profit will be 23600 units per year. Bryant park location with similar pattern of sales and
similar type of growth rate achieved maximum sales of $1152001 in six months. The estimated
sales of Bryant location in 12 months would reach $2304002 that is approximately dollar 2.30
million per year. It can be said that Bryant location could sell 28750 cakes and pastries in 1 year
(2304002/80). After analyzing the per year estimated sales of Bryant the breakeven sales of
world trade center point seems quite feasible.
If the breakeven is achievable in year one, the growth rate of sales after 1st year so
that the start-up cost could be paid within these 5 years
Analysis: it has been seen that in the first year itself Lady M would achieve its breakpoint
point of sales and considering the breakeven sales the annual growth in sales should be 13.24
percent so that the management of the business could be able to pay its set up or start-up cost
within 5 years. It has also been examined that Lady M has achieved a high growth rate of 81
percent in its sales from 2010 to 2014. The main advantage of the bakery is that it sells product
of various qualities which cannot be replicated and this uniqueness in the product can assist the
bakery to 13-14 percent of growth rate in the next 5 years.
Based on above answer decisions made by Lady M to diverse or expand its business
by opening a new boutique or confectioneries in WTC
Findings and analysis: It is well known that the public of New York do not prefer to go
too far for their wants and needs so it would be a good opportunity for Tom and Romaniszyn to
open a new bakery in WTC. The two CEO’s also predicted that the sales would grow at a
constant rate of 20% each year and if all the plans implemented for new location does not work
out then they may only achieve a 5% growth. With the growth of 5%, the enterprise would be
able to recover its investment in more than 5 years. If the entity achieves 20 percent growth the

set up cost of the boutique would be recovered with 4 years. The sales of the entity should grow
at an average rate of 13.24 percent so that the entity could recover all its investment during the
period of first 5years. After considering the reputation, brand value and sound business policy of
Lady M and also the success of its stores which was opened in 2012 and 2013, the CEO’s of the
entity should diversify and expand its cake business in WTC.
Financial decisions
The enterprise value of Lady M
After considering a discounting factor of 12 percent and free cash flows of 6 years that is
from 2014-2019 the value of the enterprise that has been arrived is $123184679 (Desai & Meyer,
2015)
Is the formula for perpetuity growth and EBITDA multiple for terminal value affect
the enterprise financing decision
The formula of perpetuity growth is always used to apply in free cash flows. This free
cash flow is determined after adding the Net income with depreciation and then deducting the
addition of net income and depreciation with capital expenditure and the amount of working
capital changes. The amount of free cash flows of the enterprise absorbs the capital expenditure
and this is the reason the perpetuity growth is strongly connected to valuation rules. According to
Mercer (2016), EBITDA is used to measure the overall performance of the company and is also
applied to compute the net income of the entity.
In this scenario, the capital expenditure in fifth year is equal to the amount of
depreciation which does not seem to be significant. According to Vidal-Garcia & Ribal (2019),
the use of perpetuity growth and EBITDA method will not affect the enterprise value since both
the depreciation and the capital expenditure will not add any additional value to the enterprise.
The firm value determined by using EBITDA always gives the correct firm value.
Should the offer of Chinese investor be accepted by Lady M
As it can be examined that to set up a new store in location such as WTC the
capital which is required by the CEO’s of the firm will be 1 million dollars and this
investment will be paid back in a short term of 5 years which is not bad. Lady M does not

require a high amount of funds for the expansion and if the Chinese offer will be accepted
then the 10 million dollars will be lying as ideal fund for the enterprise and the enterprise
will have to think about where to invest such high amount. The franchise of Lady M will
also have to be given to the investor of china which will be a bad deal. Also, the
franchising right of Lady will be transferred to the stakeholder of china and they will be
allowed to open new confectioneries on the name of Lady M that means they will use the
name and process of making products of Lady M in China.
The percentage of stake will be given by Lady M according to the EBITDA computation
will be 6.97% and as per the perpetuity method, the stake will be 8.12%.
The implications of giving up the stake of equity
Accorsding to Heugens et al. (2020), if the stake will be given to the investor then the
performance of the stock market of the entity will be affected. Stake sell means that one
company is giving its equity holding to other company. It is one type of disinvestment of the
equity shares of the organization. The investment process of Lady M will come to an end with
this stake sell to investor. Stake sell has not been considered to be a huge victory for any entity.
Lady M does not derive any huge profit from this stake sell (Dawson & Barrédy, 2018).
Other sources of financing to be considered by the firm if the investor of china
offers the best option
The CEO’s could also arrange finance from other source such as bank loans which carries
a lower interest rate. If any bank or financial institution in New York provides loan with a very
low margin of interest to Lady M and no collateral requirements are there then the bank loan will
be a good option. According to Mencken & Tolbert (2016), bank loans are the best option for
any company to avail the loan at low rate and also at very low processing charge. Tom and
Romaniszyn should also tale all the necessary details of the loan before availing the loan such as
the term of the loan ad whether the nature of the interest rate is flexible or fluctuating.
According to Smit (2018), the other option would be government funding or venture capital or
angel investors for arranging funds. If the government of New York provides any subsidy to the

enterprise then there will be no need for any repayment to the government but the enterprise has
to fulfill certain conditions of government to avail the subsidy.
Other important question needs to be considered
Chinese offer should be rejected if they want a high equity stake and the company should
be recommended to use other sources to arrange for the start-up expenses. The firm should take
important measures to reduce the cost of sales and also the operating cost so that they can be able
to earn high amount of income and profit from the business.
Calculation of Contribution per cake
Particulars Amount in $
Average selling price per unit 80
Less: Cost of sales @50% 40
Contribution per unit 40
Calculation of Total Overhead
Particulars Amount in $
Annual rent 310,600
Annual utility costs 38,644
Annual labor costs 594,750
Total Overhead expenses 943,994
Computation of Break-Even
Particulars Amount in $
(A) Contribution per unit 40
(B) Total Overhead expenses 943,994

(C) Break-even units per year (B÷A) 23,600
(D) Operating days in a year (assumed) 365
(E) Break-even units per day (C÷D) 65
Table no. 1 Calculation of Breakeven point
NPV under 20% Sales Growth
Year Revenue Cost of
Sales Rent Utility
Costs
Labor
Costs
Net
Income
Presen
t
Value
Factor
@12%
Present
Value
(A) (B) (C) (D) (E) (F)=(A-B-C-D-E)
2015 13,200,000 6,600,000 319,918 39,803 624,488 5,615,791 0.893 5,014,099
2016 15,840,000 7,920,000 329,516 40,997 655,712 6,893,775 0.797 5,495,675
2017 19,008,000 9,504,000 339,401 42,227 688,497 8,433,874 0.712 6,003,065
2018 22,809,600 11,404,800 349,583 43,494 722,922 10,288,800 0.636 6,538,719
2019 27,371,520 13,685,760 360,071 44,799 759,068 12,521,822 0.567 7,105,218
Present Value of Cash Inflows 30,156,776
Less: Setting up Costs 600,000
Less: Construction Costs 1,000,000
Net Present Value 28,556,776
NPV under 5% Sales Growth
Year Revenue Cost of
Sales Rent Utility
Costs
Labor
Costs
Net
Income
Present
Value
Factor
@12%
Present
Value
(A) (B) (C) (D) (E) (F)=(A-B-C-D-E)
2015 11,550,000 5,775,000 319,918 39,803 624,488 4,790,791 0.893 4,277,492

2016 12,127,500 6,063,750 329,516 40,997 655,712 5,037,525 0.797 4,015,884
2017 12,733,875 6,366,938 339,401 42,227 688,497 5,296,812 0.712 3,770,166
2018 13,370,569 6,685,284 349,583 43,494 722,922 5,569,285 0.636 3,539,381
2019 14,039,097 7,019,549 360,071 44,799 759,068 5,855,611 0.567 3,322,631
Present Value of Cash Inflows 18,925,554
Less: Setting up Costs 600,000
Less: Construction Costs 1,000,000
Net Present Value 17,325,554
Table no.2 Calculation of NPV
Calculation of Sales Growth Rate (IRR) to pay for Start-up Costs within 5 years
Calculation of NPV at 14% Growth Rate
Year Revenue Cost of Sales Rent Utility
Costs
Labor
Costs
Net
Income
(A) (B) (C) (D) (E) (F)=(A-B-C-D-E)
2014 1,887,988 943,994 310,600 38,644 594,750 -
2015 2,152,306 1,076,153 319,918 39,803 624,488 91,944
2016 2,453,629 1,226,815 329,516 40,997 655,712 200,590
2017 2,797,137 1,398,569 339,401 42,227 688,497 328,443
2018 3,188,737 1,594,368 349,583 43,494 722,922 478,369
2019 3,635,160 1,817,580 360,071 44,799 759,068 653,642
Total 1,752,987
Less: Start-up Costs 1,600,000
NPV 152,987
Calculation of NPV at 13% Growth Rate

Year Revenue Cost of Sales Rent Utility
Costs
Labor
Costs
Net
Income
(A) (B) (C) (D) (E) (F)=(A-B-C-D-E)
2014 1,887,988 943,994 310,600 38,644 594,750 -
2015 2,133,426 1,066,713 319,918 39,803 624,488 82,504
2016 2,410,772 1,205,386 329,516 40,997 655,712 179,161
2017 2,724,172 1,362,086 339,401 42,227 688,497 291,960
2018 3,078,315 1,539,157 349,583 43,494 722,922 423,158
2019 3,478,496 1,739,248 360,071 44,799 759,068 575,310
Total 1,552,093
Less: Start-up Costs 1,600,000
NPV (47,907)
Table no. 3 Calculation of NPV at 13%
Internal Rate of Return = Higher Rate
–
Higher rate NPV
× (14-13)Higher rate NPV + Lower rate
NPV
= 13.24%
Particulars 2013 2014 2015 2016 2017 2018 2019
Estimates
Revenue 7,491,187
11,000,00
0
13,200,00
0 18,480,000 23,100,000 28,875,000 36,093,750
Less: Cost of
goods sold 1,632,722 2,397,476 3,300,000 4,620,000 5,775,000 7,218,750 9,023,438
= 14
–
152,987 × 1
152,987 + 47,907

(COGS as a
% of revenue) 21.80% 21.80% 25.00% 25.00% 25.00% 25.00% 25.00%
Gross Profit (A) 5,858,465 8,602,524 9,900,000 13,860,000 17,325,000 21,656,250 27,070,313
Expenses:
Salaries
and wages 2,691,881 2,664,962 2,638,313 2,611,929 2,585,810 2,559,952 2,534,353
Employee
benefits 124,827 123,579 122,343 121,120 119,908 118,709 117,522
Direct operating
expenses 499,837 494,839 489,890 484,991 480,141 475,340 470,587
Marketing 24,679 24,432 24,188 23,946 23,707 23,469 23,235
Utilities 125,102 123,851 122,612 121,386 120,172 118,971 117,781
General and
Administrative 406,819 402,751 398,723 394,736 390,789 386,881 383,012
Repairs and
Maintenance 104,450 103,406 102,371 101,348 100,334 99,331 98,338
Research and
Development - 11,000 13,200 18,480 23,100 28,875 36,094
Occupancy 753,379 753,379 753,379 753,379 753,379 753,379 753,379
Depreciation 149,007 156,457 172,103 197,919 237,502 296,878 385,941
Insurance 49,974 49,974 49,974 49,974 49,974 49,974 49,974
Other income (38,479) (38,479) (38,479) (38,479) (38,479) (38,479) (38,479)
Interest expenses 37,186 37,186 37,186 37,186 37,186 37,186 37,186
Total expenses
(B) 4,928,662 4,907,336 4,885,804 4,877,915 4,883,524 4,910,466 4,968,922
Profit before
deducting tax (A-
B) 929,803 3,695,187 5,014,196 8,982,085 12,441,476 16,745,784 22,101,391
Less: Tax 74,190 1,293,316 1,754,969 3,143,730 4,354,517 5,861,024 7,735,487
Profit after
deducting tax
855,613 2,401,872 3,259,227 5,838,355 8,086,959 10,884,760 14,365,904

Capital
Expenditure 33,000 39,600 55,440 69,300 86,625 108,281
Changes in
Working Capital 68,000 81,600 95,200 85,000 85,000 85,000
Particulars 2014 2015 2016 2017 2018 2019 Terminal
Value
Net Income 2,401,872 3,259,227 5,838,355 8,086,959 10,884,760 14,365,904
Add: Interest Expenses
(net of tax) 24,171 24,171 24,171 24,171 24,171 24,171
Operating Profit
after tax 2,426,043 3,283,398 5,862,526 8,111,130 10,908,930 14,390,075
Add: Depreciation 156,457 172,103 197,919 237,502 296,878 385,941
Less: Capital
Expenditure 33,000 1,039,600 55,440 69,300 86,625 108,281
Less: Increase in
Working Capital 68,000 81,600 95,200 85,000 85,000 85,000
Free Cash Flow 2,481,500 2,334,301 5,909,805 8,194,332 11,034,183 14,582,735 189,575,553
Present Value
Factor @12% 0.893 0.797 0.712 0.636 0.567 0.507 0.507
Present Value of
Cash Inflows 2,215,625 1,860,891 4,206,482 5,207,646 6,261,092 7,388,067 96,044,875
Year Present Value of Cash Inflows
2014 2,215,625
2015 1,860,891
2016 4,206,482
2017 5,207,646

2018 6,261,092
2019 7,388,067
TV 96,044,875
Value of Lady M Confections (A) 123,184,679
Offer from Chinese Investor (B) 10,000,000
% of stake to be given up (B÷A) 8.12%
Table no.4 Computation of value of Lady M and stake as per perpetuity method
Valuation as per EBITDA Multiplier
Particulars 2014 2015 2016 2017 2018 2019 Total
Profit before tax 3,695,187 5,014,196 8,982,085 12,441,476 16,745,784 22,101,391
Add: Interest
expenses 37,186 37,186 37,186 37,186 37,186 37,186
Add: Depreciation 156,457 172,103 197,919 237,502 296,878 385,941
Add: Amortization - - - - - -
EBITDA 3,888,831 5,223,485 9,217,190 12,716,164 17,079,848 22,524,518 71,766,031
Average EBITDA 11,961,005
EBITDA Multiplier 12
Value of Lady M Confections (A) 143,532,063
Offer from Chinese Investor (B) 10,000,000
% of stake to be given up (B÷A) 6.97%
Table no.5 Computation of stake as per EBITDA

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