CHAPTER 6 ECONOMIC EVALUATION

In this chapter, the revenue, market share, income, and the payback period will be discussed. By accounting these factors, the company will know its capability in financing the project and also if the net income would be able to cover the annual expenses. Thus the proponents can determine the feasibility of the plant in terms of economic standing.

Cost Category Revenue Revenue is the amount of money brought into a company by its business activities. It is also defined as the income generated from sale of goods or services it is place on the top item in the income statement from which all of the expenses are subtracted to get the net income. In the HfBC, the revenue refers to the total annual sales of beer supplied to their target markets such as bars. The company will have two vessels for the production of lager beer and four vessels for ale beer. It takes 13 batches of lager beer a year and 113 batches of ale beer. Thus, lager beers CCVs have production capacity of 94,625 liters per annum while ale beers have 378,500 liters. Therefore the annual production of beer is approximately 473,125 liters.

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Since the annual production of beer is less than 15,000 hectoliters, HfBC is considered as a microbrewery or craft beer brewer. Corish & Hoey (2008) defined microbrewery or craft beer as the classed of wide range breweries of a small scale production of beer. Also, microbreweries are more craft driven with emphasis on taste, quality and balance in comparison with larger breweries, which can be described as being more interested in efficiency of a brewing process and volume of output. Thus, the price intended for the product will be Php 60.00 and Php 65.00 per 330 mL for ale and lager beers respectively. The estimation of the revenue is shown below.

Annual Revenue = (liters of ale beer produced yearly) (price per 0.33 liter) + (liters of lager beer produced yearly) (price per 0.33 liter) = (378,500 liters) (Php 60/0.33 liter) + (94,625 liters) (Php 65/ 0.33 liter) = Php 87,456,439.39

Market Share Market share is the companys sale percentage in a certain industry. This is also one indication how big a company is. This information is really

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important for businesses, since it can help managers make decisions in increasing growth and profits. For the investors, market share are important since it can give them a hint on the competitiveness of the company. It is also a good indicator whether a business is performing well or not. In order to know the companys market share, it can be calculated either in terms of money earned or number of units sold. For the HfBC to evaluate its future market share, the company will be using the data on the production of beer in the country which is from the Kirin Holdings Co. Ltd report of June 2010. According to the Kirin Holdings Co. Ltd (2010), the top producer of beer in the Philippines in the year 2009 is the San Miguel Brewery Inc. accounting for the eighty-seven percent of the market share followed by the Asia Brewery Inc. and the SABMiller which are 5.8 percent and 5.7 percent respectively. Based on the figure below it is already expected that the H fBC will have less than one percent of the market share in the whole production of beer across the country. The company will only produce 473,125 liters of beer per annum which is very small as compared to the production capacity of San Miguel which produces 15.1 million liters a year.

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Figure 6.1 Philippines Beer Market Share in 2009

Demand Projections The beer consumption in the local promises is continuously growing, with the young population as the target market. In 2009, the countrys population shows that almost sixty percent were of the legal drinking age. On the year 2014, it is expected to grow up to sixty two percent and on the year 2020, the young population will be sixty four percent. With these facts, the number of potential customers is also expected to increase. The data below represents the population growth of the people in the country which show the possible costumers that are above eighteen years of age. This growth would be a good sign that the demand in beer would increase as the years go by which made it posible for the company to sell their products (Kirin Holdings Co. Ltd, 2010).

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Figure 6.2 Philippine Population Growth (1999 2020)

Pricing and Distribution The HfBCs beer fermentation plant will be producing two types of beer which are ale beer and lager beer. The price of the products will depend on the raw materials and also on the energy consumption of the plant. But rest assured that the company will try to minimize the products cost without affecting its quality. The product will be delivered directly to the target market like bars, clubs and some restaurant. Also the company is planning to have contract with those establishment to assure that the products delivered are being sold.

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Raw and Auxiliary Materials In the production of beer, there are only two main raw materials needed which are barley and hops. According to the Food and Agriculture Organization (FAO) of the United Nations handbook (2009), the barley needed is twenty-three kilograms for one hundred liters. By calculating it for the production of 473,125 liters of beer, 108,818.75 kilograms of barley is needed. For the amount of hops, the ratio is 1.4 kilogram for 100 liters of beer therefore the amount of hops needed will be 6923.75 kilograms. From the data gathered, the cost of barley is $0.24 per kilogram and for hops it is $0.36 per kilogram. The annual cost of barley and hops is $26,116.50 and $2,492.55 respectively. Therefore, the total cost of raw materials is $28,609.05 or roughly Php 1.25 million (1 US dollar = Php 43.506 as of August 7, 2013, Bangko Sentral ng Pilipinas).

Conversion Cost and Depreciation Conversion cost of the proposed plant is compose of direct labor cost and overhead cost. Direct labor costs refer to the work related expenses attributed to the actual manufacturing of the product. On the other hand, overhead expenses are the costs of resources used by the company to maintain its existence. The conversion cost includes both the direct and indirect expenditure incurred in converting a currency, material, or security from one form or type into another. In case of HfBC, the annual expenses of the plant are

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listed in Table 6.3. The costs include Labor, Utilities, Supplies, Maintenance, Waste Treatment, Transportations, Sales, and Research as well as the General Administrative Costs. Plant insurances and government taxes are also included in computing the overall plant expenses. Direct Labor Expenses. The labor includes operations engineer, skilled laborers or the workforce in the plant as a whole. The total labor cost of the plant is shown in Table 6.1. Production Utilities. The plant utilities cover the electric, water consumptions and natural gas to be used in operating the plant. The breakdown of the estimated annual cost of these utilities is listed in Table 6.2. But this estimated annual cost can be lessened since the company will used deep well as the primary source of water. Maintenance Cost. The annual maintenance costs of HfBC shall be computed from 10.5 percent of the total cost of constructing the plant. Waste Treatment Cost. The plants waste treatment facility shall be accounted from 1.33 percent of the total cost of constructing the plant. Sales. The company aims to promote its products through advertising, posting, streaming and/or product testing. The allotted budget for the sales promotion is 2.76 percent of the total or net sales. Research and Development Cost. The companys research cost is allocated from 3.86 percent of the total sales. Its objective is to further enhance the

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production of beer and to established uniqueness in its products. It also presents the current market demands and needs of the consumers. General Administrative Cost. The annual general administrative expenditures of the plant are computed to be 1.65 percent of the total sales.

*Note to Table 6.1 Labor Cost Since the companys personnel are less than 100 and the production area is considered as hazardous place, the required working hour for: 1. Safetyman is only four hours and will only need one person according to Rule 1030 or Training of Personnel in Occupational Safety and Health of Occupational Safety and Health Standards (OSHS) under the Department of Labor and Employment (DOLE). 2. Nurse is also four hours and one person according to Rule 1960 or Occupational Health Services of OSHS under the Department of Labor and Employment (DOLE). But the company will hire a full time nurse to provide full time occupational health services for employees.

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Table 6.1 Labor Costs Number of Personnel 1 1 2 2 1 4 1 2 20 1 1 1 6 1 5 5 6 60

Personnel

Monthly Salary, Php 35,000.00 16,000.00 22,000.00 37,000.00 25,000.00 20,000.00 18,000.00 14,500.00 14,500.00 17,000.00 25,000.00 20,000.00 18,000.00 16,000.00 9,000.00 12,000.00 13,000.00

Annual Labor Cost, Php 420,000.00 192,000.00 528,000.00 888,000.00 300,000.00 960,000.00 216,000.00 348,000.00 3,480,000.00 102,000.00 300,000.00 240,000.00 1,296,000.00 192,000.00 540,000.00 720,000.00 936,000.00 11,658,000.00

General Manager Secretary Production Supervisor Brewmaster Quality Assurance Manager Quality Assurance Specialist Maintenance Head Machine Operator Production/Technical Workers Safetyman Finance and Administrative Head Accountant Finance and Administrative Personnel Nurse Canteen Personnel Janitors Guards TOTAL

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Table 6.2 Utilities Requirement and Cost

Description Water Electricity Fuel (Natural Gas)

Unit m3 kWh MJ TOTAL

Ratio per hl beer produced Annual Cost, Php 0.7 12 150 125,188.88 370,173.00 110,393.97 605,755.85

Note: 1. Water rate is from Davao City Water District (DCWD) where the plant situated. DCWDs bulk/wholesale water rate is Php 37.80 per m3. 2. Electric power rate used was from recent rate of Davao Light and Power Company which is Php 6.52 per kWh. 3. The natural gas used is costs Php 164.12 per million of British Thermal Unit (BTU). 1 Megajoule (MJ) of energy is equal to 947.8 BTU.

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Table 6.3 Annual Expenses of the Plant Description Conversion Costs Labor Utilities Supplies (raw & auxiliary) Maintenance & Operations Waste Treatment Transportation Miscellaneous Depreciation Sales (advertising, promotions, posting, etc.) Research & Development General Administrative Cost Tax and Insurance Total Expenses Net Sales Gross Profit Annual Expenditures, Php

11,658,000.00 605,755.85 1,250,000.00 11,655,000.00 1,476,300.00 5,000,000.00 1,000,000.00

2,413,797.73 3,375,818.56 1,443,031.25 8,000,000.00 47,877,703.39 87,456,439.39 39,578,736.00

*All costs are roughly estimated especially for the administration costs. Actual values may vary.

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Method of Cost Estimation The method used of HfBC for estimating the starting-up cost of beer brewing plant was based on Ugandas beer maker Nile Breweries Ltd. It is a subsidiary of SABMiller, one of the worlds leading brewers operating across six continents. According to Khisa (2013), the new plant of Nile Breweries Ltd in Mbarara District, Uganda was worth 80 million US dollars and has a capacity of 650,000 hectoliters per annum. This figure will be used for the estimation of cost of the proposed plant. The specific method of cost estimation to be used is the seven-tenths rule. According to Green (2008), seven-tenths rule is an exponential method used to obtain a rapid capital cost for a plant based upon existing company data. The cost indices may be used to correct costs for time changes. But since the plant in Uganda was newly built, so, cost indices can be omitted. Thus, using the seven-tenths rule equation as shown below, the estimated start-up cost of HfBC is US $2.55 million or roughly Php 111 million.

Where: A = HfBC & B = Nile Breweries Ltd

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Furthermore, the project will start generating profit in the first year of operation in terms of projected income. Important ratios such as profit to total sales, net profit to equity (return on equity) and net profit plus interest on total investment (return on total investment) show an increasing trend during the lifetime of the project. The income statement and the other indicators of profitability presented showed that the project is viable.

Payback Period Payback period is the time the company will take to recoup the initial amount invested on a project or investment. To calculate the payback period of HfBC, it will be assume that the brewing of beer reaches its maximum yield annually and hence, maximized its sales. Additionally, the capital interest rate is assumed to be 10 percent per year. In computing the payback period, it depends whether the cash flow per period from the project is even or uneven. In case of HfBC, the annual cash inflow is assumed to be even. Therefore, it is calculated as:
( ( ) ) ()

Where: i is the capital interest rate & n is the payback period. Thus,
( ( ) ) ( )

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n = 3.453 n 4 years Therefore, the initial investments of the proposed plant design can be recovered in 4 years time.

Conclusion From the data gathered for the economic evaluation of HfBC, the proponents have concluded that the proposed plant design is feasible. The companys future worth expenditures and profit are being represented through projected sales, demand, conversion costs and depreciations per annum. Though, the costs were roughly estimated and the actual values may vary. But importantly, the expected time for the plant to recoup the initial amount invested on the project is 4 years only.

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References Bangko Sentral ng Pilipinas (2013). Reference Exchange Rate Bulletin. Retrieved August 7, 2013 from

http://www.bsp.gov.ph/statistics/sdds/exchrate.htm Corish, C. & Hoey, N. (2008). Industrial bioprocessing: micro-brewing in Ireland. University of Ireland Food and Agriculture Organization (2009). Agribusiness handbook: barley, malt, beer. Food and Agriculture Organization (FAO) Investment Centre Division, Italy Green, D. W. (2008). Process Economics. Perrys Chemical Engineers Handbook, 8th Ed. The McGraw-Hill Companies, Inc., New York, N.Y. Khisa, I. (2013). Nile breweries pin growth on new plant. Retrieved July 29, 2013 from http://www.theeastafrican.co.ke/business/SABMiller-NileBreweries-pins-growth-on-new-plant-/-/2560/1747428/-/lnx4gfz//index.html Kirin Holdings Co. Ltd (2010). Category and geographic opportunities: San Miguel in the Philippines. In Kirin Holdings Co. Ltd in Beer-World. Euromonitor International