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FIN 480

Nicole Penniman & Chris Deming

Executive Summary

New Heritage Doll Company is a firm that has ventured into Doll production which has

sought to extend its brand in order to broaden its market framework and, more importantly,

capitalize on high levels of customer loyalty. The Vice President of the company, Emily Harris,

is to forward her project proposal to the budgeting committee for evaluation. Of the proposals

presented to her, two of them stood out based on their innovation and ability to strengthen the

division’s product lines. The first project, Match My Doll Clothing Line Expansion (MMDC),

would extend the warm weather products to an all-weather clothing line. The second project,

Design Your Own Doll (DYOD), would start with a website where customers would choose the

doll’s features, color, etc. and then the dolls will be made to order. The firm would decline both

of the proposals because of managerial and financial resource constraints. Other divisions in the

company are also expected to promote projects of their own and because of these factors Harris

has to choose to promote one of her division’s projects over the other.

Questions & Answers

1. Set forth and compare the business cases for each of the two projects under consideration

by Emily Harris. Which do you regard as more compelling?

The Match My Doll Clothing Line project involves expanding the existing successful

clothing line, which consists of a few sets of matching doll and child clothing for warm

weather. Given its current success, there is a consideration to expand it to include an all-

season clothing line. Since it is an expansion to the existing product line, investment in

operating capital, pricing structure, and product cost can be based on historical information.

It was found that this project was already tested and is widely popular, bringing in the same
profit margin if not more. Not to mention, there was a familiarity with the working of the

project and the company has the experience with this part of a project. Lastly, MMDC would

help reduce, or at least exacerbate, the seasonality in New Heritage’s sales and earnings.

However, due to the fickle nature of young children’s fashion sense, the new line had to be

launched quickly. MMDC was also a gamble, as no one knows how long this particular

project would fetch gains for New Heritage.

The Design Your Own Doll project involves creation of new customized dolls to the

customer’s specification. This project will require new web-based doll-design software. Due

to lead time constraints, the company will have to consider manufacturing this made-to-order

product line in-house or outsource it to contract manufacturer in the U.S. instead of Asia.

Since this is a low-volume, customized set up, product cost is expected to be high. Market

research indicated that there was a lot of enthusiasm for this project among a nice group of

customers. The DYOD project would help create more sales as this was a novel concept and

the sales could be from potential and existing customers. Not to mention, it serves well for

the company’s motto of creating a unique experience for the customers. However, the

information technology aspect is a risky proposition as the company would be in unknown

territory and it would require a lot of investment. Also, it would require perfection in the

execution of the project as otherwise it would end up damaging New Heritage’s reputation

and relationships with its best customers.

Without taking the financial analysis into consideration, we believe the Design Your

Own Doll project to be more compelling. Although the project is riskier, competition is fierce

and New Heritage must stay in line to their values, industry trends, and the ever-changing

technology aspect. This company’s founder saw that the major toy companies did little to
develop girls’ imagination or foster a positive self-image, so she created a line of dolls with

unique storyline and wholesome themes. DYOD continues to follow their core values,

allowing young children to express themselves without the negativity surrounding realistic

body images or types. We find that the Match My Doll Clothing Line fails to follow this

same route as DYOD but rather promotes that children should be in style and up-to-date in

fashion, rather than just being themselves.

2. Use the operating projections for each project to compute a net present value (NPV) for

each. Which project creates more value?

Since the Match My Doll Clothing Line Expansion project is a medium risk project, since

it is an extension to an existing successful product line, it would have a discount factor of 8.40%,

giving them an NPV of $7,150.07 including terminal value and a negative $146.20 not including

terminal value. On the other hand, the Design Your Own Doll project is of higher risk since it is

a completely new product line and requires an information technology component, giving them a

discount factor of 9.00%. We found DYOD's NPV to be $7,058.65 including the terminal factor

and a negative $3,390.88 without terminal. Since both projects have a positive NPV including

the terminal value, they would create value for the company. However, the Match My Doll

Clothing Line Expansion project has a slightly higher NPV so, quantitatively, it would create

more value for the company.

3. Compute the internal rate of return (IRR) and payback period for each project. How

should these metrics be affect Harris’s deliberations? How do they compare to NPV as

tools for evaluating projects? When and how would you use each of them?
The internal rate of return (IRR) for the Match My Doll Clothing Line Expansion is

23.99% with the terminal value and 7.64% without. The Design Your Own Doll project's IRR is

17.88% with terminal and a negative 0.52% without. Looking at payback, MMDC has a payback

period of 7.40 years while DYOD has a period of 9.07 years. Both projects IRR's are above their

individually assigned discount rates, 8.4% for MMDC and the riskier 9.% for DYOD.

Based on our financial analysis, the MMDC project is more quantitively attractive than

the DYOD project. This is because the MMDC project has a shorter payback period and higher

NPV and IRR. The DYOD project is more capital intensive, however, and could generate higher

revenues while taking longer to generate free cash flow. These metrics could affect Harris's

deliberation by solely focusing on the minor financial aspect rather than looking at the long term

potential qualitatively.

One point to mention is that the payback period is less sophisticated than that of the IRR

or NPV. The payback period looks at the cash flows and determines when the money paid out

will be recovered by the benefits of a project. It looks at a project only until the costs have been

recovered and is often ignored because it does not take into consideration the time value of

money. Using the IRR method, the disadvantage is that, at times, it can give you conflicting

answers when compared to NPV for mutually exclusive projects. Not to mention, a multiple IRR

problem can occur when cash flows during the project lifetime is negative, just as in DYOD.

To make the most informed decision, the IRRs and payback periods of the projects

should be compared in conjunction with the NPVs of the two projects. In addition, since IRR

does not consider the cost of capital, it should not be used to compare projects of different

duration. The Modified Internal Rate of Return (MIRR) does not consider the cost of capital and

provides a better indication of a project’s efficiency in contributing to the firm’s discounted cash
flow. Looking at this, we believe it crucial to also consider other financial tools, such as MIRR,

and look towards competitive advantages as well as future trends in the market.

4. What additional information does Harris need to complete her analysis and compare the

two projects? What specific questions should she ask of each of the project sponsors?

After comparing the two projects, both the net present value and the initial rate of

return are both pretty similar to each other. This is resulting in different aspects about each

project needing to be examined in order to identify which project is right for the company.

One aspect that Harris needs to examine is sustainability of each project. If one project

shows great profits for a few years, and the other project takes time to generate any return, it

is tempting to go with the project that will make the quick buck. However, it is important to

understand how each project's long term sustainability is. The better short-run project could

be less profitable in the long-run than the project that takes time to develop.

A second aspect that Harris needs to consider is the company's values. New Heritage

is a company whose goal is to foster positive self-images in girls, expand young girls

imagination, and create a generational bond between mothers, daughters, and grandmothers.

Harris needs to examine each projects direction, and determine which project best fits New

Heritage's company values. If one project was projecting numbers that were vastly superior

to the other project, than the financially stronger project would be the obvious choice.

Luckily, or unluckily depending on the point of view, both projects exhibit similarly strong

numbers. This means that the project that has a closer stance to the company's core value

should be given the advantage.

Finally, Harris needs to examine economic trends. As of 2008, the doll market

consisted of $3.1 billion dollars, and are projected to increase by 3% per year till 2013.

Unfortunately, because of high competition, the doll industry rarely saw lasting franchise

value. Barbie was one of the few, but Heritage has been able to carve out some franchise

value in recent years. This gives the company sustainability within the doll industry.

Additionally, the Design Your Own Doll project would be targeting the core base of the

company's customers. With the Match My Doll Clothing Line Expansion, clothing line

competition must be considered, and this is also an industry with strong competition.

Furthermore, fashion trends need to be factored in and determined, seeing that fashion trends

can and do change rapidly. In order for this project to succeed, research in fashion trends

needs to be precise.

5. If Harris is forced to recommend one project over the other, which should she

recommend? Why?

We recommend that Harris chooses the Design Your Own Doll Project. This is due to

the project being more sustainable in the long run, more in line with company values, and

focuses more on the company's core customers.

When reviewing the financials for both projects, both have very similar net present

values, with Match My Doll Clothing (MMDC) project having a slightly hire NPV of $7,149.46

than the Design Your Own Doll (DYOD) project, which has an NPV of $7,058.65. This gives

MMDC the slight advantage over the next decade. However, this advantage will not last. When

looking at each project, DYOD does not begin making a profit until 2016, whereas MMDC

begins making a profit in 2012. This means that even though MMDC has four extra years of

profit, they still barely generate more NPV than DYOD. Additionally, DYOD will have greater
initial startup costs than MMDC (purchasing equipment, updating the website), these costs

average will lower over time due to the ability to continually use the equipment. However,

MMDC, though having a lower initial cost, will need to constantly funnel money into the

marketing department in order to predict and keep current with young girls fashion trends.

DYOD's profitability will increase in the long-run, while MMDC's costs will increase, and

profitability decreases. The volatility of the fashion industry is too high to be able to keep costs

down. Strong companies do not exhibit high-points and low-points throughout the years, but

instead express sustainability. This starts with company project, and DYOD is the more

sustainable project.

A company's values are important, especially for New Heritage. They wish to improve

girls' self-image, foster young girls imagination, and create multigenerational bridges between

grandmother, mother, and daughter. The DYOD project showcases these values far better than

the MMDC project. Young girls will be able to use their imagination while designing their dolls,

in order to create their new best friend. Not only that, but they will strengthen their imagination

with the doll while playing with it for years to come. A matching outfit that comes from a

catalog or online does not improve imagination as well. The generational bridge will also be

strengthened by this doll. When the young girl becomes a mother, and even a grandmother, she

will be able to connect with her daughters and granddaughters over their personally designed

dolls. On the other hand, the matching dress will not be able to create as strong of a connection.

The young girl will grow out of the dress and fashion trends will change. The doll on the other

hand will last a lifetime. Lastly, the dolls will help provide positive self-images to the girls,

because they will be able to see themselves in the doll. This is opposed to just having another

dress that will not improve self-image.

Finally, the DYOD is focused more on New Heritage's main customers than the MMDC.

This is important because it is easier and less expensive to keep an existing customer than it is to

obtain a new one. Additionally, it is important to keep the top clients pleased in order to keep

them returning. A product line that allows them to customize their favorite doll is a much more

intriguing way of keeping the core customers happy than coming out with matching doll outfits.

Because of these reasons, Harris should opt to approve the Design Your Old Doll project

for New Heritage.