Phuket Beach Hotel:

Valuing Mutually
Exclusive Projects
B.B.Chakrabarti
Professor of Finance
IIM Calcutta
 Two Options

1. Lease option – Planet Karaoke Pub

2. Build option – Beach Karaoke Pub

3 June, 2005 B.B.Chakrabarti: bbc@iimcal.ac.in 2

 Lease Option – Cash Flows
 Rental income
 Repair and maintenance expenses
 Decrease in net room revenue
 Taxes
 Upfront capital investment

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 Build Option – Cash Flows
 Sales
 Food and beverage cost
 Other operating expenses
 Repair and maintenance expenses
 Decrease in net room revenue
 Taxes
 Upfront capital investment

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 Other Cash Flow Issues

 Identify incremental cash flows

 Ignore sunk cost (Salaries in the
Build option)
 Consider externalities ( decrease in
net room revenue)
 Life of the project

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 Key Value Drivers

 Patronage factor affecting net room

revenue
 Amount of upfront investment
 Cost of capital

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 Base Case Cash Flows

 Patronage factor – 0.5

 Amount of upfront investment

- The lease option – 770,000 baht

- The build option – 1,700,000 baht
 Cost of capital – 10.75%

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 Differences in Cash Flows
Parameter Lease Option Build option

Life 4 years 6 years

Upfront 770,000 baht 1,700,000

investment baht
Cash flow Decreasing Increasing
pattern

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 Evaluation Technique
The two options are mutually exclusive
and they differ in life, size of upfront
investment and cash flow pattern.

We apply “Equivalent Annuity” as the

evaluation criterion.

We evaluate the options in the base case

and then do sensitivity analysis of the key
value drivers.

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 Other Considerations

 Social impact of the pub business

 Security problems

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