| Romanos Pizzas, Inc., operates pizza shops in several states. One of the companys most profitable shops |
| is located adjacent to the campus of a large university. A small bakery next to the shop has just gone out of |
| business, and Romanos Pizzas has an opportunity to lease the vacated space beginning at $26,000 per |
| year under a 15-year lease, beginning the first day of the lease, not the end of the first year of the lease. |
| Romanos management is considering the following regarding the newly vacated space. |
| The pizza shop in this location is currently selling 40,000 pizzas per year. Management is |
| confident that the number of pizzas sold could increased by 75% by taking out the wall between the pizza shop |
| and the vacant space and expanding the pizza outlet. Costs for remodeling and for new equipment would be |
| $1,100,000. Management estimates that 20% of the new sales would be small pizzas, 50% would be medium |
| pizzas, and 30% would be large pizzas. Selling prices and costs for ingredients for the three sizes of pizzas |
| follow (per pizza): |
| | | | Selling price | Cost of ingredients | | | | | | |
| | | | Price | Ingredients | | | | | | |
| | | Small | $15.70 | $4.30 | | | | | | |
| | | Medium | $19.00 | $6.00 | | | | | | |
| | | Large | $22.00 | $8.40 | | | | | | |
| Romano's expects to increase the sales price of their Small pizza $0.40 each year; Medium pizza $0.50 each year, |
| and Large pizza $0.65 each year. Cost of ingredients for all sizes are expected to increase 4% each year. |
| |
| The equipment would have a salvage value of $30,000 at the end of the 15th year, when the lease ends. |
| |
| Additional costs predicted to be associated with the expansion are: |
| Rent (mentioned above), beginning at $26,000 annually, and expected to increase 4% every two years. |
| Salaries, $108,000 annually and expected to increase 3% each year. |
| Utilities, $24,800 annually and expected to increase 2% each year. |
| Insurance and other, $13,600 annually and expected to increase 1.5% each year. |
| Romano's requires a rate of return of 16% or more before accepting a new project. |
| Required: |
| 1) Name and define the analytical techniques that should be used to anayze the proposal. |
| 2) Perform the analyses. Should Romano's go ahead with the expansion, and why do you conclude this? |
