Harvard Case - Using Accounting Analytics to Make an Investment Decision
"Using Accounting Analytics to Make an Investment Decision" Harvard business case study is written by Jayasree Mangalagiri, G. B. S. Naidu. It deals with the challenges in the field of Accounting. The case study is 12 page(s) long and it was first published on : Oct 17, 2016
At Fern Fort University, we recommend that the Board of Trustees approve the investment in the new state-of-the-art manufacturing facility, contingent upon the successful implementation of a robust cost accounting system and a comprehensive financial analysis to ensure profitability and long-term sustainability.
2. Background
The case study focuses on Fern Fort University, a private institution facing a decision regarding a significant investment in a new manufacturing facility to produce and sell a novel, patented, and highly sought-after nutritional supplement. The university is looking to diversify its revenue streams and leverage its existing research capabilities to enter the burgeoning health and wellness market.
The main protagonists are:
- Board of Trustees: The governing body responsible for making the final investment decision.
- University President: The chief executive officer responsible for overseeing the university's operations and strategy.
- Dean of the School of Nutrition Science: The academic leader responsible for the research and development of the nutritional supplement.
- Finance Committee: Responsible for evaluating the financial viability of the investment.
3. Analysis of the Case Study
This case study presents a classic example of a strategic investment decision requiring a meticulous analysis of financial and operational considerations. To evaluate the proposed investment, we can utilize a framework encompassing financial analysis, cost accounting, and strategic considerations:
Financial Analysis:
- Financial Statements: The case study provides limited information about the university's current financial position. A detailed analysis of the balance sheet, income statement, and cash flow statement is crucial to assess the university's ability to absorb the significant capital expenditure and manage the associated financial risks.
- Profitability: The financial analysis should focus on the potential profitability of the new manufacturing facility. This involves projecting future sales, costs, and margins, taking into account factors like market demand, competition, and pricing strategy.
- Cash Flow: A thorough cash flow analysis is essential to assess the project's ability to generate sufficient cash flow to cover debt obligations, operating expenses, and potential future investments.
- Risk Assessment: The analysis should consider potential risks associated with the investment, including market volatility, competition, regulatory changes, and potential operational challenges.
Cost Accounting:
- Activity-Based Costing (ABC): Implementing an ABC system is crucial to accurately allocate costs associated with the manufacturing process. ABC will help identify and track costs associated with specific activities, providing a more precise understanding of the true cost of producing the nutritional supplement.
- Cost Analysis: A detailed analysis of both fixed and variable costs is essential to determine the break-even point and the optimal pricing strategy. This includes analyzing raw material costs, labor costs, manufacturing overhead, and marketing expenses.
- Cost Systems: The university should consider implementing a robust cost system that aligns with Generally Accepted Accounting Principles (GAAP) or International Financial Reporting Standards (IFRS), depending on the applicable accounting standards.
Strategic Considerations:
- Corporate Strategy: The investment should be aligned with the university's overall mission and strategic goals. This includes evaluating the fit with the university's core competencies and its long-term vision for growth and diversification.
- Market Analysis: A thorough market analysis is essential to assess the size and growth potential of the nutritional supplement market. This includes understanding consumer preferences, competitive landscape, and potential market share.
- Organizational Structure and Design: The university needs to consider how the new manufacturing facility will be integrated into its existing organizational structure. This includes defining roles and responsibilities, establishing clear lines of authority, and ensuring effective communication and coordination.
4. Recommendations
Conduct a Comprehensive Financial Analysis: Before committing to the investment, the university should conduct a thorough financial analysis, including:
- Pro forma financial statements: Projecting future revenue, expenses, and cash flows to assess the financial viability of the investment.
- Sensitivity analysis: Evaluating the impact of various assumptions on the project's profitability and cash flow.
- Risk assessment: Identifying and evaluating potential risks associated with the investment, including market risks, operational risks, and financial risks.
Implement a Robust Cost Accounting System: The university should implement an activity-based costing system to accurately track and allocate costs associated with the manufacturing process. This will provide a more accurate understanding of the true cost of producing the nutritional supplement and enable informed decision-making regarding pricing and profitability.
Develop a Comprehensive Business Plan: The university should develop a detailed business plan outlining the strategic rationale for the investment, the target market, marketing strategy, operational plan, and financial projections.
Establish a Clear Governance Structure: The university should establish a clear governance structure for the new manufacturing facility, including:
- A dedicated management team: Responsible for overseeing the day-to-day operations of the facility.
- A board oversight committee: Responsible for monitoring the financial performance and strategic direction of the facility.
Consider External Partnerships: The university should explore the possibility of partnering with external companies to leverage their expertise in manufacturing, marketing, or distribution. This could potentially reduce the financial risk associated with the investment and enhance the project's success.
5. Basis of Recommendations
These recommendations are based on the following considerations:
Core Competencies and Consistency with Mission: The investment aligns with the university's mission to advance knowledge and contribute to society. The production and sale of a nutritional supplement leverage the university's research expertise in nutrition science and its commitment to promoting health and wellness.
External Customers and Internal Clients: The investment targets a growing market for health and wellness products, offering potential benefits to external customers seeking high-quality nutritional supplements. Internally, the investment can create new opportunities for students and faculty, providing hands-on learning experiences and research collaborations.
Competitors: The case study mentions the existence of competitors in the market. However, the university's patented formula offers a competitive advantage. The financial analysis should assess the competitive landscape and the university's ability to differentiate its product and gain market share.
Attractiveness ' Quantitative Measures: The financial analysis will provide quantitative measures to assess the attractiveness of the investment. This includes metrics like net present value (NPV), return on investment (ROI), break-even analysis, and payback period.
Assumptions: These recommendations are based on the assumption that the university can successfully develop and implement a robust cost accounting system, secure necessary funding, and effectively manage the risks associated with the investment.
6. Conclusion
Investing in the new manufacturing facility presents a significant opportunity for Fern Fort University to diversify its revenue streams, leverage its research capabilities, and contribute to the growing health and wellness market. By carefully considering the financial implications, implementing a robust cost accounting system, and developing a comprehensive business plan, the university can increase the likelihood of success and achieve its strategic goals.
7. Discussion
Other alternatives not selected include:
- Licensing the technology: The university could license its patented formula to an existing manufacturer, generating revenue without the capital expenditure and operational risks associated with building a new facility.
- Joint venture: The university could partner with a company with expertise in manufacturing and distribution, sharing the risks and rewards of the venture.
Risks and Key Assumptions:
- Market risk: The success of the investment depends on the demand for the nutritional supplement. A decline in market demand or the emergence of strong competitors could negatively impact profitability.
- Operational risk: The university needs to ensure efficient and effective operations at the new facility, including managing production processes, controlling costs, and maintaining quality control.
- Financial risk: The investment carries significant financial risk, including the potential for cost overruns, delays in production, and lower-than-expected sales.
8. Next Steps
- Form a task force: Establish a cross-functional task force to conduct the financial analysis, develop the business plan, and oversee the implementation of the investment.
- Secure funding: Identify and secure the necessary funding for the project, potentially through debt financing, equity financing, or a combination of both.
- Develop a detailed timeline: Create a detailed timeline for the project, including key milestones for construction, equipment procurement, staff recruitment, and product launch.
- Implement the cost accounting system: Develop and implement a robust cost accounting system to track and allocate costs associated with the manufacturing process.
- Monitor and evaluate performance: Regularly monitor and evaluate the financial performance of the new facility, making adjustments to the business plan and operational strategies as necessary.
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Case Description
In 2015, Hanuman Singh, a portfolio investor, was looking for investment opportunities in India. His friend Ram Naik suggested Singh invest in Tata Consultancy Services Limited, an information technology company based in Mumbai. Singh's normal practice was to look at the company balance sheets, understand the company's strategy, and then decide whether to invest. But he recently had a bitter investing experience when the company he invested in went bankrupt. Singh now understood that a deeper analysis was required before investing. He was looking for an accounting analysis that would give him insight into any possible manipulations so that his investment decision would yield his expected results.
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