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Calculation and discussion
The construction of cash budget for a new hotel
Miranda has £2,000,000 available to invest in a new airport hotel which she will open on 1 April 20X1. The hotel caters for conferences and events as well as the normal airport trade of tourists, air crews and business travellers. Miranda has £125,000 in cash.
She has made the following forecasts
The hotel will have 30 rooms and will be open for dinner seven days a week.
Average monthly occupancy levels are expected to be:
Average spend is expected to be £150 per room per night and 30% of sales are expected to be for cash and 70% of sales are expected to be on credit. Credit sales are expected to be paid within 2 months.
Monthly purchases of food, drink, laundry materials are expected to be 20% of sales. 80% of these purchases will be on credit and 20% in cash. It is planned to pay creditors in the month after the purchase takes place.
Labour cost is budgeted at 20% of sales and will be paid in the same month.
Overhead costs are budgeted at 25% of sales and will be paid with a time lag of one month
1.Prepare the first six (6) months of Miranda’s A cash budget
2.Discuss any reservations you have about the information that you have prepared.
A main shareholder argues that if the hotel does not offer the initial investment back within five (5) years, it is not a good investment for her.
a.Argue against the method used by this shareholder.
b.Discuss other methods which could be used to appraise this investment and calculate NPV for Miranda. Assume the following:
- Discount rate of 10%.
- Net cash inflow at the end of year 1 is £250,000
- Net cash flow will grow 3% year on year.
- Miranda hopes to sell the business on her retirement after 10 years for £3,000,000.