The Marti Pig Farm Investment Decision


















1. The Martí Pig Farm Investment Decision

In January 2002 the Martí family was considering several alternatives for investing €2m euros from the family trust. The project preferred by most of the family members was a €3m pig farm, pork production being the family’s traditional business, in which they had great expertise. But the typical return of a pig farmwas not that great and it could cause a lot of headaches. So Pep, one of the members of the family, proposed a simple investment in the stock market that could get similar results with fewer problems. Since Pep was the only one with any financial expertise, he was assigned by the family to do an analysis of the profitability and risks.

1.1 Profit & Loss Statement Forecast

The Martí familywas considering an integrated farm of 1,000 sows that could produce between 21,000 and 25,000 piglets. These piglets would be grown in a separate barn from 6kg to the 90kg required for them to be marketable. The daily weight increase was estimated at 0,7kg of meat.

They estimated a selling price of €1.5 per kg of pork (range €1.2-1.8). The cost per kilo could vary between 1.3 and 1.1 euros. Themain competitive advantage of the Martí’s project was an expected cost reduction of 0.1 to 0.2 euros. These savings would come from using services provided by other business units in the family group such as a veterinary services and fodder; a better loss ratio (Between 5%-9%) due to better sanitary conditions; and reduced labor requirements thanks to well-designed barns. The operational expenses(Salaries, overhead, etc.) would be around €100.000 per year (including the feeding of the sows).

There is a fair degree of uncertainty in the expected results. The Martí family considered three scenarios (normal, bad and good). For clarity, the analysis would be based only on the normal scenario.

1.2 Investment Required

Based on their previous experience, they roughly estimated aninvestment in fixed assets of around €2.7m. The main items would be the following (in thousands of euros):

Land 270
Construction of 9.000 feeder barn spaces for feeding pigs (€120 each) 1.080
Construction of 1.000 farrowing barn spaces for sows (€660 each) 660
Hardware for feeding the pigs 300
Purchase of 1.000 sows (at €160 each) 160
Otherfacilities (Roads, fences, water, electricity, etc.) 270
Total Fixed Assets 2.740

They would use a 10-year average depreciation for all these fixed assets, without considering the land (land is not depreciated). They expected an annual investment similar to depreciation.

The investment in NFO had the following main elements: inventory of feeding pigs, accounts receivable (thecollection period from the slaughterhouse was 60 days) and accounts payable (payment period of the fodder would be 30 days).

It was assumed that the investment in fixed assets would take place in year and the investment in NFO from year one onward. At a rough estimate, the total investment was expected to rise to €3 or €3.5m, but the detailed calculation needed to be made.

1.3 Financing

TheMartí family wanted to take advantage of the low interest rate (at 5.5%) and take out a seven-year loan of around €1.4m, with annual repayments of principal of €200.000. They were prepared to invest €1.8m in equity. The bank was also prepared to open a line of credit if necessary. The rough estimate for the total investment was in the region of €3m, although the fine numbers should be calculated.A reasonable forecast for future inflation could be 2% per year. Company tax rate was around 30%.

1.4 Other projects

Pep was the only family member not involved in the pig industry and living in Barcelona instead of the more relaxed Plana de Vic. He had an MBA and had worked for several years in Boston.

Pep suggested that an investment in the stock market could yield on average 10%,...