Uganda has, over the past twenty

CRI, Cambridge, MA, USA APPRAISAL OF KAMPALA HILTON HOTEL PROJECT CRI, Cambridge, MA, USA 1 KAMPALA HILTON HOTEL PROJECT 1. Background Uganda has, over the past twenty years, enjoyed its longest ever period of internal stability and has benefited from consistent investor-conscious policy framework. This achievement has been a major contributing factor in Ugandas social and economic development. As such, Uganda boasts the fastest-growing economy in East Africa. Tourism is Ugandas fastest developing sector and has contributed significantly to Ugandas economic boom. The latest hotel developments in Uganda are an indication of tourism growth in Uganda and East Africa as a whole. However, a major handicap is the shortage of an adequate number of quality hotel rooms in the country to meet the increasing number of visitors. According to Uganda Tourist Board (UTB), there are about 6000 hotel beds in the country with probably only a few hundred of high quality standards. Hence, there is a gap that exists in the Ugandas accommodation market created by the absence of any superior grade business hotels of world-class specifications. 2. Hotel Concept The proposed Kampala Hilton hotel is set to meet this gap. It is to be located on a magnificent 15 acre woodland site on top of Nakasero Hill in the central business district of Kampala. The promoter is a leading Ugandan industrialist and investor, Aya Investments Limited, who will sponsor and facilitate the construction of the hotel project. The promoter has retained the services of a world-renown architectural firm from London to oversee the development of the project and intends to form an alliance with Hilton International to manage the completed hotel and take on the Hilton flag. With the Hilton flag, the hotel hopes to capitalize on Hiltons depth of management expertise of five star hotels and the name recognition of the Hilton brand world-wide. This gives the hotel a more competitive position in the hotel market. The project will aim to target different class segments of visitors such as business travelers as well as local and international conferences, who are seeking good quality in accommodation, a high standard of service, entertainment and sports facilities availability, and a varied environment and culture to explore. At present time, there are two identified properties, with a total of 647 rooms that are considered to be partially competitive with the Hilton hotel. However, the Hilton hotels location and facilities will heighten its competitive position in the hotel market. The following sections summarize the prominent features of the proposed hotel: 3. Capital Investment Requirements of the Project All the investment costs are given in year 0 prices (US$, real prices), unless specified otherwise. The construction of the hotel will take 2 years, beginning in year 0. The project will be evaluated for an operating life of 15 years beginning in year 2 and the hotels assets are assumed to be liquidated in year 17. The construction of the project involves the following number of expenditures: CRI, Cambridge, MA, USA 2 3.1. Land: The land has a market value at the beginning of the project (year 0), of US$ 2 million. It should be emphasized that this is a unique plot of land both because of its size and its location. There is no other 15-acre parcel of land in the central district of Kampala and this site is a top highest hill in the city, giving unparalleled views of Lake Victoria and Kampala city centre. Because the owner of the five-star hotel is willing to use the land for this purpose, the government will provide the land free of charge. 3.2. Buildings: The buildings total cost is estimated at US$ 48,749,488. The expenditure on the building construction will be made 75% in year 0 and 25% in year 1. 3.3. External Works: The total capital cost for external works is estimated to be US$ 4,385,000. This includes the construction of external car parking area, sports ground, landscaping, fencing and external lightning. All of these expenditures will be incurred in year 1. 3.4. Motor Vehicles: The motor vehicles will be purchased in year 1 at a cost of US$ 1 million to facilitate the transportation of the hotel employees and other hotel operations. 3.5 Furnishings, Equipments, Crockery, Cutlery & Linen The total cost of the furnishings, equipments (such as computers and security control systems), crockery, cutlery, and linen is US$ 17,750,000. All of these expenditures will be incurred in year 1. 3.6 Pre-operating Expenses: Pre-operating expenses are expenditures incurred on start up activities of the project prior to the start of its operations. They are estimated to be equal to US$ 4,200,000. The expenditure of these pre-operating expenses will be made 10% in year 0 and 90% in year 1. 3.7 Investment Cost Overrun Factor This factor is estimated at 0% in the base case signifying any unexpected changes in the real investment costs. However, the investment cost overrun factor does not apply for items such as land; motor vehicles; furnishings, equipments, crockery, cutlery, and linen. This is because the cost of land is already fully covered in form of a subsidy provided by the government. And there are no unexpected changes in the costs of motor vehicles, furnishings, equipments, crockery, cutlery, and the project already fully paid the suppliers of these items during the time of purchase. CRI, Cambridge, MA, USA 3 Below is the detailed summary of investment costs of the project in real prices. Table 1: Investment Costs Table II. INVESTMENT COSTS ( REAL USD,YEAR 0 PRICES) LAND, BUILDING AND OTHER COSTS: % in year 0 Total Year 0 Year 1 Land value (Fully subsdized by government) 100% 2,000,000 2,000,000 0 Buildings 75% 48,749,488 36,562,116 12,187,372 OTHER COSTS: External works 0% 4,385,000 0 4,385,000 Motor vehicles 0% 1,000,000 0 1,000,000 Furnishings, equip, crockery,cutlery & linen 0% 17,750,000 0 17,750,000 Total Land, Buildings & Other Costs 73,884,488 38,562,116 35,322,372 Pre-operating expenses 10% 4,200,000 420,000 3,780,000 Total Investment Costs 78,084,488 38,982,116 39,102,372 Investment Cost Overrun Factor 0% 4 Financing of the Project The totalized project investment cost in year 0 prices of the hotel project is US$ 78,084,488. The debt financing of US$ 50 million (in nominal prices) will be approximately equal to 65% of this amount. The debt finance will come from foreign sources such as the International Finance Corporation (IFC). The anticipated loan disbursement schedule is 50% in year 0 and 50% in year 1, thus US$ 25 million will be disbursed in year 0 and US$ 25 million year 1 (in nominal prices). Equity from the project sponsor will cover the remaining financing needs. The hotel begins operation in year 2. The loan principal is to be repaid in 8 equal annual installments beginning in year 2. A grace period for principal repayments is given by the lender for the two years of project construction. The real interest rate on the loan is 8%. The interest expense is paid each year and calculated on the balance of the loan remaining from the previous year. Interest is paid on the loan during the period of construction. For taxation purposes, the interest expense accrued on the loan during the period of construction along with any commitment fees and loan appraisal fees are capitalized as soft asset costs and depreciated on a straight line basis over the first three years of the hotels operation. The non-refundable appraisal fee is equal to 1% of the amount of the loan and will be paid at the beginning of year 0. The commitment fees total amount is equal to 1.25% of undisbursed amount of the loan. Taxation 5.1. Corporate Income Tax The hotel will be given a tax holiday for the first six years of the operation period. Income is subject to a corporate tax rate of 30% after the sixth year. The governments tax code permits the carryover of losses indefinitely into future years but no tax losses can be carried forward from the years of the tax holiday to CRI, Cambridge, MA, USA 4 subsequent years. The tax regulations allow the companies to take a full deduction of actual interest payments against taxable income when calculating the amount of corporate income taxes due. When there is a change in the market exchange rate over time, a future adjustment is made to taxable income. The difference in the local currency value of the loan repayment using the current exchange rate and the weighted average exchange rate on the period that the loan was disbursed is deducted as a further financing expense for the purposes of corporate income taxation. 5.2. Value Added Tax (VAT) The standard VAT rate is 18% and applies to all goods and services except zero-rated and exempt goods like capital investments, and some of the operating costs (labor, administrative, accounting, travel (local), electricity, and marketing & promotion). The project experiences two VAT categories; as an input tax and output tax. Input tax is the VAT that the project pays on the input purchase of its taxable goods and services used for the operation. Output tax is the VAT that the project charges on its sales to its customers. Therefore it is required to calculate VAT Paid on these inputs used by the project and VAT Collected on the projects output. If the VAT on sales is greater than the VAT on purchases, then the project pays (outflow) Uganda Revenue Authority (URA) the VAT on sales in excess of the VAT on purchases. On the other hand, if the VAT on sales is less than the VAT on purchases, a refund (an inflow) equal to the excess of VAT on purchases over VAT sales is claimable from URA. Notes: i) There is 0% VAT charged on the projects capital investments costs. Therefore in actual sense, no VAT is paid on these items. This is a government incentive to the hoteliers as a means of encouraging hotel investments. ii) An immediate credit for input tax is given for taxes paid on the purchases of the taxable inputs for hotel operations. 5 Inflation, Discount and Exchange rates 6.1. Inflation rate The inflation rates are assumed in the base case to be constant and throughout the life of the project, Uganda at 5%; and 3% in the USA. 6.2. Discount rate The real financial discount rate for equity is assumed to be 12%. 6.3. Exchange rate The market exchange rate in year 0 is UGX 1700 per USD. It is assumed that the current real exchange rate (set equal to market exchange rate in year zero) will remain constant in the base case and during the life of the project. The projected nominal exchange rates in the following years will depend on the relative inflation rates between US dollar and Ugandan shillings (UGX). CRI, Cambridge, MA, USA 5 7. Tax Depreciation and Economic Life The annual economic depreciation of the assets will be based on their real book values at the end of the construction period (i.e. year 1). The straight-line depreciation method should be used in determining the residual values of the assets. The project will be evaluated for an operating life of 15 years (i.e. year 2 to year 16); assets will be brought into the cash flow statement at their cumulated residual values in year 17. The assets real residual values should be adjusted for the inflation experienced from the period of investment to the final period of the project (year 17). The allowed rates of fixed assets depreciation for the purposes of estimation of tax depreciation expenses are different from the rates of economic depreciation. Table 2: Tax and economic depreciation has the following profile: DEPRECIATION PARAMETERS: Tax depreciation and Economic life Economic life Tax life Depreciation for fixed assets and pre-operating expenses: Buildings 25 10 External works 25 10 Motor vehicles 8 5 Furniture, computers & security control systems 15 6 Pre-operating costs 25 1 Tax Depreciation for financing costs (soft assets) during construction: Tax Life Capitalized interest expense during construction 3 Loan appraisal fee 3 Loan commitment fee 3 It is assumed that there will be no expected future improvements in the local infrastructure outside of the project; therefore the residual value of land is deemed to remain the same in real terms as the market value in the initial period. 8. Working Capital The accounts receivables for food & beverage, hotel room rentals and the associated services (health club facilities and wedding receptions) are estimated to be equal to half a month of operating revenue or 0.5/12, which represent 4.17% of gross revenue including VAT for food & beverage, hotel room rentals and the associated services. The accounts receivables for conference halls are equal to one month of operating revenue or 1/12, representing 8.33% of gross revenue including VAT for conference halls. The stock of the accounts payables is estimated at 8.33% of total operating costs including VAT minus all labor costs. The required stock of cash balances to be held by the hotel is estimated to equal 1 month of projects annual operating expenditures, or 8.33% of total operating costs including VAT. The hotel project carries a stock of two types of inventories: food and beverage. It is assumed that the quantities of dry-food and beverage stocks will be, on the average, 14 days, which represents 3.84% of a years direct cost of food and direct cost of beverages, respectively. Perishable food inventory is determined, on average, as 5 days, which represents 1.37% of a years direct cost of food. The direct costs of both food and inventory include VAT. CRI, Cambridge, MA, USA 6 9. Rooms Prices and Project Revenue Parameters (All prices are US$, year 0 prices) 9.1 Average occupancy rates Average occupancy rate for hotel rooms and conference rooms has been estimated at 50% for the first year of operation. It is anticipated that it will take the proposed hotel 2 years to stabilize and make its impact on the market, after which there is estimated increase in occupancy by 3.5% per year reaching a maximum of 73% in year 14 and remain constant till the last year of operation (i.e. year 16). 9.2 Hotel demand projections and average hotel room rate. The forecasts assume that the hotel will have 272 rooms, and these rooms will be open for 365 days per year, which translates to 99,280 available room nights per year and 49,640 rooms occupied in the first year of operation. The number of rooms occupied represents the total number of resident or lodged guests per year. The daily average room rates have been estimated at UGX 374,000, an equivalent of $220 for the first year of operation and assumed in the base case to remain constant in real terms over the life of the project. The daily average room rates in real terms are expected to increase by 0% after the first year of operation. The hotel average room rate is subject to 18% VAT. 9.3. Conference rooms It is estimated that the conference facilities will on average accommodate 308 people simultaneously, although the maximum capacity is 700 (i.e. a capacity utilization rate of 44%). The rental charges are estimated at UGX 1,190,000 per half day with utilization of 5 half days per month, and UGX 2,040,000 per full day, with utilization of 5 full days per month. In addition, provision has been made for food and beverages at UGX 22,100 per person per half day, and UGX 27,200 per person per full day. This translates to a total of $4,704 for a half day utilization of the facilities and $6,128 for full day utilization. The conference rooms are open throughout the year. The price of the conference rooms and catering are assumed in the base case to remain constant over the life of the project. All the conference hall charges are subject to VAT. 9.4. Food and Beverage The average guests spend for food is estimated at UGX 59,500 per guest-night, and it is assumed to remain constant in real terms throughout the projects operation period. The beverage average guests spend is estimated to be UGX 34,000 per guest-night and it is to remain the same in real terms for the duration of the projection period. Both food and beverage prices are subject to VAT. It is assumed that there will be additional revenue of food and beverages that will come from non-resident guests. The number of non-resident guests is estimated to be 10% of the number of resident or lodged guests. 9.5. Revenue from associated services It is expected that the hotel will also generate revenue from other sources such as laundry, health club facilities, the business center plus special functions such as wedding receptions. This revenue is estimated at 12 % of total operating revenues before VAT from hotel rooms, conference halls and food and beverages and this revenue should be adjusted for VAT. CRI, Cambridge, MA, USA 7 10. Departmental operating Expenses and Labor Costs of the Project All of the departmental operating costs and labor costs are occurring after the construction period, i.e. year 2 onwards. The departmental operating costs include 18% VAT. 10.1. Labor Costs During the construction phase of the hotel, all the labor costs are already covered by the contractual packages awarded to the successful bidders. However, during the operational phase, the project will hire 152 employees. Out of this number of employees, 18 are managers, 21 are officers and 113 are support staff. The real wage rate for managers is UGX 2,247,400 per month per manager; for officers is UGX 970,700 per month per officer and UGX 265,200 per month per support staff. The real wage rate in the base case is expected to grow by 1.5% starting at the beginning of the second year of operation (i.e. year 3). 10.2. Departmental Operating Expenses. 10.2.1. Room Operating Expenses a. House keeping and Management costs These are the direct labor costs for rooms. House keeping costs are the costs associated with cleaning and pressing all the hotels linen and the employees uniforms as well as guest laundry, and cleaning the guest rooms and public places. They are estimated at 3.00% of hotel room rental revenues before VAT. Management costs are estimated at 0.5% of hotel room rental revenues before VAT; and they include the costs of social and sport activities. b. Office Equipment and Guest Supplies These involve the costs of office equipment and guest supplies. These costs are estimated at 8% of gross revenues including VAT for hotel room rentals. 10.2.2. Administration and General Expenses a. Administrative expenses These involve the costs of employee recruitment, benefits administration, training and handling administrative and legal issues. These costs are estimated at 12% of total revenues before VAT. b. Accounting expenses (fees) These are costs such as, audit fees, management fees, subscriptions for TVs, insurance, bank charges, and other fees and commissions paid in the operation of the hotel. These costs are estimated at 6% of total revenues before VAT. c. Travel (local) Expenses These costs are estimated at 0.5% of total revenues before VAT. These involve the costs of travel of the employees. CRI, Cambridge, MA, USA 8 10.2.3. Food and Beverage Expenses a. Direct costs Direct costs of food are estimated at 40% of gross revenue including VAT for food; and direct costs of beverages are estimated at 30% of gross revenue including VAT for beverages. b. Stewarding and convention & catering These are direct labor costs for food and beverage department. They include cleaning the convention hall and food & beverage outlets; handling all the clients meetings and catering requirements. These costs are estimated at 2% of food and beverage revenue before VAT. c. Crockery, cutlery and Linen These costs are estimated to be equal to 5% of gross revenue including VAT for food and beverages. d. Miscellaneous costs These are all other costs under food and beverage department that do not fall under the three costs categories above. These include costs of printing and stationery, paper supplies and pest control. These costs are estimated at 2% of gross revenue including VAT for food and beverages. 10.2.4. Utilities, Replacement and Maintenance Labor Costs a. Utilities These include the costs of electricity, gas and water. These costs are estimated at 2.60% of total revenue before VAT for electricity, 0.75% for gas and 0.90% for water of total gross revenues including VAT. b. Replacements parts. The real costs of replacements parts for the operation of the hotel are estimated at 2% of the real value of total investment costs. The replacement costs for the first four years of operation (i.e. years 2 to 5), are estimated to be half of the normal yearly costs of replacement parts. These costs should be adjusted for inflation in the operating schedule. c. Maintenance labor costs These costs are estimated at 2% of total real value of investment costs. The maintenance labor costs for the first three years of operation (i.e. year 2 to year 4), are estimated to be 50% of normal yearly costs of maintenance labor costs. 10.6. Conference Hall Operating Expenses a. Fumigation Costs. The fumigation costs are estimated at UGX 2,550,000 per month and they increase in real terms by 5% starting from the second year of operation until the last year of operation. CRI, Cambridge, MA, USA 9 a. Cost of Food and Beverage for Conference Hall These costs are estimated at 9% of the direct cost of food and beverages including VAT. 10.7. Marketing and Promotion Expenses These costs are estimated at 2% of total revenues before VAT. CRI, Cambridge, MA, USA 10 11. ECONOMIC ANALYSIS Economic Parameters and Estimation of Conversion Factors In order to undertake an economic analysis, the financial values must be converted into economic values by multiplying the financial values with their respective conversion factors. Following are additional parameters and assumptions made for the economic analysis: 11.1 National Parameters For the purposes of this analysis, the economic opportunity cost of capital (EOCK) for Uganda is 11%. The Foreign Exchange Premium (FEP) is estimated at 12%. The premium on the non-tradable outlays (NTP) is 2%. The average effective rate of indirect tax in the economy used in the calculation of Conversion factor of non-tradable buildings and external works is 6%. 11.2. Tradable Goods and Services 11.2.1. Tradable Goods Exempted from Taxes Imported Capital items such as motor vehicles, furnishings, equipments, crockery, cutlery and linen attract a zero-rated import duty (tariff) and VAT as a way of promoting hotel investment in Uganda. Additionally, No Excise Duty is levied on these capital items. 11.2.2. Tradable Goods Subject to Taxes i) The imported inputs used in the hotels operations are subject to an import duty of 10% on their CIF prices and a VAT rate of 18% of CIF price plus import duty. ii) Food is an importable input and subject to import duty of 10% on its CIF price and a VAT rate of 18% on the sum of CIF value and Import Duty charged (CIF+ID). iii) Beverage is an importable input and subject to Import Duty, Excise Duty (ED) and VAT taxes. Import Duty of 10% is levied on its CIF price during importation. Excise Duty (ED) of 10% is charged on CIF+ID values and a VAT rate of 18% is charged on CIF+ID+ED iv) Gas is imported. It attracts an import duty of 10% and in addition a value added tax of 18%. v) Fumigation materials and chemicals used to purify the water are considered tradable. These are subject to 18% VAT and an import duty of 10%. v) The adjustment for taxes and tariffs on all tradable goods and services is made directly and assumed to be 1. The handling and freight & transportation charges for imported capital items and inputs for hotel operations are respectively equal to 5% of the CIF value of the imported items and inputs for hotel operations. The adjustment factors for indirect taxes on handling and freight & transportation is 0.83. Handling charges have 60% tradable content and 40% non-tradable content. Freight & transportation charges have 70% tradable content and 30% non-tradable content. vi) The handling and freight & transportation charges from the port to the market for food and beverage are respectively equal to 5% of CIF CRI, Cambridge, MA, USA 11 value. The freight & transportation charge from the market to the project is 5% of market price. Below is the summary table for these tradable items: Table 3: Import Duties (tariffs), Excise Duty, VAT, Freight & Transportation and Handling Taxes of Tradable Goods: 11.4. Non-Tradable Goods i) The composition of tradable and non-tradable items used for the nontradable buildings and external works is summarized in Table 4. It is assumed that tradable intermediate inputs used to produce this nontradable good have a zero-rated import duty and VAT. Non-tradable intermediate goods, however, are subject to 18% VAT. Suppose the market price of the non-tradable intermediate inputs is equal to their supply price. Assuming there is 0% VAT charged on the building purchased by the project, the demand price is equal to the market price. Since there is no subsidy on supply price of the building, its market price will be equal to the supply price which is equal to demand price of 1000. It is assumed that the average VAT rate for other buildings construction in Uganda is 5%. Therefore the economic price of the building is simply equal to the market price, adjusted for average VAT rate on other building construction and effective tax rate. Weights on demand and supply for buildings are equal to 0.33 and 0.67 respectively. Non-tradable content on the building is 66% while its tradable content is 34%. ii) Electricity is a non-tradable good. The project pays no VAT on the electricity. The fuel used for electricity production is imported by the government .It is assumed that no taxes are paid on the importation of fuel, therefore the economic cost of electricity is higher by only the value of FEP. Item Import Duty (ID) % of CIF Excise Duty (ED) % of CIF+ID VAT % of CIF+ID (except for beverages) Port Handling % of CIF Freight &Transportation Imported Capital Items 0% none 0% 5% 5% of CIF value(port project) Imported inputs for operations 10% none 18% 5% 5% of CIF value(port project) Food (Importable input) 10% none 18% 5% 5% of CIF value(port market) 4% of market value(market-project) Beverages (Importable input) 10% 10% 18% (% of CIF+ID+ED) 5% 5% of CIF value(port market) 5% of market value(market-project) CRI, Cambridge, MA, USA 12 iii) Other non-traded goods and services used in the project include; water; marketing and promotion; administrative and management services; pre-operating expenses; house keeping; fumigation labor component; stewarding, convention and catering; miscellaneous; rooms and conference hall rental services and other associated services. Table 4: Input Composition for Non-Tradable Buildings and External Works: 11.5. Accounting expenses (Management fees, audit fees and other fees) The projects payment of accounting expenses such as management fees, audit fees, interest payments and other fees are subject to a Withholding tax of 15%. The elasticity of demand and supply are -1 and 3 respectively. 11.6. Labor It is assumed that the project will hire its labor from the local labor market. In order to attract the necessary workers, the project will provide wage rates to its employees that are substantially above (about 80%) the market (supply price) wages. The project wage rates are estimated at US$1322 for managers, US$ 571 for officers and US$ 156 for the support staff. The supply price of labor in alternative market is estimated at US$ 1190 for managers, US$ 514 for officers and US$ 140 for support staff. The market wage rate (supply price) is estimated at US$ 1058 for managers, US$ 457 for officers and US$ 125 for the support staff. The proportions of the projects demand for labor obtained from the taxed employment activities in the alternative labor markets are 90% for both managers and officers, and 80% for the support staff. The employees personal income tax framework is as follows: 5% for the support staff, 15% for the officers and Inputs Ax Input Quantity/Unit Output (a) Pm Unit Cost (b) Demand elasticity (h) [c] Supply elasticity () (d) Import Duty (e) VAT (f) Tradables Pi Mining products 7 6.10 0% 0% Wood products 2 2.8 0% 0% Paper products 3 3.73 0% 0% Petroleum products 4 12.25 0% 0% Paints 0.5 6.40 0% 0% Glass products 1 1.60 0% 0% Plastic products 2 7.90 0% 0% Ceramic products and ceramic ware 5 6.10 0% 0% Iron and steel products 25 1.36 0% 0% Structural metal products 30 2.13 0% 0% Treated and other fabricated metal products 4 3.68 0% 0% Electrical equipment and products 30 2.33 0% 0% Non-tradables Pj Cement and other-non-metallic products 40.00 2.42 -1.0 3.0 18% Business and other services 1.00 140.10 -1.0 3.0 18% Other non-tradable items 4.00 3.40 -1.0 3.0 18% Return to capital 1.00 107.60 Labor 8.00 30.4 Depreciation 1 56.50 CRI, Cambridge, MA, USA 13 20% for the managers. The economic opportunity cost of labor (EOCL) employed by the project is estimated using the Supply Price Approach. Table 5: Calculation of Conversion Factors for Labor Local Labor Project wage rate(Wp) Supply wage rate from alt. sources (Wa) Market (supply) wage rate (Ws) Income tax rate (T) Demand prop. From taxed alt. labor sources (Hd) Ws(1-T) HdWaT Economic opport. cost of labor (EOCL) Manager 1322 1190 1058 20% 90% 846 214 1060 Officer 571 514 457 15% 90% 388 69 458 Supp.Staff 156 140 125 5% 80% 119 6 124 Based on this information, the conversion factors calculated are as follows: managers is 0.802, officers is 0.802 and 0.796 for support staff. 11.7. Working Capital The change in accounts receivable is associated with the operating revenues of the hotel, and thus the conversion factor of accounts receivable is the same as the conversion factor of hotel output. The conversion factor for the change in accounts payable is computed as an average conversion factor of all operating costs except labor costs. There is no distortion on the cash balance held by the hotel and the conversion factor for cash balance is one. The projects inventories are associated with the direct costs of food and beverage, and thus the conversion factor of inventories is average conversion factor of food and beverage. 11.8 Conversion Factor for Economic Value of the Hotel Output There are two sets of economic benefits of the proposed hotel project. The first set of the economic benefits of the hotel is the savings in the resource costs that they would use to build other similar hotel accommodation. These resource costs saved from the other similar hotels are now made available to the economy. The nature of the costs of alternative hotels is assumed to be the same as that of the projects. It is assumed that 80% of the hotels supply is substituting for other hotels that would have entered the market. The second set of the hotels economic benefits is the incremental hotel services being supplied that would never be supplied. This new stimulated demand of the project is measured by the consumers willingness to pay for additional services. It is assumed that 20% of the hotel revenues will be incremental to the economy. The tradable component of the hotel output is estimated to be equal to 4%, which comprises food and beverages. The non-tradable component is estimated to be 96%, which comprises hotel room and conference hall rentals. The formula for calculation of the conversion factor and economic value of the hotel output will be: CRI, Cambridge, MA, USA 14 Economic Value = [Ws * PV Revenues + Wd (PV Revenues * (1+t-d*))] -Ws (1-(PV Econ. costs / PV Fin. costs))*PV Revenues + (PV Revenues * T * FEP) + (PV Revenues* NT * NTP) The relevant financial price is the Present value of financial revenues. Conversion Factor = Economic Value / Financial Value. With this information, a series of Commodity Specific Conversion Factors (CSCF) can be calculated and they are presented in table 18 of the spreadsheet. ASSIGNMENT PART I. Financial Analysis A. Construct the following tables in your appraisal model: 1. Project parameters table 2. Inflation, Exchange and price indices table 3. Investment costs schedules (Real and Nominal) 4. Economic depreciation schedule (Liquidation values of assets) 5. Tax depreciation schedule 6. Loan schedule 7. Sales projection 8. Operating costs 9. Working capital 10. Income tax statement 11. Cash flow statement from total investment /bankers point of view (Nominal and Real) 12. Debt service ratios 13. Cash flow statement from equity/owners point of view (Nominal and real). B. Calculate Annual Debt Service Coverage Ratio and Debt Service Capacity Ratio from total investment/bankers point of view. See note (iii) below for the estimation of the ratios. C. Calculate NPV and IRR of the project from equity/owners point of view. D. Determine whether the proposed hotel project is financially viable or not based on the results of your financial analysis. E. Is the project bankable? CRI, Cambridge, MA, USA 15 NOTES: i) All the figures provided in the table of parameters are in year 0 prices and should be adjusted for inflation for the years following. ii) To conduct the total investment/bankers point of view in this case, the loan financing of the investment does not enter into the net cash flow statement. iii) In analyzing the total investment (Bankers) point of view, it is not necessary to calculate NPV and IRR. We are interested in (a) the Annual Debt Service Coverage Ratio (ADSCR) on a year-to-year basis; and (b) Debt Service Capacity Ratio (DSCR) [a summary ratio of PV Net Cash flows over PV of loan repayments during the period of the loan repayment]. Below are the formulae for the calculation of the debt service ratios: a) Annual Debt Service Coverage Ratio (ADSCR) as follows; ADSCRyear X = [Annual Net Cash FlowNominal Year X / (Annual Debt RepaymentNominal Year X)] b) Summary Debt Service Capacity Ratio (DSCR) for the remaining debt repayment period by using real interest rate on loan financing as discount rate; DSCRyear X= PV of Annual Net Cash Flowreal Year X /(PV of Annual Debt Repayment real Year X)] PART II. ECONOMIC AND STAKEHOLDER ANALYSIS A. Develop an economic resource flow statement for the proposed hotel project. Is the project desirable from the point of view of society? Explain. B. Develop a Statement of Externalities and a Distribution of Stakeholder Impacts. Which groups (government, labor and investors, among others.) are likely to benefit and/or lose from the implementation of the project other than the owners of the project? Explain. NOTE: The financial values of all inputs and outputs of the project are multiplied by their respective conversion factors to get their economic values. CRI, Cambridge, MA, USA 16 PART III. SENSITIVITY ANALYSIS A. Carry out a sensitivity analysis on the financial IRR and NPV (Real) of the project from the equity holders/owners point of view and Annual Debt Service Coverage Ratios in years 2 to 5 as well as the Debt Service Capacity Ratio in years 2 to 5 with respect to the following variables: 1. Investment cost overruns (a range of -10% to 20% from the base value, in increment of 5%) 2. Hotel occupancy rate (a range of 35% to 65% from the base value, in increment of 10%). 4. Daily average room rate (a range of UGX 344,000 to UGX 419,000 from the base value, in increment of 15%. 5. Real exchange rate appreciation/Depreciation factor (a range of -6% to 6% from the base value, in increment of 2%). 6. Domestic inflation rate (a range of 3% to 8% from the base value, in increment of 1%). 7. Foreign inflation rate (a range of 2% to 4.5% from the base value, in increment of 0.5%) 8. Labor real wage growth (a range of 0.5% to 2.5% from the base value, in increment of 0.5%). B. Based on the results of your sensitivity analysis, identify the critical risk variables that are likely to affect the outcome of the project, if implemented. PART IV. RISK ANALYSIS Carry out a risk analysis based on the most critical variables identified in part iii (B).

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