Phuket Beach Hotel: Valuing Mutually Exclusive Capital Projects Custom Case Solution & Analysis

1. Evidence Brief (Case Researcher)

Financial Metrics:

• Discount Rate: 12% (Hurdle rate for capital projects).
• Project A (Renovation): Initial investment $5M; expected annual cash flow $1.2M for 7 years.
• Project B (Expansion): Initial investment $12M; expected annual cash flow $2.8M for 7 years.
• Terminal Value: Assumed zero for both projects at end of year 7.

Operational Facts:

• Location: Phuket, Thailand.
• Capacity: Current occupancy averages 72% in peak season, 45% off-peak.
• Competition: New supply entering the market (3,000 new rooms forecasted within 24 months).

Stakeholder Positions:

• CFO: Favors projects with highest Net Present Value (NPV).
• General Manager: Prioritizes brand image and service quality over short-term cash flow.

Information Gaps:

• Project B sensitivity to occupancy fluctuations.
• Probability of regulatory delays regarding expansion permits.

2. Strategic Analysis (Strategic Analyst)

Core Strategic Question: How should Phuket Beach Hotel allocate limited capital to maximize long-term shareholder returns while mitigating the risk of over-capacity in a saturating market?

Structural Analysis:

• NPV Calculation: Project A yields an NPV of approx. $0.46M. Project B yields an NPV of approx. $0.73M.
• Capital Rationing: While Project B offers higher absolute NPV, it consumes 140% more capital, limiting liquidity for potential downturns.

Strategic Options:

1. Aggressive Expansion (Project B): Captures market share before competitors finalize construction. Trade-off: High debt load and sensitivity to occupancy drops.
2. Focused Renovation (Project A): Increases average daily rate (ADR) through quality improvements. Trade-off: Lower absolute return; fails to address capacity constraints.
3. Phased Investment: Execute renovation now, defer expansion pending market stabilization in year 3.

Preliminary Recommendation: Option 2. The competitive influx of 3,000 rooms makes the ROI on expansion highly speculative. Renovation protects current margins against new entrants.

3. Implementation Roadmap (Implementation Specialist)

Critical Path:

1. Finalize contractor bidding for renovation (Weeks 1-4).
2. Secure financing for $5M facility (Weeks 5-8).
3. Phased renovation of room blocks to maintain 40% operational capacity (Months 3-9).

Key Constraints:

• Labor availability during peak season.
• Guest disruption during construction.

Risk-Adjusted Implementation:

• Contractor penalties for delays exceeding 15 days.
• Marketing spend shifted to loyalty programs to retain existing base during construction.

4. Executive Review and BLUF (Executive Critic)

BLUF: The analysis correctly identifies that absolute NPV is a poor proxy for value when market saturation is imminent. Project B is a trap. The expansion assumes static occupancy, which is impossible given the 3,000-room supply shock. Proceed with Project A immediately. The renovation increases ADR, which is the only defense against price wars triggered by new, lower-cost competitors. Expansion should remain on the shelf until the market absorbs the new inventory.

Dangerous Assumption: The analysis assumes current cash flow projections for Project B hold steady despite the 3,000-room supply increase. This is statistically improbable.

Unaddressed Risks:

• Margin Compression: New supply will force a pricing war. Project B’s high fixed costs will bleed the company if ADR drops by 15%.
• Liquidity Trap: $12M in capital tied up in expansion leaves the firm unable to respond to a regional economic shock.

Unconsidered Alternative: A joint venture with a boutique operator to manage the expansion risk, rather than funding it entirely from the balance sheet.

Verdict: APPROVED FOR LEADERSHIP REVIEW