Target Case

Target Corporation Capital Expenditure Target’s Capital Expenditure Committee, consisting of five top level executives responsible for reviewing all large capital project requests, is currently considering 5 projects to add value to the corporation. Their overall goal is to add 100 stores a year, while maintaining a positive brand image and watching budget constraints. If the CEC rejects a proposal there are large financial and emotional sunk costs, due to the long development process.
Each project is evaluated in terms of its quantitative, qualitative, and strategic parameters. In calculating the NPV of these projects, Target uses two hurdle rates, 9% and 4% for the store operations and credit-card cash flows respectively, due to the different costs of capital. Funding credit card receivables requires less risk than funding store operations because credit cards do not require many fixed assets and are only issued to individuals with suitable credit history. We have analyzed each project, ranked them according to value(best to worst i. . 1 to 5), and made a recommendation to accept/reject each one. Project: “The Barn” Rating: #1 Recommendation-Accept Construction of this P04 store allows Target to enter a new market. This investment offers the greatest return, with an NPV which is 128% of the $13 million investment, and an IRR of 16. 4%. By building this store, Target would be vastly increasing its brand awareness in an area that was formerly occupied by its competition.
Although the low median income and low percentage of adults with college degrees suggest that the population may not fit the ideal Target guests, the prototype NPV is still attainable with a decrease in predicted sales by 18. 1%. Project: “Stadium Remodel”-Rating-#2 Recommendation-Accept The renovation of this successful SuperTarget requires an investment of $17 million, and provides an NPV of $15. 7 million(92% of investment) and an IRR of 10. 8%. In recent years the facility has begun to deteriorate; which, coupled with a decrease in sales has begun to tarnish Target’s brand image.

If the status quo is maintained, sales will decrease until Target is forced to close this facility; never allowing them to obtain this large NPV, nor the $0. 4 million in tax benefits of depreciable property write-off. The high level of median income($65,931) and percentage of adults with college degrees(42%), indicates that this demographic matches Target’s ideal customer base, moderating the risk of sales falling short of the predicted amount. By renovating this location Target is revamping the shopping experience as well as their brand image. This store could be returned to its former glory with a small investment and low level of risk.
Project: “Gopher Place”-Rating-#3 Recommendation-Accept This construction of a new P04 store in a critical market has an NPV of $16. 8 million, 73% of the initial investment of $23 million, and a favorable IRR of 12. 3%. The recent population growth in this area has also attracted the attention of Wal-Mart, who plans to open 2 new supercenters in this area, giving them control of 76% of the market. If Target does not invest here, Wal-Mart may gain a stranglehold in this area, making it impossible for Target to invest here at a later date.
If Target does invest in this project, Wal-Mart may reconsider opening a second superstore in this area. Furthermore, building this store would help increase the Target brand awareness in the area. Although the percentage of college graduates(12%) amongst this population is lower than desired, the high median income(56,400) and large population growth(27%) should drive up sales at “Gopher Place”. While high cannibalization of sales(19%) from other Target stores and sensitivity to decreases in sales give this project a lower ranking, the benefits of the NPV, IRR, and strategic importance make this project acceptable.
Project: “Whalen Court”-Rating-#4 Recommendation-Accept Construction of this unique store in the center of a major metropolitan area offers an IRR of 9. 8% and an NPV of $25. 9 million. However, these figures do not consider the scale of a project in which the NPV only accounts for 22% of the $119. 3 million investment. Furthermore, the land for this project must be leased, forcing Target to forego its archetype of purchasing land and forcing the CEC into a quick decision to avoid than missing this rare opportunity. Heavy foot traffic round this store will provide Target with a vast increase in brand visibility and awareness, allowing them to offset the large initial cost with a decrease in advertising budget. Whalen Court will be the flagship store in this established market area, where there are currently 45 Target stores. The large population, coupled with a median income of $48,500 and exceptionally high percentage of college graduates(45%) indicates a perfect community for Target to enter. Although we recommend the acceptance of this project, the vast initial investment makes this project less attractive than its peers.
Project: “Goldie’s Square”-Rating-#5 Recommendation-Reject While this SuperTarget was to be built in an area of strategic importance its return is not high enough to justify the investment cost. The NPV of $0. 3 million is a meager 1. 26% of the investment cost, and its IRR of 8. 1% is less than the required hurdle rate of 9%. The only reason it maintains a positive NPV is due to predicted credit card sales. 12 Target stores exist in the area, implying a large amount of their sales will be cannibalized from other Target stores.
In fact, predicted sales at “Goldie’s Square” would have to increase by 62. 5% to cover the loss in sales at the other stores and achieve the prototype NPV. In the short run this investment will add to Target’s top line, but in the long run it will become a burden to the corporation. Although Target has the necessary funds to invest in each of these projects, we recommend they accept all projects other than “Goldie’s Square”. The primary goal of the CEC is to choose projects which bring value and growth to the company; while increasing brand awareness and strategic considerations are of secondary importance.
This is why the CEC must look past the NPV and IRR and really scrutinize the projects, ensuring resources are allocated to the projects which provide the greatest value to all facets of the corporation. By accepting these four projects and rejecting “Goldie’s Square” Target will achieve sustainable growth and an increase in corporate value. After the recent lackluster returns, stockholders and analysts will be pleased with Target’s commitment to positive growth and value creation.