Hansson Private Label is a corporation that manufactures an array of personal care

products, including soap, shampoo, and the like, under the brand label of its retail
partners. Recently HPL’s largest retail partner proposed to them “significantly”
increasing the share of their private label manufacturing. This, however, would require an
initial investment of $45,000 to expand its manufacturing capabilities, plus a $12,817
increase in working capital. In order for HPL to accept or reject this expansion proposal,
a return on the potential investment, plus the associated expansion risks, needs to be
considered. These would, in turn, be contrasted with other opportunities that HPL can
also consider, such as finding other partners for a more diversified growth.

The project would attempt to evaluate the investment that has been proposed by HPL’s
manufacturing team. The primary question is on whether the investment required to
increase HPL’s manufacturing capabilities is warranted or not?
This project will also attempt to identify the challenges and risks involved in such an
investment. The first and foremost risk comes from the fact that the company has not
initiated a project of such a magnitude in quite a while and therefore the company is quite
apprehensive in undertaking this investment. The other risk factors that this project
attempts to address is the fact that undertaking this investment would double the
organization’s annual debt which its own set of issues has related to it. In addition to all
these risks, the returns on such an investment have to be carefully analyzed.
Further, the project will also try to evaluate the investment by taking stock of all the
forecast involved in the private labeling market along with a look into the past 10 years
worth of growth data. It would also review some of the risk free returns that are available
in the existing market conditions. The project will also review the process that has been
traditionally used by HPL to evaluate the various risks by estimating the company’s
WACC as a discount rate for capital budgeting projects. Also an NPV estimate will be
used to calculate the risk involved.
The present research will also propose certain measures to reduce the risk involved in
making an investment such as diversification of the company’s investment portfolio. This
would help in reducing the volatility of the company’s investments. Another measure that
the project will delve into in detail is asset classes. By combining various assets classes
with various levels of risk together in the same portfolio, an investor is able to control the
exposure to risk for a particular investment portfolio. Another measure to address risks
while making investments is to properly estimate the amount of return on the investment
using the forecast model.
In addition, the project will also define certain limitations associated with evaluating the
risks involved in making a big investment. One of the limitations comes from the fact that
the retail partner has agreed to increase HPL’s share for only three years. Hence this
forms a limitation because at the end of the stipulated term HPL might not get the returns
for their investment unless they find more partners. Another limitation that would be
present while evaluating the risks is the fact that the company’s financial position would
be at the limit of their comfort zone. This is a particularly precarious situation that most
businesses try to avoid. Hence this limitation would probably be influencing the decision
making process in a negative manner. Furthermore the demand for their products could
disappear at any time since human behavior and preferences are inherently unpredictable.
This project will review all the factors that would be involved in evaluating the question
as to whether such a big investment for a firm such as HPL is beneficial in the long run.

Background:
About Hansson Private Label (HPL)
Started in 1992 (Purchase of manufacturing assets from Simon Health and Beauty
Products)
Purchased by Hansson for $42 million ($25 million equity & $17 million debt) –
Hansson’s largest single investment
Hansson believed he was paying significantly less than replacement costs for the assets
Hansson was confident private-label growth will continue
HPL’s development and success:
Hansson’s focus on manufacturing efficiency, expense management and customer service
turned HPL into a success
Secured most major national and regional retailers as customers
Conservative expansion of HPL – opening of any new facility only if (>60% capacity
utilization)
Currently, all operating at (>90%) capacity
HPL’s Business Operations & Performance:
Manufacturer of personal care products (soap, shampoo, mouthwash, shaving cream, sun
screen and others) under brand label of HPL’s retail partners (supermarkets, drug stores,
mass merchants)
Generated $681 million (revenue) in 2007 [28% of total wholesale sales of $2.4 billion]
Situation:
$170 million investment proposal (expand manufacturing capacity of Hansson Private
Label [HPL]) to accomodate request by HPL’s largest retail customer to increase their
share of private label manufacturing
Land acquisition ($16 million)
Plant construction ($56 million)
Manufacturing equipment ($52 million)
Packaging equipment ($24 million)
Working capital for yr 1 ($22 million)
Customer will only commit to a 3-yr contract
Expect from Hansson a go/no-go commitment within 30 days
Dilemma:
Needs to determine return on the investment to justify effort and risk
May risk future opportunities of rapid growth and significant value creation by locking in
strong relationship with huge, powerful retailer
Need to maintain debt at modest level to contain risk of financial distress in the event the
company loses a big customer
Perspectives: (Pro-Investment)
Additional capacity will allow HPL to expand relationship with its largest customer
(growing sales in US)
Generate attractive payback
Expansion will enable HPL’s growth from addition of new customers
Deter HPL competitors from expanding production capacity in HPL’s personal care sub-
segments
Perspectives: (Con-Investment)
Making investment and incurring associated debt -> significantly increasing HPL’s
annual fixed costs and increase risk of financial distress should sales fall or cost rises (or
both)
Sales (from HPL’s largest customer) may initially increase. However, demand may
disappear at end of 3-yr contract
Industry Trends: (Personal Care Product Market)
Personal care market (hand&body care, personal hygiene, oral hygiene, and skin care
products)
US sales ~ $21.6 billion in 2007
Volumes increased (<1%) in each of past 4 years
Dollar sales growth (driven by price increases) averaged growth of 1.7% annually the
past 4 years
Featured numerous national names (high-end to low-end) with considerable brand loyalty
Private label penetration range (3% in hair care to 20% in hand sanitizers)
Personal care products are sold mainly through (1) mass merchants, (2) club stores, (3)
supermarkets, (4) drug stores and (5) dollar stores
Over past 15 years, manufactures heavily depended on small number of retailers who had
large national presence
Intense competition for shelf space (~80,000 new products launched each year)
Industry Trends: (Private Label Industry)
With private label brands, retailers rather than manufacturers controlled production,
packaging and production of goods
Retailers carry private label goods to provide consumers with lower-priced alternatives to
national branded goods
Quality improvements in private label goods led to increased acceptance by customers
Private label sales exceeded $70 billion in 2007
Private label products accounted for $4 billion of sales at retail (19% of $21.6 billion),
translating to $2.4 billion in wholesale sales from manufacturers
Benefits of Private Label:
Potential to increase profits by capturing a greater share of value chain
Manufacturer profits per unit could double those of retailer (esp. if brand was famous)
Retailers’ cost of goods was 50% lower than branded goods -> can double profit-per-unit
sold despite lower selling prices
Opportunity for growth (sales of private label goods <5% in many product categories)