David Grant is planning to open a first of its kind internet café, Caribbean Internet Café (CIC), in his home town of Kingston, Jamaica. This café would offer brewed coffee and other beverages, baked goods sourced from local bakeries, and a unique feature that no other café in the city offers, Internet service. David has found a location in the business district of Kingston, and sees the total size of his target segment at 20,000 people who are between the ages of 18 and 35. He is very knowledgeable about computers but feels that he cannot run the business on his own. His plan is to employ university students to act as servers and internet tutors, and hire a manager to run the business on a daily basis. The start up costs are very for a business of this type are very high and it may take awhile before David begins making a profit. In order to cover the start up costs he looked for a potential investor. An offer was made from from his former f ormer employer and Internet provider, JTL, offering $500,000 for a 50% partnership and a $1,250,000 long-term loan with an interest rate of 10% per annum. The question is whether David should proceed with the CIC venture, and, if so, if it would be a profitable business for him and JTL. A good way for David to determine whether the CIC venture would be profitable would be to perform a Cost-Volume-Profit Analysis. The first step is to classify his sales, variable expenses, and fixed expenses. From there he will be able to find his contribution margin and net income. He has approximately 3 years to make his money back and make a profit because he expects that private internet usage will increase 3 years after he opens. JTL provided him with three potential usage estimates for the first year of the café, an optimistic projection, a realistic projection, and a pessimistic projection. Because the Caribbean Internet Café is a o ne of a kind business in its area and provides a unique feature, internet access, we will use the realistic projection for our calculations. After three years though, it is most likely the Café’s usage will dip to the pessimistic level as private internet usage increases. David is opening a new business and must purchase all the equipment he needs. This equipment purchase will be become a sunk cost if the business opens and will make fixed expenses for the first year very high, after t he first year though his fixed expenses will drop dramatically as the equipment was a onetime purchase. David has also included $20,000 for advertising into his fixed costs for the year. This advertising is very important as it will introduce the public to the Caribbean Internet Café and will help increase the sales for the first year. Advertising for a new business is very important because nobody knows who you are and nobody is looking for you. You must establish a want within the community and have an advertising campaign that appeals to your target market and draws them in your doors for the first time. Other fixed costs include the manager’s salary, insurance, internet, the lease, utilities, internet link, advertising, and regular administrative expenses. A business of this type also incurs certain variable expenses that are a direct result of sales. A large part of these variable expenses are involved with having internet access at the facilit y. These are variable expenses that David plans to cover by charging a 30% premium on the average hourly rates for internet usage. Considering the Caribbean Internet Café is one of the few providers of internet, it is likely that it will draw its realistic number of expected patrons. His other major variable expenses are food and drink, on which he also charges a premium. Sales numbers were calculated using the expected number of patron’s at the realistic level. The three things that will drive the Café’s revenue are food sales, drink sales, and internet usage. Looking at the realistic level we see 24,000 customers in the first year, spending an average of 1 hour in the café, 40% of them paying for a computer, and each one spending $140 on drinks, and $60 on food, per visit. These numbers give us projected first year sales of $5,952,000. My recommendation would be that that David and JTL continue with this venture but continue cautiously. cautiously. The Caribbean Internet Café may lose money in the first year but that is mainly due to the expenses incurred in purchasing the required equipment to operate the business. Those costs would be funded by a loan from JTL and would not appear again in the second year. The $20,000 advertising fee was also a onetime expense. In the second year, sales may increase as the business becomes more established in the community. The café must strive to maintain the realistic sales level of 24,000 customers a year if it plans on making a profit. The breakeven point in total sales dollars is $6,383,103.45 for the first year. This number is larger than the realistic sales projection for year one and is closer to the optimistic sales projection. This is an ambitious sales number for the first year of a business, meaning it will be hard for the Caribbean Internet Café to break even in their first year. Reducing this number is possible but only if fixed expenses can be reduced. The window to make a large profit is three years, after which private usage will increase and the demand for an Internet Café will decrease. We are making the assumption that people will pay $120 instead of the regular $90 to use the internet because of the convenience and comfort the café offers as well as avoiding the fla t fee internet providers charge. The café would fill a want for internet usage that professionals and students in the New Ki ngston area have. There is also a secondary service provided, food and drink sales. T his service would not be found in other places where the internet is offered and makes for a more relaxing and enjoyable internet using experience. It is most likely that people who come in to use the internet will end up purchasing food and a drink. The longer this person is on the internet, the better. Increased internet usage means increased internet revenue along with extra food and drink revenue. It i s important that David makes the internet usage area comfortable, relaxing, and enjoyable. The staffing costs would simply consist of the manager’s salary, and the student’s salary. David would be present with the manager, covering the need for two employees present and the part time stud ents could be brought in to cover the busy hours while also providing customer service. This customer service and internet tutoring is what would help separate the Caribbean Internet Café from other places where internet is available. The café also offers internet for pleasure use, while corporations and universities provide it mainl y for business use. David will need to accept the offer from JTL on order to purchase the equipment he needs to get the café off the ground. JTL will also benefit from the partnership with David. Even if the Caribbean Internet Café ends up losing money, JTL will have advertised there service, while also generating sales. In a city like Kingston, Jamaica where the internet is still growing, it is important to allow people the chance to test out the service and realize how beneficial it would be to them. David must also design a menu that fits the local cuisine and can compete with the menus of other cafes. If the amount of internet usage is lower than anticipated in the first year, the price per hour for usage may need to be adjusted. The long-term success of this business does not look very promising due to the expected growth in personal internet usage. The current success success will depend on the sales numbers and ability to control fixed costs, which at the current time, are very high.
Usage: Optimistic: 50% x 20,000=10,000 people x 5 times/year= 50,000 visitors per year x 1 hour/ visitor = 50,000 hours Reali sti c: 40% x 20,000=8,000 people x 3 ti mes/year= 24,000 visitor s per year x 1 hour /visitor = 24,000 hours
Pessimistic: 30% x 20,000=6,000 people x 2 times/year= 12,000 visitors per year x 1 hour/visitor= 12, 000 hours
Deatiled Income Statement- Year One Sales Internet usage-> $120/h x 1 h/customer = $120 x (40% x 24,000 hours) = $1,152,000 Drinks-> $140/customer x 24,000 customers= $3,360,000 Food-> $60/customer x 24,000 customers= $1,440,000 Total= $5,952,000 Variable Expenses Internet Usage-> $60/h x (40% x 24,000 hours)= $576,000 Drinks-> $50/customer x 24,000 customers= $1,200,000 Food-> $30/customer x 24,000 customers= $720,000 Total= $2,496,000 Fixed Expenses Student Wages-> $40/hour x (15hours/week x 52 weeks)= $31,200 Manager salary-> $40,000/month x 12 months= $480,000 Building Lease-> $30,000/month x 12 months= $360,000 Utilities-> $15,000/month x 12 months=$180,000 Internet Link-> $10,000/month x 12 months= $120, 000 Insurance-> $10,000/month x 12 months= $120,000 Advertising-> $10,000/month x 12 months= $120,000 Administrative-> $50,000/month x 12 months= $600,000 Initial Advertising-> $20,000 Other Expenses-> $120,000 Interest Expenses-> $125,000 Initial Setup Costs-> $1, 426,000 Total= $3,702,200 Breakeven point in total sales dollars=
Total: Sales (at Realistic level) $5,952,000 Less:Variable Expenses $2,496,000 Contribution margin $3,456,000 Less: Fixed Expenses $3,702,200 Profit -246,200
=
=$6,383,103.45
Caribbean Internet Café Case Study
