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Arauco Case Essay

1994 words - 8 pages

Arauco Case

1. Should Arauco build the Nueva Aldea project? (Hint: Estimate the project Net Present Value and provide a recommendation considering quantitative and qualitative arguments)

Qualitative arguments

We would suggest the company to go ahead with the the project Nueva Aldea considering next arguments:

Horizontal expansion

The company Arauco should build the project Nueva Aldea, for various reasons related to production, efficiency, access to lower costs and its growth internationally.
Among the reasons that support the construction of the new plant, we consider that  Arauco will be located in a specific region (VIII) close to the ports of Lirquén, Coronel and San ...view middle of the document...

In fact, major paper companies, the sole buyers of market pulp, were typically backward integrated into the production of pulp. However, in the case of Arauco, forward integration presents at least five big threats:
1. Customers become supplier's competitors, as a consequence, decrease the pulp demand.
2. Cost disadvantage due to its smaller scale of paper manufacture operations compared to its paper manufacturers’ competitors.
3. To move the company out the boundaries of its core business into an adjacent space, where there is not a practical know-how developed.
4. Using recycled fibers from paper has several advantages, including lower cost to recycle paper than produce pulp.
5. Uncertainty about paper demand and price since computers, handle devices, and mobile phones would act as a substitute for paper.

Quantitative arguments

According to the estimated net present value of the investment in Nueva Aldea project, we would suggest the company to go ahead with the investment (The project Net Present Value estimations are shown in Exhibit 1).

Assumptions:

* Evaluation time: 33 Years considering 3 years of construction, and 30 years of lifetime.
* Price of Pulp (US$/Ton): The projection is that the price will increase 8% per year.
* Level of Production (Ton/year): Assumed the data provided in the case for a new pulp mill.
* Variable costs: Assumed from exhibit 6. It will increase the same 8% as the variable revenue.
* Fixed Costs: 9% of annual sales.
* Depreciation: Linear depreciation in 30 years.
* TAX: Assumed 17% in 2004.
* Discount Rate: 11%. To compare at least with the opportunity cost of investing in the financial market in 2003.
* Initial Investment: It is divided in the first 3 years of construction of the mill.
* Residual Value: The last cash flow at year 33 was brought to present value.

2. What are the sources of Arauco’s competitive advantage?

After evaluating Arauco´s position in the market, we could say that some of the sources of competitive advantage could be separated in five areas.  

Forests: Arauco was Chile’s largest pine owner with 33% of the country’s total plantations and covered approximately two-thirds of the raw material needed for production. Chilean climatic conditions were ideal for the growth of radiate pine.  In Chile, the harvesting of pulp logs could take place 16 to 18 years after planting and high-quality saw logs could be harvested in 25 years. In contrast, pulp logs cultivated in the northern hemisphere were harvested only 18 to 45 years after plantations and sawlogs required 50 to 150 years. It allows to Arauco to outperform its competitors from the northern hemisphere.

Facilities: Arauco`s facilities enables them to produce a variety of products such as pulp, sawlogs, flitches, sawn timber, remanufactured wood products, plywood & fiber panels, posts, and others, as well as, it enables them to optimize the use of the tree...

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