Hodu-gwaja (호두과자), usually translated as walnut cookies or walnut cakes, is a type of cookies originated from Cheonan, South Korea. It was popularized in the 1970s and has been a common snack since then.
When you walk out of the subway station in the metropolitan area in Seoul, you will see a mini street store selling Hodu-gwaja. The smell attracts a lot of people to buy Hodu-gwaja and indeed, it’s delicious!
I went to a mini street store selling Hodu-gwaja near the Gangnam subway station in Seoul and counted the number of people that came in and estimated their average purchase price. I also interviewed the owner (also the seller) of that mini store to get some data. In this paper, I will focus on a mini street store selling Hodu-gwaja near the Gangnam subway station in Seoul to construct its income statement, balance sheet, and estimate the present value of FCFF (Free cash flow to the firm) for the business for the next 5 years.
A mini street store sells Hodu-gwaia
Estimate Marginal Revenue and Costs
(1) Estimate user base and average user purchase
The Hodu-gwaja store opens from 9 am to 11 pm every day (except for holidays). As I observed, the busiest time for the Hodu-gwaja store was from 1pm-3pm and 6pm-8pm. So I counted the number of people who came in during 2pm-3pm, which was 18 people and the total Hodu-gwaja they purchased were 20 bags. Their average purchase was $5.5.
Average purchase estimation:
- 1 bag of the Hodu-gwaja is sold as 5,000 KRW, which is around 5 dollars
- 18 people came to the Hodu-gwaja store during 2 pm-3 pm that I observed.
- The total Hodu-gwaja sold during that time were 20 bags.
- So the average purchase was 20/18=1.1bag, 1.1*5=$5.5
The owner of the Hodu-gwaja store told me that the customers came during other non-busy hours were very similar and I observed 5 people came from 10 am-11 am and 8 people came from 10pm to 11pm.
By assuming average people came during the busy hours are the same and people came during the non-busy hours are also the same, total customers came per day would be:
During busy hours: 18 x 4 = 72 people
During non-busy hours: [(5 +8) / 2] x 10 = 65 people
Total: 72 + 65 = 137 people
(2) Estimate hourly/daily/seasonality in foot traffic & Annual Revenue
The owner told me that 20% more people would come to buy Hodu-gwaja in winter (October - March) than in summer (April - September).
Daily traffic in winter: 137 people
Daily traffic in summer: 137 x (1-20%) = 109.6 people
Annual traffic: 137 x30x 6 + 109.6x30 x 6 = 44,388 people
Annual Revenue: 44,388 * $5.5 = $244,134
(3) Estimate labor cost
Most of the time, the owner himself would be the labor in the Hodu-gwaja store. Sometimes, one of his family members would come to help. So the labor cost is 0.
(4) Estimate other costs
- electricity: 2000 kWh would be used annually. Based on the current electric rates, the electricity cost would be 1,070,370 KRW, around $987.8.
- cost of sold: the average cost goes to the one bag of Hodu-gwaja is around $0.77. So the annual cost of sold would be: ($244,134/$5) x $0.77 = $37596.636
- Depreciation expense: The machine was bought at $16,000 in 2015 with the life of 10 years and a scrap value of $3000. Straight-line depreciation method should be used and the depreciation is: (16000-3000) / 10 = $1300 /year
- Interest expense: The owner doesn't take a debt for operating the Hodu-gwaja store, so the interest expense is 0.
- Insurance expense: There is an insurance required by the government for the commercial retails, which is $4500 per year.
- Tax: Since it’s an individually-owned business, the owner needs to pay personal income tax rather corporate tax for the Hodu-gwaja store. The personal income tax is 8%.
(5) Estimate rent
Since this Hodu-gwaja store is next to the exit of the Gangnam subway station, a place with large traffic, there is a premium charged for the rent. By checking the South Korea’s Commercial Real Estate Hub, I found that the street store in the Gangnam area is around $1500 per square. Since this store is near the subway station, so the price is expected to be higher, around $2000 per square. The Hodu-gwaja store is 4 squares, so the total rent should be: 4 x 2000 x 12 = $96000
(6) Estimate annual cost
Total annual cost = 987.8 +37596.636+$1300+$4500+$96000 = $142,384.436
Income Statement and Balance Sheet
Based on the estimation above, the income statement and balance sheet can be calculated as below:
Model of FCFF for the next 5 years
I used DCF valuation to calculate the NPV of the Hodu-gwaja store in 5 years. The present value of FCFF for the business for the next 5 years is $685,695.22. Thus, the business would be potentially worth $685,695.22 for the owner. Since the initial investment for this one store is not high, the entrepreneur may not need to get VC equity funding. However, if the entrepreneur wants to take more market shares and operates the Hodu-gwaja store as a brand rather than a self-employed business, then the entrepreneur may need to get VC equity funding in order to get the market shares more quickly.
Conclusion
The Hodu-gwaja store is a relatively stable business. It has a good cash flow since all the customers are paid in cash and there is not trade receivables. So all the assets can be financed with cash rather than taking a loan to avoid the debt interest. In order to reduce cost, the owner can forecast demand and then buy some of the materials (such as the bags) in a large amount to get a discount. Since Hodu-gwaja store has good cash flow, the owner can also negotiate with its supplier to get an early-payment discount. In order to increase sales, the owner can increase the traffic by adding more flavors to attract customers and differentiate itself from competitors.
Attachment
(1). Estimated Income Statement: https://docs.google.com/spreadsheets/d/1-CNGxSVjK2U3QuBq2zqbiZEZMfcJ36t-9SD32aKivsI/edit#gid=0
(2). Estimated Balance Sheet: https://docs.google.com/spreadsheets/d/1-CNGxSVjK2U3QuBq2zqbiZEZMfcJ36t-9SD32aKivsI/edit#gid=246639145
(3). NPV Calculation: https://docs.google.com/spreadsheets/d/1-CNGxSVjK2U3QuBq2zqbiZEZMfcJ36t-9SD32aKivsI/edit#gid=1220397244
Reference
(1). Electric Rates Calcuation. Home.kepco.co.kr. Retrieved 1 December 2017, from https://home.kepco.co.kr/kepco/EN/F/B/ENFBPP002.do?menuCd=EN060202
(2). Hodu-gwaja. (2017). En.wikipedia.org. Retrieved 1 December 2017, form https://en.wikipedia.org/wiki/Hodu-gwaja
Author & Copyright: Yinwei Sun
Published Date: December 2017
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