Matheson Electronics has just developed a new electronic device that it believes
ID: 2526444 • Letter: M
Question
Matheson Electronics has just developed a new electronic device that it believes will have broad market appeal. The company has performed marketing and cost studies that revealed the following information:
New equipment would have to be acquired to produce the device. The equipment would cost $198,000 and have a six-year useful life. After six years, it would have a salvage value of about $24,000.
Sales in units over the next six years are projected to be as follows:
Production and sales of the device would require working capital of $52,000 to finance accounts receivable, inventories, and day-to-day cash needs. This working capital would be released at the end of the project’s life.
The devices would sell for $50 each; variable costs for production, administration, and sales would be $35 per unit.
Fixed costs for salaries, maintenance, property taxes, insurance, and straight-line depreciation on the equipment would total $140,000 per year. (Depreciation is based on cost less salvage value.)
To gain rapid entry into the market, the company would have to advertise heavily. The advertising costs would be:
The company’s required rate of return is 12%.
Click here to view Exhibit 13B-1 and Exhibit 13B-2, to determine the appropriate discount factor(s) using tables.
Required:
1. Compute the net cash inflow (incremental contribution margin minus incremental fixed expenses) anticipated from sale of the device for each year over the next six years.
2-a. Using the data computed in (1) above and other data provided in the problem, determine the net present value of the proposed investment.
2-b. Would you recommend that Matheson accept the device as a new product?
Year Sales in Units 1 10,000 2 15,000 3 17,000 4–6 19,000Explanation / Answer
Depreciation expense (198000-24000)/6 29000 fixed costs for salaires (cash outflow)= 140,000-29000 111000 1) year 1 year 2 year 3 year 4-6 Sale in units 10,000 15,000 17,000 19,000 Sales in dollars 500000 750000 850000 950000 variable expenses 350000 525000 595000 665000 contribution margin 150000 225000 255000 285000 Fixed expenses: Salaries and other 111,000 111,000 111,000 111,000 Advertising 55,000 55,000 61,000 51,000 total fixed expeneses 166,000 166,000 172,000 162,000 Net cash inflow(outflow) -16,000 59,000 83,000 123,000 2-a) Now 1 2 3 4 5 6 cost of Equipment -198,000 Working capital -52,000 yearly net cash flows -16,000 59,000 83,000 123,000 123,000 123,000 Release of working capital 52,000 Salvage value of Equipment 24,000 total cash flows -250,000 -16000 59000 83000 123000 123000 199000 discount factor (12%) 1 0.893 0.797 0.712 0.636 0.567 0.507 present value -250,000 -14288 47023 59096 78228 69741 100893 Net present value 90,693 2-b) yes