Matheson Electronics has just developed a new electronic device that it believes
ID: 2533550 • 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 $240,000 and have a six-year useful life. After six years, it would have a salvage value of about $18,000.
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 $56,000 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 $35 each; variable costs for production, administration, and sales would be $20 per unit.
Fixed costs for salaries, maintenance, property taxes, insurance, and straight-line depreciation on the equipment would total $151,000 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 17%.
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 13,000 2 18,000 3 20,000 4–6 22,000Explanation / Answer
Depreciation expense (240,000-18000)/6 37000 fixed costs for salaires (cash outflow)= 151000-37000 114000 1) year 1 year 2 year 3 year 4-6 Sale in units 13,000 18,000 20,000 22,000 Sales in dollars 455000 630000 700000 770000 variable expenses 260000 360000 400000 440000 contribution margin 195000 270000 300000 330000 Fixed expenses: Salaries and other 114,000 114,000 114,000 114,000 Advertising 128,000 128,000 65,000 55,000 total fixed expeneses 242,000 242,000 179,000 169,000 Net cash inflow(outflow) -47,000 28,000 121,000 161,000 2-a) Now 1 2 3 4 5 6 cost of Equipment -240,000 Working capital -56,000 yearly net cash flows -47,000 28,000 121,000 161,000 161,000 161,000 Release of working capital 56,000 Salvage value of Equipment 18,000 total cash flows -296,000 -47000 28000 121000 161000 161000 235000 discount factor (17%) 1 0.855 0.731 0.624 0.534 0.456 0.39 present value -296,000 -40185 20468 75504 85974 73416 91650 Net present value 10,827 2-b) yes