Starlight Company has an opportunity to produce and sell a revolutionary new smo
ID: 2453533 • Letter: S
Question
Starlight Company has an opportunity to produce and sell a revolutionary new smoke detector for homes.To determine whether this would be a profitable venture, the company has gathered the following data on probable costs and market potential:
a.
New equipment would have to be acquired to produce the smoke detector. The equipment would cost $120,000 and be usable for 6 years. After 6 years, it would have a salvage value equal to 10% of the original cost.
b.
Production and sales of the smoke detector would require a working capital investment of $42,000 to finance accounts receivable, inventories, and day-to-day cash needs. This working capital would be released for use elsewhere after 6 years.
c.
An extensive marketing study projects sales in units over the next 6 years as follows:
Year
Sales in units
1
2,500
2
6,000
3
11,000
4-6
13,000
d.
The smoke detectors would sell for $35 each; variable costs for production, administration, and sales would be $15 per unit.
e.
To gain entry into the market, the company would have to advertise heavily in the early years of sales. The advertising program follows:
Year
Amount of yearly
advertising
1-2
$ 72,000
3
$ 51,000
$ 41,000
f.
Other fixed costs for salaries, insurance, maintenance, and straight-line depreciation on equipment would total $123,500 per year. (Depreciation is based on cost less salvage value.)
g.
The company’s required rate of return is 11%. (Ignore income taxes.)
Click here to view Exhibit 11B-1 and Exhibit 11B-2, to determine the appropriate discount factor(s) using tables.
Required:
1.
Compute the net cash inflow (cash receipts less yearly cash operating expenses) anticipated from sale of the smoke detectors for each year over the next 6 years.
The net cash inflow from sales of the device for each year would be:
Year 1
Year2
Year 3
Year 4-16
Sales in units
2500
6000
11000
13000
Sales in dollars
Less variable exp
Contribution mar
0
0
0
0
Less fix exp
Advertising
Other fixed exp
Total fixed exp
0
0
0
0
Net cash inflow
0
0
0
0
2a.
Using the data computed in (1) above and other data provided in the problem, determine the net present value of the proposed investment. (Use the appropriate table to determine the discount factor(s) and round final answers to the nearest dollar amount.)
Net present value_______
2b.
Would you recommend that Starlight Company accept the smoke detector as a new product?
Yes
No
Starlight Company has an opportunity to produce and sell a revolutionary new smoke detector for homes.To determine whether this would be a profitable venture, the company has gathered the following data on probable costs and market potential:
Explanation / Answer
Net cash Flow
Year1
Year 2
Year 3
Sales in units
2500
6000
11000
Year 4-6
13000*3=39000
Sales in dollars ($35 per unit *No.of units)
87500(35*2500)
210000
385000
1365000
Less variable exp ($15 p.u.* no. of unit
37500(15*2500)
90000
165000
546000
Contribution mar
50000
120000
220000
819000
Less fix exp
Advertising
72000
72000
51000
123000 (43000*3)
Other fixed exp
123500
123500
123500
370500(123500*3)
Total fixed exp
195500
195500
174500
493500
Net cash inflow OContribution- Total Fixed Expenses)
-145500
-75500
45500
325500 (108333 will be cash flow in each 4,5 and 6th year
b) NPV= {Net Period Cash Flow/(1+R)^T} - Initial Investment
{-$145500/(1+.11)^1} + {-$75500/(1+.11)^2} + {$45500/(1+.11)^3}+{$108333/(1+.11)^4}+{$108333/(1+.11)^5}+{$108333/(1+.11)^6}- $120000
=-145500/1.11+(75500)/1.232+45500/1.367+108333/1.518+108333/1.685+108333/1.87-120000
=-131081.08-59659+33284+71365.61+64292.5+57932.08-120000=-$83865.89 negative
2 (b) Should not accept.
Year1
Year 2
Year 3
Sales in units
2500
6000
11000
Year 4-6
13000*3=39000
Sales in dollars ($35 per unit *No.of units)
87500(35*2500)
210000
385000
1365000
Less variable exp ($15 p.u.* no. of unit
37500(15*2500)
90000
165000
546000
Contribution mar
50000
120000
220000
819000
Less fix exp
Advertising
72000
72000
51000
123000 (43000*3)
Other fixed exp
123500
123500
123500
370500(123500*3)
Total fixed exp
195500
195500
174500
493500
Net cash inflow OContribution- Total Fixed Expenses)
-145500
-75500
45500
325500 (108333 will be cash flow in each 4,5 and 6th year
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