Question

The manager for a growing firm is considering the launch of a new product. If the product goes directly to market, there is a 50 percent chance of success. For $181,000 the manager can conduct a focus group that will increase the product’s chance of success to 65 percent. Alternatively, the manager has the option to pay a consulting firm $396,000 to research the market and refine the product. The consulting firm successfully launches new products 80 percent of the time. If the firm successfully launches the product, the payoff will be $1.96 million. If the product is a failure, the NPV is zero.

Calculate the NPV for each option available for the project. (Do not round intermediate calculations and enter your answers in dollars, not millions of dollars, rounded to the nearest whole number, e.g., 1,234,567.)

Answer 1

	OPTION 1:PRODUCT GOES DIRECTLY TO MARKET
		NPV	Probability	NPV*Probability
		$1,960,000	0.5	$980,000
		$0	0.5	$0
			SUM	$980,000
	NPV of Option 1: Directly to Market	$980,000
	OPTION2:USING FOCUS GROUP TO INCREAES CHANCES
		Payoff	Probability	Payoff*Probability
		$1,960,000	0.65	$1,274,000
		$0	0.35	$0
			SUM	$1,274,000
	Expected Payoff	$1,274,000
	Cost of using focus group	($181,000)
	NPV of Option2: Using Focus Group	$1,093,000
	OPTION3:PAY A CONSULTING FIRM
		Payoff	Probability	Payoff*Probability
		$1,960,000	0.8	$1,568,000
		$0	0.2	$0
			SUM	$1,568,000
	Expected Payoff	$1,568,000
	Fees of Consulting Firm	($396,000)
	NPV of Option3: Using Consulting Firm	$1,172,000