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In: Finance

Matheson Electronics has just developed a new electronic device that it believes will have broad market...

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:

a. New equipment would have to be acquired to produce the device. The equipment would cost $1,182,000 and have a six-year useful life. After six years, it would have a salvage value of about $18,000.

b. Sales in units over the next six years are projected to be as follows:

Year Sales in Units

1 20,000

2 25,000

3 27,000

4–6 29,000

c. Production and sales of the device would require working capital of $64,000 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.

d. The devices would sell for $40 each; variable costs for production, administration, and sales would be $25 per unit.

e. Fixed costs for salaries, maintenance, property taxes, insurance, and straight-line depreciation on the equipment would total $156,000 per year. (Depreciation is based on cost less salvage value.)

f. To gain rapid entry into the market, the company would have to advertise heavily. The advertising costs would be:

Year Amount of Yearly
Advertising
1–2 $ 343,000
3 $ 73,000
4–6 $ 63,000

g. The company’s required rate of return is 7%.

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.

*I need to know what the incremental fixed expenses for years 1, 2, 3, and 4-6 are.

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?

Solutions

Expert Solution

Matheson 0 1 2 3 4 5 6
Unit Sales 20,000 25,000 27,000 29,000 29,000 29,000
Investment -1,182,000
Salvage 18,000
NWC -64,000 64,000
Sales 800000 1000000 1080000 1160000 1160000 1160000
VC -500000 -625000 -675000 -725000 -725000 -725000
FC -156000 -156000 -156000 -156000 -156000 -156000
Advertising -343000 -343000 -73000 -63000 -63000 -63000
Profits -199000 -124000 176000 216000 216000 216000
Cash Flows -1,246,000 -5000 70000 370000 410000 410000 492,000
NPV $45,449.77

Sales = Unit Sales x 40, Variable Cost (VC) = Unit Sales x 25

Depreciation = (Purchase - Salvage) / Life = (1,182,000 - 18,000) / 6 = 194,000

Cash Flows = Investment + NWC + Profits + Depreciation + Salvage

NPV can be calculated using discount factors or NPV function in excel or calculator with 7% discount rate.

NPV = $45,449.77. As NPV > 0, Matheson should accept the device.


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