Question

Which one of the following would NOT result in incremental cash flows and thus should NOT be included in the capital budgeting analysis for a new product?

A. Using some of the firm's high-quality factory floor space that is currently unused to produce the proposed new product. This space could be used for other products if it is not used for the project under consideration.

B. Revenues from an existing product would be lost as a result of customers switching to the new product.

C. Shipping and installation costs associated with a machine that would be used to produce the new product.

D. The cost of a study relating to the market for the new product that was completed last year. The results of this research were positive, and they led to the tentative decision to go ahead with the new product. The cost of the research was incurred and expensed for tax purposes last year.

E. It is learned that land the company owns and would use for the new project, if it is accepted, could be sold to another firm.

Answer 1

Which one of the following would NOT result in incremental cash flows and thus should NOT be included in the capital budgeting analysis for a new product?

The answer is

D. The cost of a study relating to the market for the new product that was completed last year. The results of this research were positive, and they led to the tentative decision to go ahead with the new product. The cost of the research was incurred and expensed for tax purposes last year.

Because it is sunk cost, irrelevant to capital budget decision makig. It is already incurred cost. If we accept or reject the project, whatever it is, thes cost are not change. Sunk cost is a cost that has already been incurred and therefore is not relevant since any new decision will not change these costs.

>>In the case of A, it affect the decision, if not accept the the project. Those item have another use. If we use it there is a lost opportunity cost from that item.

>>In the case B, also same as A, there is a lost contribution margin from that customers. If we accept the project, it will change. so it affect the incremental cash flow..

>> in the case B, it also add to gether with purchase cost of assets and also depreciate its useful life. so affect the incremental cash flow.

>>In the case E, there is also a opportunity cost. If not accept the project, it can sale, so that net tax sales value is also include in the calculation of incrementaal cash flow. If there is no another use or the firm not decided to sale that land, doesn't consider in the decision making. That time it is a sunk cost, which means irrrelevant cost.