Problem 13-28 Net Present Value Analysis of a New Product [LO1]
Clarion Company is considering 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 $280,000 and be usable for 15 years. After 15 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 $58,000 to finance accounts receivable, inventories, and day-to-day cash needs. This working capital would be released for use elsewhere after 15 years.
c. An extensive marketing study projects sales in units over the next 15 years as follows:
d. The smoke detectors would sell for $45 each; variable costs for production, administration, and sales would be $30 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:
f. Other fixed costs for salaries, insurance, maintenance, and straight-line depreciation on equipment would total $205,200 per year. (Depreciation is based on cost less salvage value.)
g. The company's required rate of return is 7%.
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 15 years. (Enter any cash outflows with a minus sign. Round your intermediate and final answers to the nearest dollar amount.)
The net cash inflow from sales of the device for each year would be:
2-a. Using the data computed in requirement (1) above and other data provided in the problem, determine the net present value of the proposed investment. (Hint: Use Microsoft Excel to calculate the discount factor(s).) (Negative amount should be indicated by a minus sign. Do not round intermediate calculations and round your final answer to nearest whole dollar amount.)
2-b. Would you recommend that Clarion Company accept the smoke detector as a new product?