The Beach Dude Inc. (BD) sells surf gear and clothing to retail stores around the country.
It outsources the production of most of its items, so its warehouse is very busy receiving incoming shipments and preparing deliveries to customers. After a thorough review of its warehouse processes, the company determined that it could save substantial employee time and improve its on-time delivery rates if it adopted a warehouse management system using RFID chips and readers. RFID (radio-frequency identification) is a technology that uses radio waves to automatically identify people or objects. RFID tags are applied to packages, and then RFID readers can be used to track the location and movement of the inventory.
BD estimates that the RFID system-including fixed and mobile scanners, software, servers, installation, and integration with its existing AIS-will cost $400,000. The system has an expected useful life of 5 years and is expected to have a negligible value at that time. Training for the warehouse, IT, and accounting employees is expected to cost an additional $25,000.
Additionally, the company's estimate for the cost of RFID tags is $30,000 per year based on the current $0.15 cost per tag. However, it believes there is a 50 percent probability that the cost per tag will decrease to $0.10 per tag in 2 years. BD estimates that it will save $150,000 per year in reduced employee overtime, fewer priority shipments, reduced inventory losses, and improved inventory turnover. Assume that BD has a cost of capital of 6 percent.
a. Calculate the following for BD's investment, assuming there is no reduction in the cost of RFID tags:
1. The payback period
2. The NPV
3. The IRR
4. The accounting rate of return
b. Recalculate those values, assuming that the cost of RFID tags does decrease in 2 years as expected.
c. Identify some potential risks and possible omissions in BD's planning. Provide examples of situations that would lead to the risks that you identify.