Case $14-32($Algo$)$ Net Present Value Analysis of a New Product $[$LO$14-2]$

George Matheson is the general manger of Nancy Pelosi Electronics who 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:

New equipment would have to be acquired to produce the device. The equipment would cost $$138,000$ and have a six$-$year useful life. After six years, it would have a salvage value of about $$24,000.$

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

Year Sales in Units

$17,000$

$212,000$

$314,000$

$4616,000$

Production and sales of the device would require working capital of $$46,000$ to finance accounts receivable, inventories, and day$-$to$-$day cash needs. This working capital would be released at the end of the project$$s life.

The devices would sell for $$55$ each; variable costs for production, administration, and sales would be $$35$ per unit.

Fixed costs for salaries, maintenance, property taxes, insurance, and straight$-$line depreciation on the equipment would total $$149,000$ per year. $($Depreciation is based on cost less salvage value.$)$

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

Year Amount of Yearly

Advertising

$12$ $ $75,000$

$3$ $ $55,000$

$46$ $ $45,000$

The company$$s required rate of return is $13\%.$

Click here to view Exhibit $14$B$-1$ and Exhibit $14$B$-2,$ 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.

$2-$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?