R & D Contract Development at PNS

A business case needs to be written for the attached files. I am not understanding and need help.

R&D Contract Development a

Personal Network Systems (PNS}._was in the process of developing a new, smart network computer for

home use. The first working prototype was planned for release in seven months . The design-to-cost

objective was $600 for the 5,000th unit, with a planned production run of 1 million units.

A thorough make-or-buy analysis had been conducted. One of the more costly items studied in the

make-or-buy analysis was a radically new wireless networking device. The design-to-cost-analysis

allocated $100 per unit for the device. The make-or-buy analysis concluded that PNS should

outsource the device. Based on limited experience with similar but less sophisticated devices, it

was estimated that contractual development costs would be in the range of a half million dollars.

Due to staffing problems, June Oster (a newly promoted supply manager at PNS) was handling the

procurement of the R&D work . She had contacted five firms that had the capability of developing

the device. Two firms declined to participate in the project. The third indicated that it would be

delighted to proceed with the development on a no-cost basis, provided that PNS would purchase a

minimum of 500,000 devices. Production costs for these units would be based on a fixed price

re-determinable contract, with the ceiling price to be negotiated on completion of the R&D portion

of the work.

Ms. Oster received proposals for the R&D work from the remaining two firms. One appeared to be

either a get-rich-quick proposal or a courtesy bid (she was not sure which-and really did not care)

of $2 million. The other proposal was from the Tigertronix Corporation of Skunk Hollow, Arkansas.

Tigertronix had been founded five years before by four engineers who had worked together at a large

electronics firm in Beaverton, Oregon. The new company had expanded to 450 employees, had sales

of

$500 million, and enjoyed an excellent reputation in the wireless networking industry.

Ms. Oster met with Freddie Ready, vice president of marketing at Tigertronix, to discuss

development of the new device . She indicated PNS's desire to pay for the development so that it

would own any patents and data rights, including procurement specifications. Ms. Oster also

indicated her desire to enter into an R&D contract which included a fixed price incentive option

for production. PNS would retain the right to complete the production work. Obviously, the R&D

supplier would have good insight into the costs and nuances of production.

On April 1, Tigertronix submitted a proposal (see Exhibit 19.1). If you were Ms. Oster, what

action would you take? Why?

TIGERTRONIX CORPORATION

Skunk Hollow, Arkansas

I April 2002

Ms. June Oster Supply Manager

Personal Network Systems 62 Technology Drive

Sunnyvale , California 92116

Dear Ms. Oster:

We are pleased to submit our proposal for development of a smart network device. If we are

able to begin work by April 15, we will be able to provide two prototype models by November 1,

2002.

We understand the confidential nature of the work and agree not to release any data to individuals

not employed by your company.

We have submitted the cost breakdown data you requested. The total of our projected costs and

profit is $1,242, 000. We will be pleased to answer any questions you may have, while being

sensitive to the time constraint under which we both are working.

In the interest of time , we are willing to enter into a cost reimbursement production option

with a target cost of$ I00 per unit for the first 10,000 units of production. With this cost

history, we then would be in a position to enter into a firm fixed unit price contract based on

our production experience with these first I 0 ,000 unit s.

Very sincerely,

Ron Cox President

Attachment: Proposal

ATTACHMENT ESTIMATED R&D COSTS

,.... ,.

Engineering

4 ,000 hour s @ $60/hour $ 240,000

Supervisory

600 hours @ $100/hour 60,000

SUBTOTAL $ 300,000

Overhead 250% 750,000

G&A 10% 30,000

SUBTOTAL $1,080,000

Profit 162,000

TOTAL $1,242,000