11. Perot Corporation is developing a new CPU chip based on a new type of technology. Its new chip, the Patay2 chip, will take two years to develop. However, because other chip manufacturers will be able to copy the technology, it will have a market life of two years after it is introduced. Perot expects to be able to price the chip higher in the i rst year, and it anticipates a signii cant production cost reduction after the i rst year as well. The relevant information for developing and selling the Patay2 is given below.

Patay2 Chip Product Estimates Development Cost $20,000,000 Pilot Testing $5,000,000 Debug $3,000,000 Ramp-up Cost $3,000,000 Advance Marketing $5,000,000 Marketing and Support Cost $1,000,000 per year Unit Production Cost Year 1 $655.00 Unit Production Cost Year 2 $545.00 Unit Price Year 1 $820.00 Unit Price Year 2 $650.00 Sales and Production Volume Year 1 250,000 Sales and Production Volume Year 2 150,000 Interest Rate 10%

a. What are the yearly cash l ows and their present value (discounted at 10 percent) of this project? What is the net present value?

b. Perot’s engineers have determined that spending $10 million more on development will allow them to add even more advanced features. Having a more advanced chip will allow them to price the chip $50 higher in both years ($870 for year 1 and $700 for year 2). Is it worth the additional investment?

c. If sales are only 200,000 the i rst year and 100,000 the second year, would Perot still do the project?

PATAY2 CHIP PROJECT TIMING PROJECT SCHEDULE YEAR 1 YEAR 2 YEAR 3 YEAR 4 1ST 2ND 1ST 2ND 1ST 2ND 1ST 2ND PATAY2 CHIP HALF HALF HALF HALF HALF HALF HALF HALF Development Pilot Testing Debug Ramp-up Advance Marketing Marketing and Support Production and Sales