A well-known multinational car manufacturing company has developed a prototype small town car fuelled solely by hydrogen. It intends to market this through a subsidiary company called the Hydrogen Car Project (HCP). This vehicle is code named H1. It will carry a minimum of two passengers and have luggage space adequate for a family shopping trip. The luggage space will be convertible into two child seats, greatly enhancing the flexibility of this vehicle. Its maximum speed will be 60 mph (100 kph) and it will have a range of approximately 150 miles (240 km) from a full tank of hydrogen.

Harmful emissions from the H1 will be zero as the only waste product from running the engine will be water. Based on current energy prices, the H1s fuel cost per mile is about half that of existing equivalent-sized cars. The number of hydrogen fuelling stations, although small at the moment, is gradually increasing and it is assumed that this will have reached a sufficient level to support this type of car by the time the H1 is launched.

A comprehensive business plan has been produced to investigate the economic viability of this venture. During negotiations, the joint owners agreed that, due to the risks involved, it was essential that the return on capital employed (ROCE) should be a minimum of 15% a year. Having completed the business plan they also agreed that, due to the critical nature of the forecast sales volumes, independent market research should be commissioned to produce a demand forecast at selling prices within 1.000 of their initial estimate.

A) Extracts from business plan

The competition has been identified as those electric/hybrid cars which have been recently introduced by most of the current global car manufacturers. Initially, the H1 will be built to a single basic specification and the prices of the nearest competitors have been identified as follows:

Car 1 11.600

Car 2 11.300

Car 3 11.200

Car 4 10.700

Car 5 10.400

The business plan adopted a selling price of 10.000 for the H1 which gave a profit margin of 20%. It also assumed a level of activity which produced a ROCE of exactly 15%. To enable HCP to produce and market its electric car, capital of 1.000 million will be needed for buildings, machinery, office equipment, IT systems and other fixed assets.

The maximum production capacity is 90.000 cars a year. HCPs best estimate for the production cost of one car at the planed level of sales is as follows:

Direct materials	2.266
Direct labour	400
Prime cost	2.666
Variable production overheads	334
Fixed production overheads	1.000
Manufacturing cost	4.000

Annual non-production fixed overheads, including administration and marketing are expected to be 300 million.

B) Extract from market research report

Demand forecast:

Selling price	Annual demand
	Units
11.000	44.880
10.800	53.720
10.600	59.160
10.400	62.560
10.200	64.600
10.000	68.000
9.800	71.400
9.600	74.120
9.400	78.200
9.200	85.000
9.000	94.520

Advise HCP on its operating level and selling price. Include a discussion of the specific business risks involved. If HCP decided it needed to spend an extra 20 million on launching the H1, how might it achieve this without reducing its target profit?