Chapter 10 Making Capital Musument Decisons 349 MINICASE Conch Republic Electronics, Part 1 Conch Republic Electronics is a midsized electronics mano- facturer located in Key West, Florida. The company president is Shelley Couls, who inherited the company When it was founded over 70 years ago, the company originally repaired radios and other household appliances. Over the years, the company expanded into marmufacturing and is now a reputable manufacturer of various electronic items. Jay McCanless, a re- cent MBA graduate, has been hired by the company's finance department One of the major revenue producing items manufactured by Conch Republic is a smartphone Conch Republic currently has one smartphone model on the market, and sales have been excellent. The smartphone is a unique item in that it comes in: variety of tropical colors and is preprogrammed to play Jimmy Buffell music. However, as with any clectronic item, technol- ogy changes rapidly, and the current smartphone has limited features in comparison with newer models. Conch Republic spent $750.000 to develop a prototype for a new smartphone that has all the features of the existing smartphone but adds new features such as WiFi tethering. The company has spent a further $200,000 for a marketing study to determine the ex pected sales figures for the new smartphone, Conch Republic can manufacture the new smartphones for $220 cach in variable costs. Fixed costs for the operation are estimated to run $6.4 million per "The estir sales volume is 155.000, 165,000. 125.000. 95.000, and 75.000 per year for the next five years, respectively. The unit price of the new smartphone will be $525. The necessary equipment can be purchased for $43.5 million and will be depreciated on a seven year MACRS schedule. It is believed the value of the equipment in five years will be $6.5 million. As previously stated, Conch Republic currently manufac- lures a smartphone, Production of the existing model is ex pected to he terminated in two years. If Conch Republic does not introduce the new smartphone, sales will be 95.00 units and 65,000 units for the next two years, respectively. The price of the existing smartphone is $385 per unit, with variable costs of S145 each and fixed costs of $4.3 million per year. If Conch Republic does introduce the new smartphone, sales of the ex- isting smartphone will fall hy 30,000 units per year, and the price of the existing units will have to be lowered to S215 each Net working capital for the smartphones will be 20 percent of sales and will occur with the timing of the cash flows for the year: for example, there is no initial outlay for NWC, but changes in NWC will first occur in Year I with the first year's sales. Conch Republic has a 21 percent corporate tax rate and a required return of 12 percent. Shelley has asked Jay to prepare a report that answers the following questions QUESTIONS 1. What is the payback period of the project? 2. What is the profitability index of the project? 3. What is the IRR of the project? 4. What is the NPV of the project? MINICASE has asked Jay to analyze how changes in the price of the new smartphone and changes in the quantity sold will affect the NPV of the project Shelley has asked Jay to prepare a memo answering the fol- lowing questions Conch Republic Electronics, Part 2 Shelley Couts, the owner of Conch Republic Electronics, has received the capital budgeting analysis from Jay McCanless for the new smartphone the company is considering. Shelley is pleased with the results, but she still has concerns about the new smartphone Conch Republic has used a small market re- search firm for the past 20 years, but recently the founder of that firm has retired. Because of this, Shelley is not convinced the sales projections presented by the market research firm are entirely accurate, Additionally, hecause of rapid changes in technology, she is concerned that a competitor may enter the market. This would likely force Conch Republic to lower the sale price of its new smartphone. For these reasons, she QUESTIONS 1. How sensitive is the NPV to changes in the price of the new smartphone? 2. How sensitive is the NPV to changes in the quantity sold of the new sertartphone? Chapter 10 Making Capital Musument Decisons 349 MINICASE Conch Republic Electronics, Part 1 Conch Republic Electronics is a midsized electronics mano- facturer located in Key West, Florida. The company president is Shelley Couls, who inherited the company When it was founded over 70 years ago, the company originally repaired radios and other household appliances. Over the years, the company expanded into marmufacturing and is now a reputable manufacturer of various electronic items. Jay McCanless, a re- cent MBA graduate, has been hired by the company's finance department One of the major revenue producing items manufactured by Conch Republic is a smartphone Conch Republic currently has one smartphone model on the market, and sales have been excellent. The smartphone is a unique item in that it comes in: variety of tropical colors and is preprogrammed to play Jimmy Buffell music. However, as with any clectronic item, technol- ogy changes rapidly, and the current smartphone has limited features in comparison with newer models. Conch Republic spent $750.000 to develop a prototype for a new smartphone that has all the features of the existing smartphone but adds new features such as WiFi tethering. The company has spent a further $200,000 for a marketing study to determine the ex pected sales figures for the new smartphone, Conch Republic can manufacture the new smartphones for $220 cach in variable costs. Fixed costs for the operation are estimated to run $6.4 million per "The estir sales volume is 155.000, 165,000. 125.000. 95.000, and 75.000 per year for the next five years, respectively. The unit price of the new smartphone will be $525. The necessary equipment can be purchased for $43.5 million and will be depreciated on a seven year MACRS schedule. It is believed the value of the equipment in five years will be $6.5 million. As previously stated, Conch Republic currently manufac- lures a smartphone, Production of the existing model is ex pected to he terminated in two years. If Conch Republic does not introduce the new smartphone, sales will be 95.00 units and 65,000 units for the next two years, respectively. The price of the existing smartphone is $385 per unit, with variable costs of S145 each and fixed costs of $4.3 million per year. If Conch Republic does introduce the new smartphone, sales of the ex- isting smartphone will fall hy 30,000 units per year, and the price of the existing units will have to be lowered to S215 each Net working capital for the smartphones will be 20 percent of sales and will occur with the timing of the cash flows for the year: for example, there is no initial outlay for NWC, but changes in NWC will first occur in Year I with the first year's sales. Conch Republic has a 21 percent corporate tax rate and a required return of 12 percent. Shelley has asked Jay to prepare a report that answers the following questions QUESTIONS 1. What is the payback period of the project? 2. What is the profitability index of the project? 3. What is the IRR of the project? 4. What is the NPV of the project? MINICASE has asked Jay to analyze how changes in the price of the new smartphone and changes in the quantity sold will affect the NPV of the project Shelley has asked Jay to prepare a memo answering the fol- lowing questions Conch Republic Electronics, Part 2 Shelley Couts, the owner of Conch Republic Electronics, has received the capital budgeting analysis from Jay McCanless for the new smartphone the company is considering. Shelley is pleased with the results, but she still has concerns about the new smartphone Conch Republic has used a small market re- search firm for the past 20 years, but recently the founder of that firm has retired. Because of this, Shelley is not convinced the sales projections presented by the market research firm are entirely accurate, Additionally, hecause of rapid changes in technology, she is concerned that a competitor may enter the market. This would likely force Conch Republic to lower the sale price of its new smartphone. For these reasons, she QUESTIONS 1. How sensitive is the NPV to changes in the price of the new smartphone? 2. How sensitive is the NPV to changes in the quantity sold of the new sertartphone