Chapter $8$ Case

Englewood Company has an opportunity to produce and sell a revolutionary new smoke detector for homes. To determine whether this would be a profitable venture, the company has gathered the following data on probable costs and market potential:

a$.$ New equipment would have to be acquired to produce the smoke detector. The equipment would cost $$100,000$ and be useable for $12$ years. After $12$ years, it would have a salvage value equal to $10\%$ of the original cost.

b$.$ Production and sales of the smoke detector would require a working capital investment of

$$40,000$ to finance accounts receivable, inventories, and day$-$to$-$day cash needs. This working capital would be released for use elsewhere after $12$ years.

c$.$ An extensive marketing study projects sales in units over the next $12$ years as follows:

Year Sales in Units

$14,000$

$2................7,000$

$3................10,000$

$4-12............12,000$

d$.$ The smoke detectors would sell for $$45$ each; variable costs for production, administration, and sales would be $$25$ per unit.

e$.$ To gain entry into the market, the company would have to advertise heavily in the early years of sales. The advertising program follows:

Amount of Yearly

Year Advertising

$1-2...$ $$70,000$

$3...............$ $$50,000$

$4-12...........$ $$40,000$

f$.$ Other fixed costs for salaries, insurance, maintenance, and straight$-$line depreciation on equipment would total $$127,500$ per year. $($Depreciation is based on cost less salvage value.$)$

g$.$ The company$$s required rate of return and tax rate are both $20\%.$

Required:

$1.(6$ points$)$ Compute the net cash inflow $($cash receipts less yearly cash operating expenses$)$ anticipated from the sale of the smoke detectors for each year over the next $12$ years.

$2.(4$ points$)$ Using the data computed in $(1)$ above and other data provided in the problem, determine the net present value of the proposed investment. Would you recommend that Englewood Company accept the smoke detector as a new product?