Conch Republic Electronics, Part 1

Conch Republic Electronics is a midsized electronics manufacturer

located in Key West, Florida. The company president

is Shelley Couts, 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 manufacturing and is now a reputable

manufacturer of various electronic items. Jay McCanless, a recent

MBA graduate, has been hired by the company's finance

department.

One of the major revenue-producing items manufactured

by Conch Republic is a smart phone. Conch Republic currently

has one smart phone model on the market, and sales

have been excellent. The smart phone is a unique item in

that it comes in a variety of tropical colors and is preprogrammed

to play Jimmy Buffett music. However, as with any

electronic item, technology changes rapidly, and the current

smart phone has limited features in comparison with newer

models. Conch Republic spent $750,000 to develop a prototype

for a new smart phone that has all the features of the

existing smart phone but adds new features such as WiFi

tethering. The company has spent a further $200,000 for a

marketing study to determine the expected sales fi gures for

the new smart phone.

Conch Republic can manufacture the new smart phones for

$185 each in variable costs. Fixed costs for the operation are

estimated to run $5.3 million per year. The estimated sales

volume is 74,000, 95,000, 125,000, 105,000, and 80,000 per

year for the next fi ve years, respectively. The unit price of the

new smart phone will be $480. The necessary equipment can

be purchased for $38.5 million and will be depreciated on a

seven-year MACRS schedule. It is believed the value of the

equipment in fi ve years will be $5.4 million.

As previously stated, Conch Republic currently manufactures

a smart phone. Production of the existing model is

expected to be terminated in two years. If Conch Republic

does not introduce the new smart phone, sales will be 80,000

units and 60,000 units for the next two years, respectively.

The price of the existing smart phone is $310 per unit, with

variable costs of $125 each and fixed costs of $1,800,000 per

year. If Conch Republic does introduce the new smart phone,

sales of the existing smart phone will fall by 15,000 units per

year, and the price of the existing units will have to be lowered

to $275 each. Net working capital for the smart phones will be

20 percent of sales and will occur with the timing of the cash

fl ows for the year; for example, there is no initial outlay for

NWC, but changes in NWC will fi rst occur in Year 1 with the

fi rst year's sales. Conch Republic has a 35 percent corporate

tax rate and a 12 percent required return.

Shelley has asked Jay to report that answers the

following questions.

QUESTIONS

1. What is the payback period of the project?

2. What is the profi tability index of the project?

3. What is the IRR of the project?

4. What is the NPV of the project?