engineering management

Electronics Unlimited was considering the introduction of a new product that was expected to reach sales of $10 million in its first full year, and $13 million of sales in the second and third year. Thereafter, annual sales were expected to decline to two-thirds of peak annual sales in the fourth year, and one-third of peak sales in the fifth year. No material levels of revenues or expenses associated with the new product were expected after five years of sales. The cost of goods sold for the new product were expected to be 60% of total annual sales revenue during each year of its life cycle. Selling, general, and administrative expenses were expected to be 23.5% of total annual sales. Taxes on profits generated by the new product would be paid at a 40% rate. A capital investment of $500,000 is needed for specialized new production equipment. This capital investment would be fully depreciated on a straight-line basis over the five-year anticipated life cycle of the new product. It was not expected to have any material salvage value at the end of its depreciable life. No further fixed capital expenditures were required after the initial purchase of equipment.

In addition, working capital is needed to support the expected sales ina an amount equal to 27% of the sales revenue. This working capital investment must be made at the beginning of each year to build up the needed inventory and implement the planned sales program.

Furthermore, during the first year of sales activity, a one time product introductory expense of $200,000 is incurred. Approximately $1.0 million had already been spent developing and test marketing the new product. (i) Formulate a multi-year income statement to estimate the cash flows throughout its five-year life cycle. (ii) Assuming a 20% discount rate, what is the new products net present value?

(iii) Should the company introduce the new product?