Imagine that you are the lead project manager for ThermoFishers new HPLC product launch. This product is your baby. You have spent the last year redesigning this device and you have significantly improved its quality and performance. Based on the cost structure and the proposed price of $36,000 (from slide 10 of the Break Even Powerpoint lecture) you have calculated that the breakeven point for the number of HPLC instruments that will need to be sold over 5 years is 8,618. Marketing believes that at this price point they can pretty much guarantee a demand of anywhere from 1,500 to 2,080 units per year. However, you realize that at full capacity your manufacturing plant can produce 2,462 HPLC devices in any given year. You know that you have some operating leverage to boast profits if you can increase demand. You ask marketing for analysis on the impact to demand if they lower the price for this product to $33,000. They believe that at this price they can guarantee sales of anywhere from 2,080 to 2,640 units per year. However, In order to sell this many units, manufacturing capacity will need to be increased above its current maximum level of 2,462 units per year. You meet with the VP of Operations to discuss this opportunity. She proposes that for an additional $50 million dollars in equipment cost she can expand capacity by 25%. She believes that this investment will also increase worker productivity. She estimates that she will be able to reduce the time it takes to produce and test one HPLC device from 40 hours to 25 hours. With an increase in the number units produced she can now extract a larger discount from the vendors who sell the components that make up this product. She estimates that she can reduce the material cost from $19,000 per unit to $16,000 per unit.

Because you feel that operating leverage is important in expanding profits you decide to take the initiative and discuss with the VP of Marketing additional pricing options. She tells you that she can significantly boast sales by setting the price at $31,000. At this price point she is confident that she can sell anywhere from 2,640 to 2,940 units per year. Unfortunately, marketing cannot provide a probability analysis, at any price point, showing the likelihood that demand will either be at the high end or the low end. As result, at any price point, you can only assume that there is an equal chance that demand will be either at the low end, the high end, or somewhere in between.

Part 1: Budgeting the Income Statement and Balance Sheet

Your first task is to understand the impact of either expanding production or not expanding production on the companys balance sheet and income statement. You will need to project over the first two years of this product launch the key financial information on the companys balance sheet and income statement.

All key assumptions and inputs related to costs, demand, assets, liability, and equity that are necessary to project the balance sheet and income statement are included in the Background Information and in the attached excel file under the tab Part 1 Assumptions and Template. In this tab you will not only find the key financial data needed to project the balance sheet and income statement but you will also find a template of the balance sheet and income statement that you need to fill out. The specific Balance Sheet and Income accounts that you will need to project are highlighted in green. You will notice that the balance sheet and income statement have some accounts that are already pre-populated with numbers. Consider these pre-populated numbers essential assumptions in your projections that cannot be changed. Please note that the balance sheet and income statement that you are projecting is incremental to the company and only reflects the financial impact for this specific product launch.

Part 2: Pricing and Expansion Recommendation:

Your second task is to make a recommendation on pricing and expanding manufacturing capacity. The VP of Product Development wants to know if it is beneficial to the company, over the next 5 years, to invest the $50 million dollars to expand capacity. He also wants to know your pricing strategy. Do you price at $33,000 or $31,000 per unit?

Using the data provided in the Background Information and in the attached excel file under the tab Part 2 Assumptions, provide an analysis that supports your recommendation. In your recommendation, discuss the pros and cons for expanding production or not expanding production and indicate at what price point the product should be sold. Support your recommendation with an analysis for each of the four possible scenarios (Price at $33K No Expansion, Price at $33K Expansion, Price at $31K - No Expansion, and Price at $31K Expansion) that includes a discussion on:

Range of profits for each scenario

Contribution Margin

Break even point (over 5 years)

Margin of Safety

Operating Leverage

Your analysis and recommendation will need to cover a 5-year time horizon.

Directions for Submitting your Work:

For Part 1, use the Balance Sheet and Income Statement template found in the excel file to complete your budget/forecast. In the tab Part 1 Assumptions and Template have highlighted in green the data points that you will need to fill in to complete the balance sheet and income statement. For Part 2, your written recommendation should not be more than 1 page double-spaced. Submit your recommendation for part 2 in a word document. To support your recommendation, provide a quantitative analysis for each scenarios range of profits, breakeven points, margin of safety, and operating leverage. Please provide this analysis on a new tab in the same excel file that contains your budget from part 1.

Here are three useful tips:

1. For part 1, remember that the accounting equation is central in forecasting the balance sheet.

2. For part 2, use your contribution margins for each of the scenarios and corresponding price points to calculate a profit range. By doing this you can determine your margin of safety and operating leverage for each scenario.

3. Also, for part 2 do not forget that at each price point there is an equal chance that that the actual number of units sold can be anywhere on the projected demand curve.

Key Assumptions No Expansion 33,000 Expansion 31,000 Sales Price Per Unit Forcasted Number of Units Sold - Year 1 Forecasted Number of Units Sold Year 2 Beginning Inventory at beginning of Year 1 Number of Units Produced in Year 1 Number of Units Produced in Year 2 Yearly Prouduction Capacity of Manufacturing Plant Marketing Expense for Year 1 & 2 Management Salary for Year 1 & 2 Supervisor Salary for Year 1 & 2 Number of Managers Number of Supeverisors Tax Rate on Income Sales Commission Average Collection Days for A/R Average Payment Days for AP 2,100 2,600 1,000 1,800 2,400 2,462.2 1,500,000 2,700 3,000 1,000 2,200 2,700 3,077.75 1,500,000 100,000 75,000 100,000 75,000 35% 5% 60 30 35% 5% 60 30 (1) Assume all account balances are zero at the Beginning Year 1 (2) Assume that fixed assets are drepeciated over 5 years using the straight line method Key Assumptions No Expansion 33,000 Expansion 31,000 Sales Price Per Unit Forcasted Number of Units Sold - Year 1 Forecasted Number of Units Sold Year 2 Beginning Inventory at beginning of Year 1 Number of Units Produced in Year 1 Number of Units Produced in Year 2 Yearly Prouduction Capacity of Manufacturing Plant Marketing Expense for Year 1 & 2 Management Salary for Year 1 & 2 Supervisor Salary for Year 1 & 2 Number of Managers Number of Supeverisors Tax Rate on Income Sales Commission Average Collection Days for A/R Average Payment Days for AP 2,100 2,600 1,000 1,800 2,400 2,462.2 1,500,000 2,700 3,000 1,000 2,200 2,700 3,077.75 1,500,000 100,000 75,000 100,000 75,000 35% 5% 60 30 35% 5% 60 30 (1) Assume all account balances are zero at the Beginning Year 1 (2) Assume that fixed assets are drepeciated over 5 years using the straight line method