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Introduction Charles and Caitlin are facing an important decision. After having discussed different nancial scenarios, the two computer engineers felt it was time to finalize

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Introduction Charles and Caitlin are facing an important decision. After having discussed different nancial scenarios, the two computer engineers felt it was time to finalize their cash flow projections and move to the next stage decide which of two possible projects they should undertake. Both had a bachelor degree in engineering and had put in several years as maintenance engineers in a large chip manufacturing company. About six months ago, they were able to exercise their rst stock options. That was when they decided to quit their safe, steady job and pursue their dreams of starting a venture of their own. In their spare time, almost as a hobby, they had been collaborating on some research into a new chip that could speed up certain specialized tasks by as much as 25%. At this point, the design of the chip was complete. While further experimentation might improve the performance of their design, any delay in entering the market now may prove to be costly, as one of the established players might introduce a similar product of their own. The duo knew that now was the time to act if at all. They estimated that they would need to spend about $1,000,000 on plant, equipment and supplies. As for future cash ows, they felt that the light strategy at least for the rst year would be to sell their product at dirt-cheap prices in order to induce customer acceptance. Then, once the product had established a name for itself, the price could be raised. By the end of the fth year, their product in its current form was likely to be obsolete. However, the innovative approach that they had devised and patented could be sold to a larger chip manufacturer for a decent sum. Accordingly, the two budding entrepreneurs estimated the operating cash flows for this project [call it Project A) as follows: PROJECT A YEAR 0 1 2 3 4 Expected CFS (33) 1,ooo,ooo 5o,ooo 20o,ooo 6oo,ooo 1,ooo,ooo An alternative to pursuing this project would be to sell their innovative chip design to one of the established chip makers. This way, they would receive an upfront payment. But the amount would be relatively small perhaps around $200,000 as neither their product nor their innovative approach had a track record. They could then invest in some plant and equipment that would test silicon wafers for zircon content before the wafers were used to make chips. Too much zircon would affect the long-term performance of the chips. The task of checking the level of zircon was currently being performed by chip makers themselves. However, many of them, especially the smaller ones, did not have the capacity to permit 100% checking. Most tested only a sample of the wafers they received. Dave and Eva were condent that they

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