Machine Design and Factory Automation

Hailey Denison, CPA, has recently accepted a position as a financial analyst with Machine Design and Factory Automation $($MDFA$)$ Ltd$.$ Reporting to Dexter Reid, P$.$ Eng., Vice$-$President of New Product Development, Denison is responsible for preparing detailed feasibility studies of all new products to determine if they are commercially viable before being approved for launch. Company policy requires that analysts use the net present value $($NPV$)$ method.

Product Review Process

MDFA is an industrial equipment design and manufacturing firm with a reputation for providing its customers with innovative solutions to complex operational problems. The company is divided into three business units: the Ventilation Division produces heating, cooling, and air purification systems; the Surfaces Division makes equipment used to surface roads and pedestrian walkways; and the Factory Automation Division manufactures machine tools and system integration software.

MDFA$$s divisions are autonomous and are expected to work closely with current and prospective customers to originate new product proposals. These proposals are presented to MDFA$$s New Product Screening Committee $($NPSC$)$ for approval in three stages. In the first stage, the division tries to convince the NPSC of the product$$s technical and commercial potential in general terms. If approved, the NPSC provides funding to design a prototype. In the second stage, the prototype is reviewed to determine if it is technically viable. The product is normally sent back to the division for further refinements based on input from the committee. If these issues are addressed successfully, the product moves on to stage $3$ where a detailed feasibility study of the commercial viability of the new product is completed by an independent financial analyst from the Office of the Vice$-$President of New Product Development. If approved at stage $3,$ the division receives funding to launch the product.

Once a new product is launched, each division must provide a monthly progress report to the NPSC where the committee can decide to maintain, increase, decrease or discontinue funding based on their progress. The new product approval and monitoring processes at MDFA are rigorous, and divisional managers and financial analysts know to be well$-$prepared whenever they present to the NPSC$.$

New Product Proposals

Denison is currently preparing two, new product feasibility studies. One product is an industrial air filtration system that is used in sawmills and grain storage terminals. Wood and grain particles pose serious health and safety concerns for employees in these facilities if not properly controlled. Numerous systems are available to keep particle counts to an acceptable level, but MDFA has designed a new system based on vacuum cleaner technology that extracts and bags the particles and allows the clients to recycle them as inputs in particle board manufacturing and as animal feed.

The second product is an automated paving stone installer. Increasingly cities are substituting paving stones for concrete when installing pedestrian walkways. Not only are paving stones visually more appealing than concrete or pebbled aggregate, but they do not crack in the winter months, can be easily repaired if damaged, and can be moved and then replaced to access water and sewage services.

Industrial Air Filtration System $($IAFS$)$ Projections

The Ventilation Division will manufacture the IAFS using idle facilities. This plant can produce up to $200$ units per year over the product$$s $10-$year life. An outside appraiser indicated that the plant is worth $$2,750,000,$ which breaks down as $$1,250,000$ for the land and $$1,500,000$ for the building. New production equipment costing $$5,300,000$ is also required. It is believed that the land will have a residual value of $$1,500,000$ at the end of the project$$s life, while the building and equipment will be worth $$350,000$ and $$250,000.$ The building is subject to a CCA rate of $4$ percent, and the equipment is subject to a CCA rate of $20$ percent. Incremental net working capital of $$550,000$ is also needed which will be liquidated at the end of the product$$s life.

APSI sales are estimated to be $75$ units in the first year and will grow by $25$ percent a year until plant capacity is reached. The unit price is $$125,000$ and unit costs are $$103,500$ per unit, which includes direct materials, direct labour, and manufacturing overhead. The Ventilation Division must also pay a $$10,000$ licensing fee per unit for the vacuum cleaner technology. Incremental selling and administration costs will be $$360,000$ per year.

Automated Paving Stone Installer $($APSI$)$ Projections

A new factory is needed to manufacture the APSI. The facility can produce up to $250$ machines each year over the product$$s $15-$year life. A parcel of land worth $$450,000$ will be purchased and a building constructed for $$1,750,000.$ Equi