Minicase FINC 501 Capital Budgeting CILOS: A1, B1, B3, and C2 Advanced Electronics is a midsized electronics manufacturer located in Salmabad, Bahrain. The company president is Zainab Al-Abdulla, 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. Danial Nooreldeen, a recent MBA graduate, has been hired by the company's finance department. One of the major revenue-producing items manufactured by Advanced is a smartphone. Advanced currently has one smartphone model on the market, and sales have been excellent. The smartphone is a unique item 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 smartphone has limited features in comparison with newer models. Advanced spent $750,000 to develop a prototype for a new smartphone that has all the features of the existing smartphone 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 figures for the new smartphone. Advanced can manufacture the new smartphones for $220 each in variable costs. Fixed costs for the operation are estimated to run $6.4 million per year. The estimated sales volume is: Sales Year 1 2 3 4 5 $155,000 165,000 125,000 95,000 75,000 The unit price of the new smartphone will be $535. The necessary equipment can be purchased for $43.5 million and will be depreciated on a seven-year MACRS schedule. It is believed the value of the equipment in five years will be $6.5 million. As previously stated, Advanced currently manufactures a smartphone. Production of the existing model is expected to be terminated in two years. If Advanced does not introduce the new smartphone, sales will be 95,000 units and 65,000 units for the next two years, respectively. The price of the existing smartphone is $385 per unit, with variable costs of $145 each and fixed costs of $4.3 million per year. If Advanced does introduce the new smartphone, sales of the existing smartphone will fall by 30,000 units per year, and the price of the existing units will have to be lowered to $215 each. Net working capital for the smartphones will be 20 percent of sales and will occur with the timing of the cash flows for the year, for example, there is no initial outlay for NWC, but changes in NWC will first occur in Year 1 with the first year's sales. Advanced has a 21 percent corporate tax rate. The systematic risks of the company and the project are 1.75 and 1.20, respectively. The total risks of the company and the project are 12% and 17%, respectively. The chief economist of the company believes yield on a 90-day Treasury bill will be 3%, while its counterpart of the 10-year Treasury note is 6%, while the expected market rate is 11%. Zainab has asked Danial to prepare a report that answers the following questions. Required Based on the discounted cash flow techniques, should the proposal be accepted