Question 1: Your cousin Vinny works for a small manufacturing company in Windsor, CT. His business card has his title as EVP of Strategic Development, but that is a little grander than his actual role. The owner of the company Mona Lisa Vito has handed Vinny a project to evaluate. The company's business is the manufacturer of high-end lenses for laser steel-cutting technology. The mid-range product (it has a few high-end products and a basic no-frills product also) sells for $175K each. Last year the company sold 120 units across all its product lines, for revenues of $22.5 million. The company has a new product under development. To understand how the new product is different to existing products, think of an analogy of contact lenses: The company's new product is like a one-day wear disposable lens. The company is considering issuing a beta-version of the product to be actively tested by a select group of customers. The facts about the new product are set out below: To roll out the new beta version, the company will need to spend $1.0M. o Although this will not happen immediately, it will be spent over the next year, for our purposes we can assume that the $1.0M will be spent immediately (t = 0). It will take a year to assess whether the product could be successful using market data from the beta-testers. O If the company decides it is likely to be successful (based on knowledge from the beta- testing and other market research over the coming year) it CAN spend $10M in total on a marketing campaign and final product development. O This money will be spent in one year (t = 1) IF the company decides to continue. Note that this is a right, NOT an obligation Our best estimate of the value of the new line of business is $12M, measured at t=0. The uncertainty as to the value of the future business opportunity can be modeled with a standard deviation of 50%. The risk-free rate is 3.0% Given these facts, should we invest the $1.0M today to begin this process? Question 1: Your cousin Vinny works for a small manufacturing company in Windsor, CT. His business card has his title as EVP of Strategic Development, but that is a little grander than his actual role. The owner of the company Mona Lisa Vito has handed Vinny a project to evaluate. The company's business is the manufacturer of high-end lenses for laser steel-cutting technology. The mid-range product (it has a few high-end products and a basic no-frills product also) sells for $175K each. Last year the company sold 120 units across all its product lines, for revenues of $22.5 million. The company has a new product under development. To understand how the new product is different to existing products, think of an analogy of contact lenses: The company's new product is like a one-day wear disposable lens. The company is considering issuing a beta-version of the product to be actively tested by a select group of customers. The facts about the new product are set out below: To roll out the new beta version, the company will need to spend $1.0M. o Although this will not happen immediately, it will be spent over the next year, for our purposes we can assume that the $1.0M will be spent immediately (t = 0). It will take a year to assess whether the product could be successful using market data from the beta-testers. O If the company decides it is likely to be successful (based on knowledge from the beta- testing and other market research over the coming year) it CAN spend $10M in total on a marketing campaign and final product development. O This money will be spent in one year (t = 1) IF the company decides to continue. Note that this is a right, NOT an obligation Our best estimate of the value of the new line of business is $12M, measured at t=0. The uncertainty as to the value of the future business opportunity can be modeled with a standard deviation of 50%. The risk-free rate is 3.0% Given these facts, should we invest the $1.0M today to begin this process
