Road King TrucksIntroductionMichael Livingston has recently been hired as the CEO of Road King Trucks, Inc.Previously he had been the marketing manager for a large manufacturing company andhad established a reputation for identifying new consumer trends. Road King Trucks Inc.is a California-based truck manufacturing company. The company is well known formanufacturing large, heavy-duty trucks at a reasonable cost. One of its greatestachievements is that its trucks can be easily modified or customized for differentapplications. Road King Trucks also builds school buses.The company is considering an expansion of its current product line to include transitbuses. Mr. Livingston feels that due to high gasoline prices, commuters will be morewilling to consider using mass transit instead of using their cars to commute to work.Company ProfileRoad King Trucks, Inc. was established by the Smith brothers in 1880 as the CaliforniaWagon Company. The firm started manufacturing horse-drawn wagons to serve thegrowing population in California. The brothers quickly realized that the times werechanging, so they started looking for the technologies that would keep them at theforefront of their field of business. In 1915, the Smith brothers decided that they neededto make trucks as replacements for the wagons, because trucks were starting to serve thesame uses as wagons, and the wagon industry was not going to be viable in the longerterm.The company started making school buses in the early 1940s. Most manufacturers hadbeen commissioned by the government to produce different large vehicles to supportWorld War II operations. Road King Trucks opted to produce buses. It was an easydecision to make, since the buses would use common parts with the companys trucks,and the customers were local governments. Starting in the 1950s, the school busbusiness accounted for about 50% of Road King Trucks revenues.The Transit Bus OpportunityMr. Livingston arranged a meeting with the firms top management, as well as the chiefdesign and manufacturing engineers to propose his new product. He presented anargument that more individuals in the United States and Canada would be willing to usepublic transportation than before, because people were becoming more environmentallyconscious. Also, recent increases in fuel costs seemed to be long lasting. This was anopportunity to get people hooked on transit buses, as he put it.The proposal under consideration was for the introduction of a large, public transport bus.To distinguish Road King Trucks from other manufacturers, the proposal included detailsabout the level of comfort, air-conditioning, efficiency, and quietness of operation thatneeded to be developed. Road King Case Paper Winter 2016Mr. Phillips and Mr. Lopez, the two engineers, reacted enthusiastically and quicklypointed out that the bus could be based on the companys trucks. The frame currentlyused for building the trucks could be modified to accommodate buses at a relatively lowcost. The marketing vice president, Mr. Chen, pointed out that a marketing analysiscould be done quickly, and at a reasonable cost. At this point, Mr. Livingston chargedthe participants in the meeting to produce a financial plan for the development andproduction of a transit bus.Public TransportationThe use of public transportation had declined steadily since the 1950s. Most peoplewere opting to use their personal vehicles for all of their transportation needs. Recently,however, most of the metropolitan areas in the United State and Canada, the targetmarkets for the new bus, had become more and more congested; and parking, which wasalready very expensive, was becoming scarce.This combination of trends has renewed the publics interest in good and reliable publictransportation. Several municipalities have been campaigning to their residents andcommuters that they should use public transportation for business commuting, and onlyuse their cars for shopping and weekend activities. However, such campaigns need to besupported by making high quality public transportation available to the target riders.The DecisionThree weeks after the initial meeting, the vice presidents presented the sales and costforecasts shown in the attached exhibits. The information presented contains the cost ofproduction, financing information, and warranty cost estimates. The proposals alsocontained two engine options for the engines: The Detroit engine, and the Marcus engine.The Detroit engine was more expensive to install, but had a lower warranty cost. TheMarcus engine was less expensive to install, but had a higher warranty cost. This beggedthe question: Which engine should be used?Issues and AnalysesMr. Livingston noticed that there was a great deal of enthusiasm among the managementgroup about the transit bus opportunity, but his cautious nature told him to also seek amore objective viewpoint. Consequently, he sought out you to analyze the proposedproject and provide your recommendations directly to him.

The issues he wants you to address in your analysis and report are the following:

1) How much importance should be given to the energy cost situation?

2) What are the projects cash flows for the next twenty years? What assumptionsdid you use?

3) What is the companys cost of capital? What is the appropriate discount factor(which may be different) for you to use in evaluating the bus project?

4) If you decide to go ahead with the project, which of the two engines should beused in the bus, and why?

5) Evaluate the quality of the project, by using appropriate capital budgetingtechniques. Road King Case Paper Winter 20166) Would you recommend that Road King Trucks accept or reject the project? Whatare the key factors on which you base your recommendation?