Robo Clean Co is a recently established innovation company. It currently has one product on the market, the

'Robovac', a robotic floor cleaner. This has been extremely successful. The company is currently developing a new

robotic cleaner called 'Robomum' that vacuums, dusts and presses.

To date $120,000 has been spent on developing the product. The company has also incurred $250,000 of market

research costs, although the invoice for these costs has only just been received and will be paid in January.

Since the set-up costs are substantial, a final decision now needs to be made as to whether it is viable to manufacture

and sell 'Robomum'. The following revenues and costs have been estimated:

1. A new factory, to be used solely for the production of 'Robomum', will need to be built. This will take nearly a

year to build and is expected to cost $1175 million in total, payable in two instalments. The first instalment of

$6m will be paid at the start of the building work and the second instalment for the remaining balance will be

paid when the building work has been completed at the end of the year.

2. Robo Clean Co will immediately enter into a one-year contract with a project management company, who will

oversee the building of the factory. The total cost of this during the year will be $250,000.

Two production lines will need to be installed in the factory at a further cost of $1,500,000 payable at the end

of the build in one year's time.

3. The machinery for the production of 'Robomum' also needs to be built-to-order and is expected to cost $25m,

payable in one year's time. Its terminal value is nil. Depreciation will be charged as soon as production

commences (as soon as the build finishes in one year's time) at 10% per annum on a straight-line basis.

Maintenance costs for the machinery are estimated at $250,000 per annum.

4. Production and Sales will commence in the year following the build. Sales quantities and prices for 'Robomum'

are expected to be as follows:

Years 1 2 3 & 4 5 to 9

(each year) (each year)

Sales volume ('000 units) 5 10 30 50

Sales price ($) 1,000 800 700 500

It is anticipated that by the beginning of year 10, a new robotic helper will have replaced 'Robomum', hence

there will be no further sales.

5. Material costs for 'Robomum' are estimated at $125 per unit.

6. Labour costs are estimated at $100 per unit.

7. Fixed production overheads on the new factory are estimated at $240,000 per annum. Variable production

overheads are expected to be $50 per unit.

8. Head office costs of $45m per annum will be allocated to 'Robomum' when production commences. Of these

costs, only $37m is incremental.

9. The introduction of 'Robomum' is expected to adversely affect sales of 'Robovac'. It is thought that, for every two

units of 'Robomum' sold, one unit of 'Robovac' will be lost. 'Robovac' is currently sold for $150 per unit and

generates a net cash flow of $50 per unit.

10. The company's cost of capital is 5%.

11. Assume that all cash flows occur at the end of the year, unless stated otherwise.

12. All workings should be in $'000, to the nearest $'000.