Supremo Plc produces a range of exercise and fitness equipment. Recently it has developed a new type of exercise equipment unit for the home and the directors of the company are now considering whether this product should be put into production. The following information has been produced to help evaluate the commercial viability of the new product.

The cost of developing the new product was $125,000.$ In addition, market research was carried out by a firm of marketing consultants at a cost of $80,000.$ The development costs have all been paid and the market research costs are due for payment next month.

The company expects to sell $10,000$ units per year for each of the next five years. The selling price of each unit will be $65.$

Machinery which originally cost $1,500,000$ and which has a net book value of $950,000$ will be required to produce the new exercise equipment. If production does not go ahead, the machinery will be sold immediately for $790,000.$ If however production goes ahead the machinery will be sold at the end of five years for $70,000.$

Additional working capital of $150,000$ will be required immediately to support production of the new product. This will be released at the end of the production.

To produce the new product, two types of material will be required. Type A material is used throughout the product range of the business and $20,000$ kilos are already in stock at a purchase cost of $14$ per kilo. Recently, however, the supplier of the material has raised the price to $15$ per kilo. Type B material is also in stock although there is no further use for this material except for use in the production of the new product. There are $12,000$ kilos in stock at a purchase cost of $2$ per kilo; however, the replacement cost is $2\mathrm{.}50$ per kilo. If production does not go ahead, the existing stock will be sold immediately for $1\mathrm{.}50$ per kilo. Each unit requires one kilo of Type A material and three kilos of Type B material.

Labour costs are estimated at $12$ per unit. If the new product is not produced some existing employees will be made redundant immediately at a cost of $50,000$ to the company. If$,$ however, the new product is produced, these employees will be used to produce the new product and will be made redundant at the end of the production period at a cost of $80,000$ to the company.

Total fixed cost apportioned to the new product will be $200,000$ per annum of which $60,000$ per annum is estimated to arise as a direct result of the decision to produce the new product.

The company has a cost of capital of $12\%$ per year.

Assume cash flows occur at the end of the year concerned unless indicated otherwise.

Required:

Advise the directors of Supremo Plc$,$ using the Net Present Value method, whether the company should produce and sell the new type of exercise equipment.

Suggested layout $($Add items if necessary$)$

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