X company is planning to launch a new product. Market research, costing $140,000
ID: 2461386 • Letter: X
Question
X company is planning to launch a new product. Market research, costing $140,000, has already been done indicating that the product will be successful for four years, but to insure success, the company plans to undertake an immediate advertising campaign that will also cost $140,000. New manufacturing equipment will have to be purchased-it will cost $370,000 and have a disposal value at the end of the four years of $12,000. It is expected that profits from sales of the product will be $171,000 in each of the first two years and $113,000 in each of the last two years. Assuming a discount rate of 5%, what is the net present value of launching the new product?
The answers I can choose from are 7865,8888,10043,11349,12824,14492!!!!!!!!!!!!
Explanation / Answer
Net present value method is formally known as discounted cash flow method.It one of the capital budgeting technique.It takes into account the time value of money. The net present value is used to determine whether the project is accepted or rejected.
In the present problem, X company is planning to launch a new product. Market research, costing $140,000, has already been done indicating that the product will be successful for four years, but to insure success, the company plans to undertake an immediate advertising campaign that will also cost $140,000. New manufacturing equipment will have to be purchased-it will cost $370,000 and have a disposal value at the end of the four years of $12,000. It is expected that profits from sales of the product will be $171,000 in each of the first two years and $113,000 in each of the last two years.
Market research cost of $ 140,000 is sunk cost. So it is irrelevant in decision making.
Here it is not given that whether equipment is depreciated or not. It is assuming that depreciation has to be charged on equipment and charged equally throughout the year.
Depreciation = Original value - Salvage Value
--------------------------------------------
No. of years
Depreciation = 370000 – 12000
--------------------
4
= 89500
Statement showing calculation of NPV
Particulars
Year 1
Year 2
Year 3
Year 4
Profits
171000
171000
113000
113000
Add Depreciation
89500
89500
89500
89500
Add Salvage value
12000
Cash inflows
260500
260500
202500
214500
PV factor of 5 % for n years
0.952
0.907
0.864
0.823
Cash inflows (A)
248095.2
236281.2
174927.1
176469.7
835773.2
Cash outflows (B)
370000
NPV A - B
465773.2
Statement showing calculation of NPV
Particulars
Year 1
Year 2
Year 3
Year 4
Profits
171000
171000
113000
113000
Add Depreciation
89500
89500
89500
89500
Add Salvage value
12000
Cash inflows
260500
260500
202500
214500
PV factor of 5 % for n years
0.952
0.907
0.864
0.823
Cash inflows (A)
248095.2
236281.2
174927.1
176469.7
835773.2
Cash outflows (B)
370000
NPV A - B
465773.2
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