Below is the synopsis of the problem:

Hi,

I’m working on a prep question and would really appreciate some help with this, thank you! Below is the synopsis of the problem:

You have recently been appointed as Product Development Manager for RBM. It’s come to your attention that research has shown that customers might be interested in a new product, which is actually a secondary product of one of your most popular premium items. RBM is considering an expansion into the new product as a secondary product to complement the recent loss of volume in it’s premium product. Your job is to evaluate the feasibility of this new product line based on sales and cost estimates provided by financial analysts at RBM. The following information is provided:

  • Expected annual unit sales at year 1 are:240 000 units (sales are expected to increase at a rate of 15 percent a year through year 4 at which point sales will decrease at a rate of 20 percent a year through year 10)
  • No sales cannibalization is expected to occur
  • Expected sales price is R240 per unit in today’s rand
  • Expected development costs of the product (at year 0) are R50,000,000 at which will be depreciated over 10 years using the straight line method
  • Annual fixed costs of production are R1,000,000 in today’s rand
  • Variable costs of production are estimated to be R100 per unit in today’s rand
  • Variable, fixed costs of production and the sales price will increase at the rate of inflation, which is expected to be 5.5% annually
  • The tax rate for RBM is 30%
  • The inventory balance is 40% of revenues, accounts payable are 50% of inventory and the account receivable are 10% of revenue
  • The expected life of project is not known, so RBM has decided that cash flows after the 10th year will increase at an annual rate of 4%
  • The company’s nominal discount rate is 12%

Required:

Based on the information provided, what will be your recommendation of the new product?

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