Discuss any other factors you consider should be taken into account when making the final decision on whether to begin commercial production or not

Apex Ltd has just completed the development of a new personal alarm device. Development

 

costs totalled £50,000 and marketing costs to date total £5,000. A market survey suggests

that the optimum price for the personal alarm is £49.90, at which price 2,000 units would

be sold each month.

The personal alarm market changes rapidly and the market survey indicated that the

probability of demand being maintained for:

2 years is 0.1

3 years is 0.5

4 years is 0.4

In order to start commercial production of the new device Apex Ltd must install a new

automated assembly line at a cost of £1.2 million. The assembly line can produce the

required quantity of the product but cannot be used for any other purpose and has nil disposal

value. Because nobody has used this type of assembly line before, its life expectancy

is uncertain. The best estimate available suggests that there is a 50 per cent chance that it

will last for 4 years and an equal chance that it will last for only 3 years.

The unit variable cost of the personal alarm is £20.00 and attributable fixed costs

totalling £100,000, excluding depreciation, will be incurred each year the personal alarm is

produced.

The cost of capital is 14 per cent per annum.

Requirements

(a) Calculate the expected net present value of going ahead with the production of the new personal alarm device.

(b) Advise the management on the viability of the project. You should:

(i) refer to your calculations in (a) above

(ii) include details of any assumptions made

(iii) discuss any other factors you consider should be taken into account when making the final decision on whether to begin commercial production or not.

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