Question

Mars Incorporated is interested in going to market with a new fuel savings device that attaches to electrically powered industrial vehicles. The device, code named "Python," promises to save up to 15% of the electrical power required to operate the average electric forklift. Mars expects that modest demand expected during the introductory year will be followed by a steady increase in demand in subsequent years. The extent of this increase in demand will be based on customer's expectations regarding the future cost of electricity, which is shown in Table 1. Mars expects to sell the device for $300 each, and does not expect to be able to raise its price over the foreseeable future. Mars is faced with two alternatives:

Alternative 1 : Make the device themselves, which requires an initial outlay of $450 000 in plant and equipment and a variable cost of $175 per unit.

Alternative 2 : Outsource the production, which requires no initial investment, but incurs a per unit cost of $190.

Expected Demand of the Device in Units/Year Small Increases in the Cost of Electrical Power 1,000 4,000 8,000 13,000 16,000 Large Increases in the Cost of Electrical Power 1,000 5,000 12,000 18,000 23,000 Year 2 3 4 5

Assuming small increases in the cost of electrical power, compute the cash flows for each alternative. Over the next 5 years, which alternative maximizes the NPV of this project if the discount rate is 13 %? Determine cash flows for alternative 1 and fill in the table below. (Enter your responses as whole numbers. Be sure to include a minus sign for cash outflows.)

Answer 1