Question

Morningstar Computer, is a manufacturer of mid-size computers, which are primarily used by medium and small businesses.  Morningstar’ product line currently consists of three models of mid-size computers.  The following data are available regarding the models:

 

                  Model            Selling Price              Variable Cost           Demand/Year

                                         Per Computer             Per Computer                  (Units)

 

                   LK-1                $1,000                                $800                             2,000

                   LK-2                $2,000                            $1,200                             1,000

                   LK-3                $2,400                            $1,400                                700

 

Morningstar is considering the addition of a fourth model to its line of mid-size computers. 

 

This model, the LX-4 would be sold for $3,000. 

The variable cost of this unit is: 789

The demand for the new Model LX-4 is estimated to be 500 units per year. 

40% of the new model’s unit sales are expected to come from the existing three models already being manufactured by Morningstar.

10% of the cannibalized amount from Model LK-1,

30% of the cannibalized amount from Model LK-2,

60% of the cannibalized amount from Model LK-3.

Morningstar Computer will incur a fixed cost of $300,000 to add the new model LX-4 to its product line. 

The president of Morningstar will only fund projects which show a positive cash flow by the end of the first year of the project. 

 

Answer the following questions:

2) What is the contribution for the three original products (LK-1, LK-2, LK-3) prior to developing the LX-4 model?

3) What is the unit cannibalization from each of the 3 original products after the LX-4 model is launched?

4) What is unit contribution for LX-4

5) Based on your analysis of the above data, should Morningstar add the new Model LX-4 to its line of mid-size computers?  

6) Why (Support answer with detailed analysis of demand and contribution).