Question

Osceola Electronics, Inc., has developed a new HD DVD. If the HD DVD is successful, the present value of the payoff (at the time the product is brought to market) is $31.9 million. If the HD DVD fails, the present value of the payoff is $5.8 million. If the product goes directly to market, there is a 60 percent chance of success. Alternatively, Osceola can delay the launch by one year and spend $1.16 million to test-market the HD DVD. Test-marketing would allow the firm to improve the product and increase the probability of success to 80%. The appropriate discount rate is 10%. What is the NPV of test-marketing before going to market?

Answer 1

NPV of test marketing = cost of testing + Probability of success*Payoff of success/(1+r)^n + Probability of failure *Payoff of failure/(1+r)^n

= -1160000+ 80%*31900000/1.1^1+ 20%*5800000/1.1^1

= 23094545.45