FI.Chapter13 - :rl-l: ,;{ j r! : n ;r1r ; -{ fi,bp.tiCIn*a...

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n j ::rl --l: r! : ,;{ ;r1r ; -{ [.?c;afi fi,bp.tiCIn*a hen Hervlett-t'ackard sells a printcr internationallt it customizes the prinler for lhe particular country. Il clr.tomiz. .ron -"r bc done erLher .,t th- factory that produces thc printcrs or in thc ileld immediatcly prior to the saie. At d1c : 1( Hf ( u,lo., i/( d .'lnJ.l .,1 p, irtr, .,r' ll,, f"lur' oc.,ru-e rl h.r.m,rch lre.r|erlodo.o Norv, ho .e\.er, FIP ships unfilished pdnters lo . . r\r'.'h^J. ., r )J .u,loni/., lh(n nl l.,r inr. r< r Lr ll- p 'ir| 'i.JlL.Wrry{ould HP choose ihe high-cost production method? B€cause it gn'es the conpany an option io natch srlpply a d demand. For example, if HP customizes at its facbrv and then ships pri're . lu f,enLh $ eh,\r.e il ,ritshl b, stuck r.ith too many printers customized for fren.l .u.lomer- bul nor FrouSh ior CerrJ]^. . Ho\vc\cr. t ir -l'p. unl'ni-1.^d pri,rrc . l'' " {,'r{'h' r.e rll.* lo ll-. b.,,1,'. il can .luicklv custonrize them for Frerch, a " r'L r., or <\\ r* . u-lorner. "nd tlllr. meel unexpected shifts in c]emand. This flexibility ...dlleJ.r 'real uplior. be.",,'e . tiv. ll'. .olrf, n) r l-.,,.r ^pli.,I i,'r der'ir8 {ill- -'r . .1 .Jrdili,'n- Lh'r diifpr ir,',n rLre,'riS,- Cadence Desitn Systems, which develops eL€ctronic prodrcts and serviccs, prolides nolL.r i lu-trr|i,'n ol .' r(ai opr .,i. R rl,cr than cre.rtc all thc ncccssary sofiware itselt, Cadcncc often conhacis wiih specialized soft$.are developers. As a part of the license, Cadence must make a royalty payment to the soft\,vare developer each time it sclls a product that contains thc softwarc. Many oF the softu'arc contracts include a fhor tha! rcqui e., .rderrte lo In.,le r -ne.rl,eJ mrnl mum number of royalty paynents, even if actual sales are lo$'ef than tha floor. Bccaurc rh. d, n d i"r(.r'l' rru.pruJuc . i- urrrer tain, salcs may be less than the floor, causing the company to make large payments vriih out re1'enue to cover it. Of course, if sales are higher than expected, Cadencc nust make morc royalty pavmcnts tharl expected, but it would then also have high revenues and thus could afforct the payments. In netorra,rI. rr rtl .l--otlhdrF.Jppl,e^ Cadence proposed an anangement that had a rclatively lot\' floor but a higher per-unit 'u\., l) U-irg .r -l.ind.rfd NIV .rn.r11.i. . Cadence's proposal produced a negatii'e NPV Horvever, option pficing techniques showed that Cadence's proposed royalty arrangcmcnt $'ould actually add valuc. As you read lhis chapier and leam more rbout ofrior-. thrnk Jbou, how optron pri, hg techniques can lead to better capital budgeting decisions. Perer coy, 'Erp o I fg uf.eno dyr rhe 'Re.toprian Rev.uri.n n De.hotrMok^9,'B,rrresweet,lune 7, 1999, p I I3r.nd 5. L Mintz, "Gehing Reo,' CFq November 1999, pp 52 r50
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,$8 ChqphEr 13 The rexrbookt Web sire coniolns on Ex.el fl e ihol wi guide you ihrough th. chopter's dlculoliont. n€ ffle lor Atu cfiopter is Fnl2 Ch 13l@l Kt rk, ond w6 encoros. you lo opon the f le oid fo- @ Traditional discounted cash flow (DCF) analysis-where an asset's cash flows are estimated and then discounted to obtain the asset's NPV-has been the cor- nerstone for valuing all types of assets since the 1950s. Accordinglt most of our discussion of capital budgetinS has focused on DCF valuation techniques.
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This note was uploaded on 06/08/2009 for the course FI 601-602 FI601-602 taught by Professor Prof.geary during the Spring '09 term at New Haven.

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FI.Chapter13 - :rl-l: ,;{ j r! : n ;r1r ; -{ fi,bp.tiCIn*a...

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