Booli Electronics is an electronics manufacturer located in Carlton, Victoria, Australia.
The Company's Managing Director is Monica Chen, who inherited the company from her father. The company originally repaired radios and other household items when it was founded more than fifty years ago. Over the years, the company has expanded, and is now a reputable manufacturer of various specialty electronics items. Richard Das, a recent MBA graduate, has been hired by the company in the finance department.
One of the major revenue producing items manufactured by Booli Electronics is a 'smart speaker and home assistant (SSHA).' Booli Electronics currently has one SSHA model on the market and sales have been excellent. The SSHA is a unique item in that it comes in a variety of colours and is pre-programmed to play the AC/DC back catalogue (and nothing else) on high rotation. However, as with any electronic item, technology changes rapidly, and the current SSHA has limited features in comparison with newer models.
Booli Electronics has spent $1 125 000 developing a prototype for a new SSHA that has all the features of the existing one (except for the AC/DC back catalogue), but adds new features such as Wi-Fi tethering and access to a large number of music streaming services including Spotify, Amazon Music, Sirius, Tidal and Pandora. The company has spent a further $550 000 for a marketing study to determine the expected sales figures for the new SSHA.
Booli Electronics' production manager has produced estimates of the costs associated with manufacture of the new SSHA. Variable costs are estimated at $315 per unit in Year 1, then rising with inflation, and fixed costs for the operation are expected to run at $7.2 million per year (not rising with inflation). The estimated sales volume is 85 000 in Year 1; 136 000 units in Year 2; 102 000 units in Year 3; 74 000 units in Year 4; and 63 000 units in Year 5. The unit price of the new SSHA will be $685 in Year 1, then rising with inflation. Expected inflation is 2.5% over this time. The necessary manufacturing equipment can be purchased for $43.5 million and will be depreciated for tax purposes over a seven-year life (straight-line to zero). It is believed the salvage value of the manufacturing equipment in five years' time will be $10.5 million.
Net working capital for the SSHAs will be 20% of the first-year sales and will have to be purchased at the end of the year. The cost of raw materials is reflected in the variable cost per unit. Booli Electronics has a 30% corporate tax rate and a 11%, after tax, required return.
What is the non-discounted payback period of the project?