Thompson & Son has been busy analyzing a new product.Management has determined that an operating cash flow of $16,700 will result in a zero net present value,which is a company requirement for project acceptance.The fixed costs are $12,378 and the contribution margin is $6.20.Management feels that they can realistically capture 10 percent of the 50,000 unit market for this product.Should the company develop the new product? Why or why not?

Question

Quizplus · Accepted Answer

With a contribution margin of $6.20, the company will need to sell approximately 2,000 units to cover fixed costs ($12,378/ $6.20). Selling 5,000 units (10% of the market) will generate a total contribution margin of $31,000 (5,000 units x $6.20 per unit). Subtracting the fixed costs of $12,378 leaves an operating cash flow of $18,622, which is greater than the required $16,700 for a zero net present value. Therefore, the company should develop the new product as it will generate a positive net present value.

Thompson & Son Has Been Busy Analyzing a New Product