She guesses that overhead and materials costs will bit less than labor

Risk Simulation Queuing 051024

Part 1: Project details - assemble data and determine strategy

The president of the company believes, based on sales experience with other products, that the new system could generate $6 million in revenue in the first
year. Returns/allowances from dissatisfied customers have averaged 3% on other similar products in the past. First year labor costs are estimated at $875,000, and materials at $910,000. This product’s share of overhead (rent, utilities, security) amounts to $1.4 million annually. There are additional costs associated with selling the new product, plus its share of administrative expenses. Prior income statements put these selling, general and administrative (SGA) expenses at 19%. Finally, the tax rate on net profit is currently 30%.

Your first task is to draw up a projected profit/loss statement for the new speaker system for the initial year, plus three additional years. To determine numbers for the additional 3 years, some growth rate assumptions must be factored in. After some discussion, the president has come up with some guesses. She projects sales of the product to increase at 9% annually, while labor costs go up 4% annually. She guesses that overhead and materials costs will go up a bit less than labor, say 3% annually.

Terms:

Net revenue: Gross revenue minus returns and allowances

NPV: A single number that sums up the value of an investment over multiple periods (revenues and expenses, with discounting of out-year flows)

Discount rate: The rate at which future cash flows are reduced for “bundling” into an overall NPV