CASES
NASTY-AS-CAN-BE GAMES
National Informatics is considering producing a new games, Nasty-As-Can-Be. National
has spent two years and $ 450.000 developing this product. National has also tested
marketed Nasty, spending $ 100.000 to conduct consumer survey and test of the product
in 25 states.
Based on previous games products and the results in the test marketing, management
believes consumers will buy 400.000 packages each year for ten years at $ 500 per
package. Equipment to produce Nasty will cost National $ 1,000,000 and $ 300,000 of
additional net working capital will be required to support Nasty sales. National expects
production costs to average 60 % of Nasty’s net revenues, with overhead and sales
expenses totaling $ 525.000 per year. The equipment has a life of ten years, after which
time it will have no salvage value. Working capital is asumed to be fully recovered at the
end of ten years. Depreciation is straight line (no salvage) and National’s tax rate is 45 %.
The required rate of return for projects of similar risk is 8 %.
Requirements
a. Should National Informatics produce these new games? What is the basis of your
recommendation?
b. Would your recommendation change if production costs average 65 % of net
revenues instead of 60 %? How sensitive is your recommendation to production
costs?
c. Would your recommendation change if the equipment were depreciated according
to MACRS as a 10 year asset instead of using straight line?
d. Suppose that competitors are expected to introduce similar games products to
compete with Nasty, such that dollar sales will drop by 5 % each year following
the first year. Should National Foods produce these new games considering this
possible drop in sales? Explain?