Use the Information for the Question(s)below

question 28

Essay

Use the information for the question(s)below.
Kinston Industries has come up with a new mountain bike prototype and is ready to go ahead with pilot production and test marketing.The pilot production and test marketing phase will last for one year and cost $500,000.Your management team believes that there is a 50% chance that the test marketing will be successful and that there will be sufficient demand for the new mountain bike.If the test-marketing phase is successful,then Kinston Industries will invest $3 million in year one to build a plant that will generate expected annual after-tax cash flows of $400,000 in perpetuity beginning in year two.If the test marketing is not successful,Kinston can still go ahead and build the new plant,but the expected annual after-tax cash flows would be only $200,000 in perpetuity beginning in year two.Kinston has the option to stop the project at any time and sell the prototype mountain bike to an overseas competitor for $300,000.Kinston's cost of capital is 10%.
-Assuming that Kinston has the ability to sell the prototype in year one for $300,000,draw a decision tree detailing the Kinston Industries Mountain Bike Project.

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Definitions:

Receivables Financing

A financial practice where a company uses its accounts receivable as collateral to secure funding.

Commercial Paper

Commercial paper is a short-term, unsecured promissory note issued by corporations, typically used for the financing of accounts receivable, inventories, and meeting short-term liabilities.

Discount Period

The time frame during which a seller offers a buyer a reduction from the normal cost of a good or service, often to incentivize prompt payment.

Cash Sales

Cash sales refer to transactions where payment is made in full with cash at the time of the sale, without any credit.