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Scenario 4.5 The T. H. King Company Has Introduced a New Product

question 61

Multiple Choice

Scenario 4.5
The T. H. King Company has introduced a new product line that requires two work centers, A and B for manufacture. Work Center A has a current capacity of 10,000 units per year, and Work Center B is capable of 12,500 units per year. This year (year 0) , sales of the new product line are expected to reach 10,000 units. Growth is projected at an additional 1,000 units each year through year 5. Pre-tax profits are expected to be $30 per unit throughout the 5-year planning period. Two alternatives are being considered:
1) Expand both Work Centers A and B at the end of year 0 to a capacity of 15,000 units per year, at a total cost for both Work Centers of $200,000;
2) Expand Work Center A at the end of year 0 to 12,500 units per year, matching Work Center B, at a cost of $100,000, then expanding both Work Centers to 15,000 units per year at the end of year 3, at an additional cost at that time of $200,000.
The King Company will not consider projects that don't show a 5th year positive net present value using a discount rate of 15%.
-Use the information in Scenario 4.5. What is the pre-tax cash flow (net present value) for alternative #2 compared to the base case of doing nothing for the next five years?

Definitions:

Net Operating Income Variance

The difference between the actual net operating income and the budgeted or forecasted net operating income, used to assess a business's performance.

Wells Serviced

The number of oil or gas wells undergoing maintenance, repair, or installation services over a period, often indicating the performance level of a service company in the energy sector.

Flexible Budget

A budget designed to adapt based on fluctuations in activity levels or volume.

Servicing Materials

Materials used in the maintenance and repair of products or equipment, not typically included in the direct costs of manufacturing the product.