CASE 23: DANFORTH & DONNALLEY LAUNDRY PRODUCTS COMPANY
Purpose of Meeting: To make capital budgeting decision with respect to the introduction and production of a new product, a liquid detergent called Blast. Need to consider what types and which cash flows should be included in capital budgeting analysis.
D&D was producing and marketing two major product lines: 1. Lift-Off: Low –suds, concentrated powder. 2. Wave: Traditional powder detergent.
Questions & Answers: 1. If you were in Steve Gasper’s place, would you argue to include the cost from market testing as a cash outflow?
If I’m Steven Gasper’s I would not include the cost from market testing as a cash outflow. The reason is because the …show more content…
The reasons of this are:- a) When the machine was bought for Lift-Off productions the cost has been calculated; and b) In obtaining the machine and building for Blast productions no cash payment has been made.
Since the production of Blast will occupy current excess capacity, no incremental cash flows are incurred; hence, none should be charged against Blast.
4. Would you suggest that the cash flows resulting from erosion of sales from current laundry detergent products be included as a cash inflow? If there was a chance that competition would introduce a similar product were D&D to fail to introduce Blast, would this affect your answer?
Yes, it should be treat as an incremental cash flow for the reduction in the sales of the Lift-Off and Wave, referred to as erosion. These lost sales are included because it a cost (a revenue reduction) that the company must bear if it choose to produce the new product (Blast). It will not affect our answer if there was a chance that competition would introduce a similar product at time D&D fail to introduce Blast. This happen due to the fact that for constructs cash flow we ignore the competitor effect.
5. If debt is used to finance this project, should the interest payments associated with this new debt be considered cash flows?
No. We discount project cash flows with a cost of capital that is the rate of
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