Boston Metal Company (BMC), a small manufacturer of fabricated metal parts, What Makes BMC Managers Worry: BMC's managers are uneasy about this must decide wvhether to compete to become the supplier of transmission hous- ject because too many uncertain elements have not been considered in the analysis: ings for Gulf Electric. Gulf Electric produces transmission housings in its own R If it decides to compete for the project, BMC must invest in the forging in-house manufacturing facility, but it has almost reached its maximum produc- tion capacity. Therefore, Gulf is looking for an outside supplier. To compete, BMC must design a new fixture for the production process and purchase a new forge. The available details for this purchase are as follows: E The new forge would cost $125,000. This total includes retooling costs for the transmission housings. E If BMC gets the order, it may be able to sell as many as 2,000 units per year to Gulf Electric for $50 each, and variable production costs (such as direct- labor and direct-material costs) will be $15 per unit. The increase in fixed costs, other than depreciation, will amount to $10,000 per year. E The firm expects that the proposed transmission-housings project will sible scenarios before making a final decision. Put yourself in BMC's manage- have about a five-year project life. The firm also estimates that the amount ment's position mentally, and describe how you might address the uncertainty ordered by Gulf Electric for the first year will also be ordered in each o the subsequent four years. (Due to the nature of contracted production, the annual demand and unit price would remain the same over the project afte: the contract is signed.) E The initial investment can be depreciated on a MACRS basis over a seven year period, and the marginal income-tax rate is expected to remain at 40% At the end of five years, the forge is expected to retain a market value o about 32% of the original investment. BMC's MARR is known to be 15%. pro- machine in order to provide Gulf Electric wvith samples as a part of the bid- ding process. If Gulf Electric does not like BMC's samples, BMC stands to lose its entire investment in the forging machine. E If Gulf likes BMC's samples, but feels that they are overpriced, BMC would be under pressure to bring the price in line with those of competing firms. Even the possibility that BMC would get a smaller order must be consid- cred, as Gulf may use its overtime capacity to produce some units in-house instead of purchasing the entire number of units it needs. BMC is also not certain about the variable- and fixed-cost projections. Recognizing these uncertainties, the managers want to assess a variety of pos- associated with the project. In doing so, perform a sensitivity analysis for each variable and develop a sensitivity graph. Annual Revenue (X Probability Gonerainflalilon Rate (Y) Probablity $15,000 0.20 3% 0.25 $25,000 0.50 5% 0.50 $35,000 0.30 7% 0.25