Question

Neptune Biometrics, despite its promising technology, is having difficulty generating profits. Having raised $85 million in an initial public offering of its stock early in the year, the company is poised to intro- duce a new product, an inexpensive fingerprint door lock. If Neptune engages in a promotional campaign costing $55 million this year, its annual after-tax cash flow over the next five years will be only $1 mil lion. If it does not undertake the campaign, it expects its after-tax cash flow to be - $15 million annually for the same period. Assuming the company has decided to stay in its chosen business, is this campaign worthwhile when the discount rate is 8 percent? Why or why not?

Answer 1

HI

we will find out present value of both the options to find out which option is better for the company.

with advertising campaign

Cash flows = -55 1 1 1 1 1   

so Net present value of these cash flows at 8% discount rate

NPV = -55 + 1/(1+8%) +1/(1+8%)^2+1/(1+8%)^3+1/(1+8%)^4+1/(1+8%)^5

NPV = $-51.01 Mn

and without advertising campaign

NPV = -15/(1+18%)^1-15/(1+18%)^2-15/(1+18%)^3-15/(1+18%)^4-15/(1+18%)^5

NPV = -$59.89 Mn

Hence having campaign is worthwile since it will incur less loss over 5 years.

Thanks