Mattel is developing a new Madonna doll. Managershave made the following assumptions.It is equally likely that the doll will sell for two, four,six, eight, or ten years.At the beginning of year 1, the potential market for thedoll is 1 million. The potential market grows by an averageof 5% per year. They are 95% sure that the growth inthe potential market during any year will be between 3%and 7%.They believe their share of the potential market duringyear 1 will be at worst 20%, most likely 40%, and at best50%. All values between 20% and 50% are possible.The variable cost of producing a doll during year 1 isequally likely to be $4 or $6.The sales price of the doll during year 1 will be $10.Each year, the sales price and variable cost of producingthe doll will increase by 5%.The fixed cost of developing the doll (incurred in year0) is equally likely to be $4, $8, or $12 million.At time 0, there is one competitor in the market. Duringeach year that begins with four or fewer competitors, thereis a 20% chance that a new competitor will enter the market.To determine year t unit sales (for t 1), proceed asfollows. Suppose that at the end of year t 1, x competitorswere present. Then assume that during year t, a fraction.9 .1*x of loyal customers (last year’s purchasers) willbuy a doll during the next year and a fraction .2 .04*x ofpeople currently in the market who did not purchase a dolllast year will purchase a doll from the company this year.We now generate a prediction for year t unit sales. Of course,this prediction will not be precise. We assume that it is sureto be accurate within 15%, however.Cash flows are discounted at 10% per year.a Estimate the expected NPV (in time 0 dollars) ofthis project.b You are 95% sure the expected NPV of this projectis between _____ and _____.c You are 95% sure that the actual NPV of the projectis between _____ and _____.d What two factors does the tornado diagram indicateare key drivers of the project’s profitability?
Mattel is developing a new Madonna doll. Managers
have made the following assumptions.
It is equally likely that the doll will sell for two, four,
six, eight, or ten years.
At the beginning of year 1, the potential market for the
doll is 1 million. The potential market grows by an average
of 5% per year. They are 95% sure that the growth in
the potential market during any year will be between 3%
and 7%.
They believe their share of the potential market during
year 1 will be at worst 20%, most likely 40%, and at best
50%. All values between 20% and 50% are possible.
The variable cost of producing a doll during year 1 is
equally likely to be $4 or $6.
The sales price of the doll during year 1 will be $10.
Each year, the sales price and variable cost of producing
the doll will increase by 5%.
The fixed cost of developing the doll (incurred in year
0) is equally likely to be $4, $8, or $12 million.
At time 0, there is one competitor in the market. During
each year that begins with four or fewer competitors, there
is a 20% chance that a new competitor will enter the market.
To determine year t unit sales (for t 1), proceed as
follows. Suppose that at the end of year t 1, x competitors
were present. Then assume that during year t, a fraction
.9 .1*x of loyal customers (last year’s purchasers) will
buy a doll during the next year and a fraction .2 .04*x of
people currently in the market who did not purchase a doll
last year will purchase a doll from the company this year.
We now generate a prediction for year t unit sales. Of course,
this prediction will not be precise. We assume that it is sure
to be accurate within 15%, however.
Cash flows are discounted at 10% per year.
a Estimate the expected NPV (in time 0 dollars) of
this project.
b You are 95% sure the expected NPV of this project
is between _____ and _____.
c You are 95% sure that the actual NPV of the project
is between _____ and _____.
d What two factors does the tornado diagram indicate
are key drivers of the project’s profitability?
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