Question

B&B has a new baby powder ready to market. If the firm goes directly to the market with the product, there is only a 55 percent chance of success. However, the firm can conduct customer segment research, which will take a year and cost $1.12 million. By going through research, B&B will be able to better target potential customers and will increase the probability of success to 70 percent. If successful, the baby powder will bring a present value profit (at time of initial selling) of $18.2 million. If unsuccessful, the present value payoff is only $5.2 million. The appropriate discount rate is 15 percent. Calculate the NPV for the firm if it conducts customer segment research and if it goes to market immediately

Answer 1

Answer:

1. NPV  if it conducts customer segment research

NPV = $ 11.314782

2. NPV if it goes to market inmediately.

NPV = $ 10.739.130

Explanation:

1. NPV  if it conducts customer segment research.

In this case you need to use this information:

Initial investmet =  $1.120.000 (research cost)

p = 70%  (Probability of success)

p = 30 % (Probability of unsuccess)

(you can obtain this probability , using the probability of success and subtracting 70% from 100% )

NPV if successful = $18.200.000

NPV if unsuccessful = $5.200.000

r = 15% (Discount rate)

then

You need to use this formula

NPV = ∑ $\frac{p.VPN}{(1+r)}$ -initial investment

NPV =      $\frac{ 18.200.000 x 0,7}{(1+0,15)} + \frac{ 5.200.000 x 0,3}{(1+0,15)}$ - $1.120.000

NPV = $ 11.314782

2. NPV   if it goes to market inmediately.

In this case you need to use this information:

p = 55% (Probability of success)

p = 45 % (Probability of unsuccess)

(you can obtain this probability , using the probability of success and subtracting 55% from 100% )

NPV if successful = $18.200.000

NPV if unsuccessful = $5.200.000

r = 15% (Discount rate)

then

You need to use this formula

NPV = ∑ $\frac{p.VPN}{(1+r)}$

NPV = $\frac{ 18.200.000 x 0,55}{(1+0,15)} + \frac{ 5.200.000 x 0,45}{(1+0,15)}$

NPV = $ 10.739.130