Newton Electronics Ltd$.$ has incurred expenditures of $$5$ million over the past three years researching

and developing a miniature hearing aid. The hearing aid is now fully developed, and the directors are

considering which of three mutually exclusive options should be chosen to exploit the potential of the

new product. The options are as follows:

$$ Option $1.$ The business could manufacture the hearing aid itself. This would be a new venture,

since the business has so far concentrated on research and development projects. However, the

business has manufacturing space available that it currently rents to another business for $$100,000$

a year. The business would have to purchase plant and equipment costing $$9$ million and invest $$3$

million in working capital immediately for production to begin.

A market research report, for which the business paid $$50,000,$ indicates that the new product

has an expected life of five years. Sales of the product during this period are predicted as follows: picture attched The selling price per unit will be $$30$ in the first year but will fall to $$22$ in the following three years.

In the final year of the product$$s life, the selling price will fall to $$20.$ Variable production costs are

predicted to be $$14$ a unit, and fixed production costs $($including depreciation$)$ will be $$2\mathrm{.}4$ million

a year. Marketing costs will be $$2$ million a year.

The business intends to depreciate the plant and equipment using the straight$-$line method and

based on an estimated residual value at the end of the five years of $$1$ million. The business has a

cost of capital of $10\%$ a year.

$$ Option $2.$ Newton Electronics Ltd$.$ could get another business to manufacture and market the

product under licence. A multinational business, Faraday Electricals Limited, has offered to

undertake the manufacturing and marketing of the product, and in return will make a royalty

payment to Newton Electronics Ltd$.$ of $$5$ per unit. It has been estimated that the annual number

of sales of the hearing aid will be $10\%$ higher if the multinational business, rather than Newton

Electronics Ltd$.,$ manufactures and markets the product.

$$ Option $3.$ Newton Electronics Ltd$.$ could sell the patent rights to Faraday Electricals Limited for

$$24$ million, payable in two equal installments. The first installment would be payable immediately and the second at the end of two years. This option would give Faraday Electricals the exclusive right to manufacture and market the new product.

Ignore taxes. Assume it is now November $30,$ Year $0.$

Required:

$($a$)$ Calculate the net present value of each of the options available to Newton Electronics Ltd$.$

$($b$)$ Identify and discuss any other factors that Newton Electronics Ltd$.$ should consider before arriving

at a decision.

$($c$)$ State what you consider to be the most suitable option, and why