Assignment 1: Memo to Management

You are working in the finance department of Space Sky Flight Ltd (SSF). The Company has spent $5.5 million in research and development over the past 12 months developing a drone capable to fix satellites to compete in the space industry. SSF’s directors now need to choose between three options for bringing this product to the market. These options are:

Option A: Manufacturing the product “in-house” and selling directly to the market
Option B: Licensing another company to manufacture and sell the product in return for a royalty Option C: Sell the patent rights outright to the company mentioned in option B

Your task

Your boss, SSF’s CFO Savanah Harley, has asked you to evaluate the three different options and draft a memo to the Board of Directors providing recommendations on the alternatives, along with supporting analysis.

Savanah has outlined the following three areas you need to cover in your memo:

1. Analyse base case figures for the three options and using NPV as the investment decision rule;
2. Provide recommendations based on the base-case analyses;
3. Provide recommendations on further analyses and factors that should be considered prior to making a final decision on the three options (Note. You do NOT have to undertake any further financial analyses).

Further details for the various options are as follows:

Option A

Two months ago, SSF paid an external consultant $800,000 for a production plan and demand analysis. The consultant recommended producing and selling the product for five years only as technological innovation will likely render the market too competitive to be profitable enough after that time. Sales of the product are estimated as follows:

In the first year, it is estimated that the product will be sold for $90,000 per unit. However, the price will drop in the following three years to $75,000 per unit and fall again to $50,000 per unit in the final year of the project, reflecting the effects of anticipated competition and improving technology in the market. Variable production costs are estimated to be $45,000 per unit for the entire life of the project.