commercial organizations exist for the purpose of making money, and opinions to launch a product have to be made on the possibility of the product being profitable or not. There are many methods of analyzing the problem. The simplest method based on the facts given in the case is to find out the expected gains made on each tire, and then finding out the number of tires that the company must sell to make a profit. Then one will have to view the possibility of the number being sold or not.
Let us first look at the costs. Of them, research and development costs have been given as $10 million. This is a developmental cost and has to be viewed as a sunk cost. This means that the decision to incur research and development is a corporate decision and cannot be linked to any product. Another cost has been incurred on marketing, and that is of $5 million. This has been incurred by the brand. The other cost is of $120 million for production equipment. This is directly linked to the brand. Thus the first objective will be to recover $120 million directly incurred on the brand and the second objective or goal in relation to this will be to recover $35 million which are incurred in total terms with regard to the brand. It would be only after that the profits would tend to arrive. All of this needs to be done within a duration of 4 years which is considered to be the expected life time period of the brand. In order to recover this, one needs to next understand the contribution which is expected from each of the tires.
The tire will be sold in the Original Equipment Manufacturers --OEM market for $36 a tire and the direct cost for production including materials etc. is $18. Thus the overall contribution per tire will be $18. From this a 15.9% discount will have to be given for the company to evaluate new product decisions. There will be an expenditure of $25 million on marketing and general administration. Thus we need to understand that if the product is to sold only in the market of OEM, there needs to be a sale of about 1.65 million tires. This is because each tire contributes about $15.138 for the purpose of marketing and also for the purpose of general administration. In order to cover the other part of $120 million to be spent on the level of production facilities, there need to be a sale of about 7.93 million tires more. Further to cover the capital expenditure of the amount of $15 million, there needs to have sale of about an amount of 0.99 million tires. While taking the entire duration of 4 years or so, there need to have another sale in terms of 15.52 million tires and this is to be during the expected lifespan time period of the product. Any sale which is to be conducted over that figure will add more to the company profits which is at about $15.138 per tire. The prospects have to be assessed and understood then by means of expected sale figures.
Now let us look at the other market of replacement tires. Here the sales price is $59 per tire and the direct costs are still $18 per tire. Thus the total overall contribution is at the rate of about $41 per tire. From this amount an amount of 15.9 per cent discount is being made and after that the contribution in terms of each tire is considered to be as $34.48 per tire. In order to bring about a recover in terms of marketing and expenditure relating to general administration, it would need a sale worth of 0.73 million tires in annual records as this is because each tire is contributing to an amount of $34.48. The next question to be discussed is that of covering an amount of $120 million which is being spent on that of facilities relating to production and this would require a sale worth of about 3.48 million tires. The other item which is left to cover is that of capital expenditure worth $15…