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Merowak Missiles is proposing to develop its next generation Democratizer Offensive Weapon System II (DOWS II) for the US military
Merowak Missiles is proposing to develop its next generation Democratizer Offensive Weapon System II (DOWS II) for the US military. It expects to have to sink $1 billion into R&D and design, spend $0.5 billion building the tools and production facility that are unique to DOWS II production. It houses these in standard factory floor space that costs $1 million. Each missile has a marginal cost of $2,000. The Pentagon is considering ordering 1 million of these missiles. What is the average cost per missile that Merowak could bid for the contract
Expert Solution
Since this does not involve any incremental cost analysis, we can include the sunk cost for R&D into a fixed cost.
Total fixed cost (TFC) = R&D cost + Tools & production cost + Cost of floor space = $(1,000 + 500 + 1) million
= $1,501 million
Total variable cost (TVC) = $2,000 x 1 million = $2,000 million
Total cost (TC) = TFC + TVC = $(1,501 + 2,000) million = $3,501 million
Average cost per missile = TC / Quantity = $3,501 million / 1 million
= 3,501 per missile
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