Another utilization of cash flow analysis is setting the bid price on a project.
ID: 2645492 • Letter: A
Question
Another utilization of cash flow analysis is setting the bid price on a project. To calculate the bid price, we set the project NPV equal to zero and find the required price. Thus the bid price represents a financial break-even level for the project. Guthrie Enterprises needs someone to supply it with 149,000 cartons of machine screws per year to support its manufacturing needs over the next five years, and you
Another utilization of cash flow analysis is setting the bid price on a project. To calculate the bid price, we set the project NPV equal to zero and find the required price. Thus the bid price represents a financial break-even level for the project. Guthrie Enterprises needs someone to supply it with 149,000 cartons of machine screws per year to support its manufacturing needs over the next five years, and you
Explanation / Answer
a.Calculate the project NPV.
NPV = - Initial Investment + Annual cash flow *PVIFA(rate,nper) + Terminal Value*PVIF(rate,nper)
NPV = - 2029000 + 680575*PVIFA(10%,5) + 242350*PVIF(10%,5)
NPV = - 2029000 + 680575*3.790787+ 242350* 0.620921
NPV = $ 701,395
Working
Initial Investment = 1890000 + 139000 = $ 2,029,000
Annual Depreciation = 1890000/5 = 378000
Post tax salvage Value = 159000*(1-35%) = 103350
Terminal Value = Post tax salvage Value + working capital realised
Terminal Value=103350 + 139000
Terminal Value = 242350
Annual cash flow = (No of Unit Sold*(Sale Price - Variable cost) - Annual Fixed Cost)*(1-tax rate) + Annual Depreciation * tax rate
Annual cash flow = (149000*(16.90-9.40) - 274000 )*(1-35%) + 378000*35%
Annual cash flow = 680575
b.What is the minimum number of cartons per year that can be supplied and still break even?
NPV = - Initial Investment + Annual cash flow *PVIFA(rate,nper) + Terminal Value*PVIF(rate,nper)
0 = - 2029000 + Annual cash flow*PVIFA(10%,5) + 242350*PVIF(10%,5)
0 = - 2029000 +Annual cash flow*3.790787+ 242350* 0.620921
Annual cash flow = (2029000 - 242350* 0.620921)/3.790787
Annual cash flow = $ 495,548.76
Annual cash flow = (No of Unit Sold*(Sale Price - Variable cost) - Annual Fixed Cost)*(1-tax rate) + Annual Depreciation * tax rate
495,548.76 = (No of Unit Sold*(16.90-9.40) - 274000 )*(1-35%) + 378000*35%
No of Unit Sold = ((495,548.76 - 378000*35%)/(1-35%) + 274000)/(16.90- 9.40)
No of Unit Sold = 111045.90
Minimum number of cartons per year that can be supplied and still break even = 111046
c.What is the highest fixed costs that could be incurred and still break even?
NPV = - Initial Investment + Annual cash flow *PVIFA(rate,nper) + Terminal Value*PVIF(rate,nper)
0 = - 2029000 + Annual cash flow*PVIFA(10%,5) + 242350*PVIF(10%,5)
0 = - 2029000 +Annual cash flow*3.790787+ 242350* 0.620921
Annual cash flow = (2029000 - 242350* 0.620921)/3.790787
Annual cash flow = $ 495,548.76
Annual cash flow = (No of Unit Sold*(Sale Price - Variable cost) - Annual Fixed Cost)*(1-tax rate) + Annual Depreciation * tax rate
495,548.76 = (149000*(16.90-9.40) - Annual Fixed Cost )*(1-35%) + 378000*35%
Annual Fixed Cost = 149000*(16.90-9.40) - ((495,548.76 - 378000*35%)/(1-35%)
Annual Fixed Cost = 558,655.75
Highest fixed costs that could be incurred and still break even= 558,655.75
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