10. (TCO C) A state game and fish agency wants to invest in a new fish hatchery.
ID: 2648708 • Letter: 1
Question
10. (TCO C) A state game and fish agency wants to invest in a new fish hatchery. It is estimated that the cost of operating the system will be $2,000,000 per year after a one-time installation cost of $5,000,000 is incurred. The construction period will be one year. Once the plant is constructed and in operation, community benefits are estimated at $4,000,000 per year. The system would be financed by a property tax increment placed on the business and residential sectors. (6 points)
Without considering interest rates and discounting, how long will it take for the community to "break even" on this venture? SHOW ALL WORK. (4 points)
What might be defensible logic behind using revenues from fishing licensing and fines from violators of fishing regulations, for the financing mechanism as compared to, say, a sales tax? (4 points)
Write a brief one-paragraph budget justification to support this project. [NOTE: I refer to the statement on Page 175 of the text, to wit. "Well-developed budget justifications are the key to successful agency budget requests."] (4 points)
Explanation / Answer
Break-even is the point, where costs equals the revenue.
At point 0(beginning of year 1), costs incurred are: $5,000,000 i.e the installation cost. It takes 1 year to complete the construction, which means that the cosntruction will be completed and the system will be operational from the end of year 1.
Thus, cost of operating the system and community benefits will occur from 2nd year. (assuming that cost of operating the system is not incurred when the system is getting installed. It occurs only after the system is installed).
As we can see from the table above, break even period occurs between the year 3 and year 4. The exact time will be: (1,000,000/2,000,000) = 0.5 (it takes 1 year for the cumulative benefits to change by 2,000,000. So it will take 0.5 years for it to change by 1,000,000)
Thus break even point will be at 3+0.5 = 3.5 years.
The defensive logic is that in case of decreasing sales, the sales tax amount will reduce and so it is not being used. However, in case of using revenues and fines, the fines amount will not change with respect to change in sales. So this is a safer strategy or the defensive strategy to protect itself from falling sales (if it happens).
The project is financially viable and justifed because, the break-even happens in 3.5 years only. After that the project will earn a cumulative net profit of $2,000,000 per year (community benefits - cost of operating the system) which is equal to 100% of the annual operating costs.
Year Installation cost Cost of operating the system Community benefits Benefits - costs Cumulative benefits -costs 0 5,000,000 0 0 -5,000,000 -5,000,000 1 0 0 0 0 -5,000,000 2 0 2,000,000 4,000,000 2,000,000 -3,000,000 3 0 2,000,000 4,000,000 2,000,000 -1,000,000 4 0 2,000,000 4,000,000 2,000,000 1,000,000Related Questions
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