We are evaluating a project that costs $814,000, has an 11-year life, and has no

Question

We are evaluating a project that costs $814,000, has an 11-year life, and has no salvage value. Assume that depreciation is straight-line to zero over the life of the project. Sales are projected at 121,000 units per year. Price per unit is $41, variable cost per unit is $21, and fixed costs are $816,442 per year. The tax rate is 34 percent, and we require a 12 percent return on this project.

Calculate:
the accounting break even point
the degree of operating leverage at the accounting break-even point
the base-case cash flow
the NPV
the percentage change in NPV if the sales are 1% higher than the base-case
based on the previous answer, the percentage change in NPV if projected sales fall by 2%
the change in OCF if variable costs are instead $20 per unit

Explanation / Answer

Calculate:
1) The accounting break even point

Annual Depreciation = 814000/11 = 74000

Accounting break even point = (Fixed Cost + Annual Depreciation)/(Price per unit - variable cost per unit)

Accounting break even point = (816442 + 74000)/(41-21)

Accounting break even point = 44,522.10

Accounting break even point = 44,522 Unit

2) The degree of operating leverage at the accounting break-even point

Degree of operating leverage = (Sales-Variable cost)/ (Sales-Variable cost-fixed cost)

Degree of operating leverage = (44522*(41-21))/(44522*(41-21) - 816442)

Degree of operating leverage = 12.03

3) The base-case cash flow

Base-case cash flow = ((Price per unit - variable cost per unit)*Projected Sales Unit - fixed costs)*(1-tax rate) + Annual Depreciation*tax rate

Base-case cash flow = ((41-21)*121000-816442)*(1-34%) + 74000*34%

Base-case cash flow = $ 1,083,508.28

4) The NPV

NPV = -814000 + 1083508.28*PVIFA(12%,11)

NPV =  -814000 + 1083508.28*5.937699

NPV = $ 5,619,546

Related Questions

Navigate

• Browse (All)
• Browse W
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.