We are evaluating a project that costs $854,000, has a 15-year life, and has no

Question

We are evaluating a project that costs $854,000, has a 15-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 154,000 units per year. Price per unit is $41, variable cost per unit is $20, and fixed costs are $865,102 per year. The tax rate is 33 percent, and we require a 14 percent return on this project. Suppose the projections given for price, quantity, variable costs, and fixed costs are all accurate to within ±14 percent.

a) What is the worst-case NPV?

b) What are the weaknesses of the project analysis approach mentioned in (a)?

Pls answer aboth 2 questions above

Explanation / Answer

Normal case NPV:

Worst case NPV would be when fixed cost is higher y 14% and variable cost is higher by 14%, sales are less by 14% and sales price is less by 14%

The weakness is that the project analysis should not be done with the consideration of the worst case. The +14 or -14% wold not necessar result in -14%.

Cost of the project Depreciation Tax saving on Dep Sales @ $ 41 per unit Variable cost per unit @ 20 Fixed cost Cash flow PV of cash flow 0          854,000     (854,000)       (854,000) 1      56,933      18,788    6,314,000    3,080,000    865,102    2,387,686      2,094,461 2      56,933      18,788    6,314,000    3,080,000    865,102    2,387,686      1,837,247 3      56,933      18,788    6,314,000    3,080,000    865,102    2,387,686      1,611,620 4      56,933      18,788    6,314,000    3,080,000    865,102    2,387,686      1,413,702 5      56,933      18,788    6,314,000    3,080,000    865,102    2,387,686      1,240,089 6      56,933      18,788    6,314,000    3,080,000    865,102    2,387,686      1,087,798 7      56,933      18,788    6,314,000    3,080,000    865,102    2,387,686          954,208 8      56,933      18,788    6,314,000    3,080,000    865,102    2,387,686          837,025 9      56,933      18,788    6,314,000    3,080,000    865,102    2,387,686          734,232 10      56,933      18,788    6,314,000    3,080,000    865,102    2,387,686          644,064 11      56,933      18,788    6,314,000    3,080,000    865,102    2,387,686          564,968 12      56,933      18,788    6,314,000    3,080,000    865,102    2,387,686          495,586 13      56,933      18,788    6,314,000    3,080,000    865,102    2,387,686          434,725 14      56,933      18,788    6,314,000    3,080,000    865,102    2,387,686          381,337 15      56,933      18,788    6,314,000    3,080,000    865,102    2,387,686          334,506 NPV    13,811,569

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