you are evaluating a project that costs $724,000 has an 8 yr life, and has no sa

Question

you are evaluating a project that costs $724,000 has an 8 yr life, and has no salvage value. Assume that depreciation is straight-line to zero over the life of the project. Sales are projected at 90,000 units per year. Price per unit is $43, variable cost per unit is $29, and fixed costs are $780,000 a year. The tax rate is 35%, and we require a 15% return on this project.

 

b) calculate the base cash flow and NVP. what is the sensitivity of NPV to changes in the sales figure? Explain what your answer tells you about a 500 unit decrease in projected sales.

Explanation / Answer

Project cost is $724,000. Life of the project is 8 years. Depreciation is = $724,000/8                            = $90,500 per year. Sales    = 90,000*$43              = $3,870,000 Variable cost = 90,000*$29                          = 2,610,000 Fixed cost       = $780,000 From marginal analysis:             Sales - Variable cost   = Fixed cost + profit             $3,870,000 - $ 2,610,000 = $780,000 + Profit                            $1,260,000           = $780,000 + Profit                  Gross Profit                    = $1,260,000 - $780,000                                                           = $480,000       Therefore the gross profit is $480,000. Calculation of cashflows: Earings before interst, taxes and depreciation(EBITD) = $480,000 Less depreciation                                                               = $   90,500 EBIT                                                                                     =$389,500 Less taxes @35%                                                               =$136,325 EAT                                                                                      =$253,175 Cashflows                  = EAT + Depreciation                                     = $253,175 + $90,500                                     = $343,675 Therefore the cash flows are $343,675. Calculation of NPV:    By using excel sperad sheet we can calculate the NPV of the project. Inset PV in formula bar and take the values as Value 1 = $343,675                                                                               Value 2 =$343,675                                                                                  .                  .                                                                                  .                  .                                                                                  .                  .                                                                              Value 8   = $343,675 By enter we can get the value as $1,542,180.22. NPV      = $1,542,180.22 - $724,000                =$818,180.22 Sensitivity of NPV: The sensitivity of NPV is what happens to NPV when one variable is changed. Here sales are changes then the NPV is also chamged directly proportion to sales. If sales are high the NPV is go up, If sales are low then NPV go down. Calculation of NPV when sales are decreased by 500 units: Project cost is $724,000. Life of the project is 8 years. Depreciation is = $724,000/8                            = $90,500 per year. Sales    = 89,500*$43              = $3,848,500 Variable cost = 89,500*$29                          = $2,595,500 Fixed cost       = $780,000 From marginal analysis:             Sales - Variable cost   = Fixed cost + profit          $3,848,500 -  $2,595,500 =  $780,000 + Gross profit                          $1,253,000         = $780,000 + Gross profit                         Gross profit         = $473,000 Calculation of cashflows: Earings before interst, taxes and depreciation(EBITD) = $473,000 Less depreciation                                                               = $   90,500 EBIT                                                                                     =$382,500 Less taxes @35%                                                               =$133,875 EAT                                                                                      =$248,625 Cashflows                  = EAT + Depreciation                                     = $248,625 + $90,500                                     = $339,125 Cashflows for the entire 8 years is $339,125 By using excel NPV   = $1,521,762.91 - $724,000                                       =$797,762.91 Therefore from the above observation The NPV is decresed when the sales are decreased.           Project cost is $724,000. Life of the project is 8 years. Depreciation is = $724,000/8                            = $90,500 per year. Sales    = 89,500*$43              = $3,848,500 Variable cost = 89,500*$29                          = $2,595,500 Fixed cost       = $780,000 From marginal analysis:             Sales - Variable cost   = Fixed cost + profit          $3,848,500 -  $2,595,500 =  $780,000 + Gross profit                          $1,253,000         = $780,000 + Gross profit                         Gross profit         = $473,000 Calculation of cashflows: Earings before interst, taxes and depreciation(EBITD) = $473,000 Less depreciation                                                               = $   90,500 EBIT                                                                                     =$382,500 Less taxes @35%                                                               =$133,875 EAT                                                                                      =$248,625 Cashflows                  = EAT + Depreciation                                     = $248,625 + $90,500                                     = $339,125 Cashflows for the entire 8 years is $339,125 By using excel NPV   = $1,521,762.91 - $724,000                                       =$797,762.91 Therefore from the above observation The NPV is decresed when the sales are decreased. Calculation of cashflows: Earings before interst, taxes and depreciation(EBITD) = $473,000 Less depreciation                                                               = $   90,500 EBIT                                                                                     =$382,500 Less taxes @35%                                                               =$133,875 EAT                                                                                      =$248,625 Cashflows                  = EAT + Depreciation                                     = $248,625 + $90,500                                     = $339,125 Cashflows for the entire 8 years is $339,125 By using excel NPV   = $1,521,762.91 - $724,000                                       =$797,762.91 Therefore from the above observation The NPV is decresed when the sales are decreased. Therefore from the above observation The NPV is decresed when the sales are decreased.          

Related Questions

Navigate

• Browse (All)
• Browse Y
• Subjects

---

---

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