We are evaluating a project that costs $800,000, has an eight-year life, and has

Question

We are evaluating a project that costs $800,000, has an eight-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 60,000 units per year. Price per unit is $40, variable cost per unit is $20, and fixed costs are $800,000 per year. The tax rate is 35 percent, and we require a return of 10 percent on this project. a. Calculate the accounting break-even point. (Do not round intermediate calculations and round your final answer to nearest whole number (e.g., 32).) Break-even point 45000 units b-1 Calculate the base-case cash flow and NPV. (Do not round intermediate calculations and round your NPV answer to 2 decimal places (e.g., 32.16).) Cash flow $ NPV $ b-2 What is the sensitivity of NPV to changes in the sales figure? (Do not round intermediate calculations and round your final answer to 3 decimal places (e.g., 32.161).) NPV/Q $ b-3 Calculate the change in NPV if sales were to drop by 500 units. (Enter your answer as a positive number. Do not round intermediate calculations and round your answer to 2 decimal places (e.g., 32.16).) NPV would by $ c. What is the sensitivity of OCF to changes in the variable cost figure? (Negative amount should be indicated by a minus sign. Do not round intermediate calculations and round your final answer to nearest whole number (e.g., 32).) OCF/VC $

Explanation / Answer

Sales unit = 60000 units per year

sale price = $ 40

Variable cost = $ 20

contribution = $ 20

Fixed cost = $800000 per year

Depreciation each year = Project cost / life of project

= $ 800000 / 8 = $100000

Total fixed cost = $900000

Break even point = Fixed cost / contribution

= $900000 / $ 20

= 45000 units

b-1 cash flow and NPV

CASH INFLOW = $295000

NET PRESENT VALUE = $773796

b-2 Sensitivity of NPV to changes in the sales figure

Let sales unit = X

Present value of cash Inflow = Present value of cash outflow

13X + 685000 = 800000

13 X = 115000

X = 8846.15

sensitivity = 60000 - 8846.15 / 8846.15 = 5.78

b-3 Change in NPV if sales were to drop by 500 units

Year= 1-8 Sales 2400000 Less- variable cost 1200000 Less- fixed cost 900000 Profit 300000 Less- tax @35% 105000 Net profit after tax 195000 Add= depreciation 100000 Cash Inflow 295000 Present value factor (10%, 1-8 year) 5.3349 Present value of cash Inflow 1573796 Less- Present value of cash outflow 800000 NET PRESENT VALUE 773796

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