1. A project requires an investment of $1,000,000. Although sales will begin in
ID: 2752298 • Letter: 1
Question
1. A project requires an investment of $1,000,000. Although sales will begin in the first year, operations will not achieve full scale until Year 2. After that, growth is expected to be strong. The product is expected to sell for $100 per unit. Variable costs per unit are $60. Allocable fixed costs are $300,000 per year. Projected units produced and sold per year are:
Year Units
0 NA
1 5,000
2 10,000
3 12,000
4 14,000
5 16,000
At the end of Year 5, the value of the project as an ongoing concern will be 2.5x net operating profit (assume positive cash flow = net operating profit throughout the projection)
1. At what quantity is breakeven achieved?
2. During which year is that achieved?
3. Using an average of 13,000 units sold after Year 1, and incorporating the year 1 loss as an investment, how many years after year 1 will it take to achieve payback?
4. The company uses a required rate of 12%; it also assigns an ongoing value of 2.5 times year 5 net operating profit to the project. What is the NPV for the five year projection?
5. Based on your answers to 1-4, would you recommend that the company proceed with the project?
Explanation / Answer
1. At what quantity is breakeven achieved?
BEQ =
Fixed Cost
Sale price per unit-variable cost per unit
BEQ =
300000
100-60
BEQ =
7500 Units.
2. During which year is that achieved?
In Second Year.
3. Using an average of 13,000 units sold after Year 1, and incorporating the year 1 loss as an investment, how many years after year 1 will it take to achieve payback?
Year
Cash Flow
Net Invested Cash
0
($1,000,000)
1
($100,000)
-1,100,000
2
$220,000
-880,000
3
$220,000
-660,000
4
$220,000
-440,000
5
$220,000
-220,000
6
$220,000
0
7
$220,000
220,000
8
$220,000
440,000
Pay Back Period in Six Year.
4. The company uses a required rate of 12%; it also assigns an ongoing value of 2.5 times year 5 net operating profit to the project. What is the NPV for the five year projection?
Year
Sale Price
Variable Cost
Contribution (Sale Price - Variable Cost
Units
Fixed Cost
Cash Flow (Contribution *Units Sold-Fixed Cost
PV Factors @12%
P V of Cash Flow (Cash Flow * P V Factors
1
100
60
40
5000
300000
($100,000)
$0.8929
($89,285.71)
2
100
60
40
10000
300000
$100,000
$0.7972
$79,719.39
3
100
60
40
12000
300000
$180,000
$0.7118
$128,120.44
4
100
60
40
14000
300000
$260,000
$0.6355
$165,234.70
5
100
60
40
16000
300000
$340,000
$0.5674
$192,925.13
Total
$780,000.00
$476,713.95
Less : Initial Investment
1000000
Net Present Value
($523,286.05)
5. Based on your answers to 1-4, would you recommend that the company proceed with the project?
No
BEQ =
Fixed Cost
Sale price per unit-variable cost per unit
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