Financial Break-Even Niko has purchased a brand new machine to produce its High

Question

Financial Break-Even Niko has purchased a brand new machine to produce its High Flight line of shoes. The machine has an economic life of five years. The depreciation schedule for the machine is straight-line with no salvage value. The machine costs $$75,000. The sales price per pair of shoes is $50, while the variable cost is $14. $195,000 of fixed costs per year are attributed to the machine. Assume that the corporate tax rate is 34 percent and the appropriate discount rate is 8 percent. 7. Calculate the accounting break-even number of units sold/year that will make EBIT-0 Calculate the financial break-even number of units sold/year that will make NPV -0 a. Net Income 0 or b.

Explanation / Answer

Depreciation per year = $575000 / 5 = $115000

Contribution per unit = Selling price - Variable cost = $50 - $14 = $36

a) For EBIT to be zero, the Total contribution should be equal to total fixed costs including depreciation.

Accounting Break-even = (Fixed Costs + Depreciation) / Contribution per unit = ($195000 + $115000) / $36 per unit

Or, Accounting Break-even = 8611.1111111 units or 8611 units

b) For NPV to be zero, the Present value of cash inflows should be equal to the initial investment.

Let the Number of units sold / year be be "n".

Less: Fixed costs

Present value of cash inflows = Initial Investment

Or, Cash Inflows per year x PVIFA (8%, 5) = 575000

Or, (23.76 n - 89600) x 3.99271003698 = 575000

Or, 94.8667904786 n = 932746.819313

Or, n = 9832.17430048 or 9832 units

Cash inflows per year Particulars Amount ($) Sales n x 50 Less: Variable cost n x 14

Less: Fixed costs

$195000 Less: Depreciation $115000 Earnings before tax 36 n - 310000 Less: tax @34% 12.24 n - 105400 Earnings after tax 23.76 n - 204600 Add: Depreciation $115000 Total cash inflows per year 23.76 n - 89600

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