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 $21, and fixed costs are $800,000 per year. The tax rate is 21 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 answer to 2 decimal places, e.g., 32.16.) 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.) b−2. What is the sensitivity of NPV to changes in the sales figure? (Do not round intermediate calculations and round your answer to 3 decimal places, e.g., 32.161.) 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.) c. What is the sensitivity of OCF to changes in the variable cost figure? (A negative answer should be indicated by a minus sign. Do not round intermediate calculations and round your answer to the nearest whole number, e.g., 32.)

Answer 1

The accounting break-even point, NPV, sensitivity analysis, and the effects of sales and variable costs on OCF are crucial components of evaluating a project. Using the provided parameters and formulas, we can calculate these figures to assess the project's financial viability.

Step-by-step explanation:

We have been tasked with calculating accounting break-even point, cash flows, net present value (NPV), and sensitivity analysis for a capital budgeting project. To begin with, the accounting break-even point is the level of sales at which a project's net income is zero, which is when total revenues equal total expenses (including both variable costs and fixed costs, as well as depreciation).

In this scenario, the depreciation expense is the cost of the project ($800,000) divided by its life (8 years), resulting in $100,000 per year. To calculate the accounting break-even point in units, we use the formula:

• Total Fixed Costs + Depreciation / (Price per unit - Variable Cost per unit)

For the base-case cash flow, we calculate the operating cash flow (OCF) by combining sales revenue, costs, depreciation, and taxes. OCF can be calculated as:

• (Sales Revenue - Variable Costs - Fixed Costs - Depreciation) * (1 - Tax Rate) + Depreciation

To find NPV, we have to determine the present value of these cash flows over the life of the project and subtract the initial investment. Changes in the sales figure will affect NPV, and sensitivity analysis allows us to measure how sensitive NPV is to changes in sales. A drop in sales by 500 units will result in a decrease in NPV, which can be calculated by determining the change in cash flow as a result of selling 500 fewer units and adjusting NPV accordingly.

The sensitivity of OCF to changes in the variable cost figure is found by evaluating how changes in variable cost per unit affect the OCF. Since OCF is directly linked to variable costs, an increase in variable cost per unit reduces OCF, and vice versa.

Answer 2

The accounting break-even point for the project is 42,105.26 units.

Step-by-step explanation:

To calculate the accounting break-even point, we need to determine the number of units that need to be sold in order to cover all the fixed and variable costs. The formula for accounting break-even point is:

Accounting Break-Even Point = Fixed Costs / (Selling Price per Unit - Variable Cost per Unit)

Using the given information, the accounting break-even point can be calculated as follows:

Accounting Break-Even Point = $800,000 / ($40 - $21)

Accounting Break-Even Point = $800,000 / $19

Accounting Break-Even Point = 42,105.26 units (rounded to 2 decimal places)