Question

You are evaluating a project that costs $650,000, has a five 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 $46, variable cost per unit is $28, and fixed costs are $720,000 per year. The tax rate is 25 percent, and you require a 11 percent return on this project.

1.Calculate the accounting break-even point.

2.Calculate the cash flow (OCF).

3.Calculate the Net Present Value (NPV).

Answer 1

1) break even sales = fixed costs /contribution per unit

Contribution = sale price - variable cost

= 46 -28 = 18

Break even = 720000/18 = 40000 units

= 40000×46 = 1840000

2) estimation of cash flows

Sales = 60000×46 = 2760000

Less variable @ 28 = 1680000

Operating costs = 1080000

Less fixed costs is = 720000

Less depreciation = 650000/5 = 130000

PBT =230000

Less tax @25% = 57500

PAT = 172500

Add depreciation = 130000

= 302500

Cash flows are 302500

3) net present value is present value of cash flows less initial investment

Required rate is 11%

302500(PVIFA 11% 5y) - 650000

302500(3.6959) -650000

=468009.75