Question

Break-even calculations are most often concerned with the effect of a shortfall in sales, but they could equally well focus on any other component of cash flow. Dog Days is considering a proposal to produce and market a caviar-flavored dog food. It will involve an initial investment of $90,000 that can be depreciated for tax straight-line over 10 years. In each of years 1 to 10, the project is forecast to produce sales of $100,000 and to incur variable costs of 50% of sales and fixed costs of $30,000. The corporate tax rate is 30%, and the cost of capital is 10%

a. Calculate the NPV and accounting break-even levels of fixed costs. (Do not round intermediate calculations. Round your answers to 2 decimal places.)

FC at NPV Breakeven ________

FC at accounting breakeven _________

b) b. Suppose that you are worried that the corporate tax rate will be increased immediately after you commit to the project. Calculate the break-even rate of taxes. (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places.)

Break-even tax rate __________%

c. How would a rise in the tax rate affect the accounting break-even point?

no effect, decrease, or increase

Answer 1

C.

The accounting break-even point continues as before regardless of changes in the tax rate as it considers just the pre-tax benefit to recuperate the fixed expenses. Thus, it is unaffected by tax changes.