Question

You are considering investing in a company that cultivates abalone for sale to local restaurants. Use the following information:

Sales price per abalone	=	$43.50
Variable costs per abalone	=	$10.70
Fixed costs per year	=	$454,000
Depreciation per year	=	$135,000
Tax rate	=	25%

The discount rate for the company is 17 percent, the initial investment in equipment is $945,000, and the project’s economic life is 7 years. Assume the equipment is depreciated on a straight-line basis over the project’s life and has no salvage value.

a.	What is the accounting break-even level for the project? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

b.	What is the financial break-even level for the project? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

Answer 1

Accounting break-even = [(Fixed Costs + Depreciation)(1 – Tax Rate)] / [(Price – Variable Cost)(1 – Tax Rate)]

Accounting break-even = [(454000 + 135000))(1 - .25)] / [(43.5-10.7)(1 - .25)]

Accounting break-even = 17957.317 units

Equivalent Annual Cost (EAC) = Initial Investment / PVIFA17%,7

EAC = 945000/3.9224

EAC = 240923.92

Financial Break-even = [EAC + FC(1 – Tax Rate) – D(1 – Tax Rate)] / [(Price – Variable Costs)(1 – Tax Rate)]

Financial break-even = (240923.92+(454000*(1-0.35))–((945000/7)(1-0.25)))/(43.5-10.7)(1-0.25)

Financial break-even = 9941.477