Consider a four-year project with the following information: initial fixed asset

Question

Consider a four-year project with the following information: initial fixed asset investment = $590,000; straight-line depreciation to zero over the four-year life; zero salvage value; price = $34; variable costs = $26; fixed costs = $230,000; quantity sold = 89,000 units; tax rate = 35 percent.

How sensitive is OCF to changes in quantity sold? (Round your answer to 2 decimal places. (e.g., 32.16))

Consider a four-year project with the following information: initial fixed asset investment = $590,000; straight-line depreciation to zero over the four-year life; zero salvage value; price = $34; variable costs = $26; fixed costs = $230,000; quantity sold = 89,000 units; tax rate = 35 percent.

Explanation / Answer

Dep D = Initial Inv/Life =590,000/4 = 147500

OCF = (Sales - Costs) x (1 - T) + Depr x T

= (Qty*(SP pu-VCpu)-FC)*(1-T)+ D*T

= (89000*(34-26)-230000)*(1-35%)+147500*35%

= $364,925.00

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To calculate the sensitivity to quantity sold, repeat the above calculations for a diffrent value of Q, say, Q=89,001.

SO we get OCF as

(89001*(34-26)-230000)*(1-35%)+147500*35%

= $364,930.20

Thus, the change in OCF per unit change in Q is

364930.20 - 364925.00 = 5.20

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=OCF increases by $5.20.

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