To solve the bid price problem presented in the text, we set the project NPV equ

Question

To solve the bid price problem presented in the text, we set the project NPV equal to zero and found the required price using the definition of OCF. Thus the bid price represents a financial break-even level for the project. This type of analysis can be extended to many other types of problems. Romo Enterprises needs someone to supply it with 127,000 cartons of machine screws per year to support its manufacturing needs over the next five years, and you've decided to bid on the contract. It will cost you $940,000 to install the equipment necessary to start production; you'll depreciate this cost straight- line to zero over the project's life. You estimate that, in five years, this equipment can be salvaged for $77,000. Your fixed production costs will be $332,000 per year, and your variable production costs should be $11.00 per carton. You also need an initial investment in net working capital of $82,000. Assume your tax rate is 30 percent and you require a 11 percent return on your investment. a. Assuming that the price per carton is $17.70, what is the NPV of this project? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) NPV b. Assuming that the price per carton is $17.70, find the quantity of cartons per year you need to supply to break even. (Do not round intermediate calculations and round your answer to nearest whole number.) Quantity of cartons c. Assuming that the price per carton is $17.70, find the highest level of fixed costs you could afford each year and still break even. (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) Fixed costs

Explanation / Answer

Calculation of NPV of the project -

NPV of the project would be = 609559.3

(b) Break even = Fixed cost / (Selling price per unit - variable cost per unit)

= 332000/(17.70-11)

= 332000/6.70

= 49552 units

(C) now lets assume max.fixed cost i could afford = x

so x/(17.70-11) = 127000

x = 127000*6.70

= 850900

Please comment in case of any clarification/query.

output in units 127000 127000 127000 127000 127000 Year 0 1 2 3 4 5 Initial investment 940000 Working capital 82000 revenue 2247900 2247900 2247900 2247900 2247900 less variable cost 1397000 1397000 1397000 1397000 1397000 Contribution (revenue - variable cost) 850900 850900 850900 850900 850900 less Fixed cost 332000 332000 332000 332000 332000 Depriciation 188000 188000 188000 188000 188000 EBIT 330900 330900 330900 330900 330900 Salvage value 77000 less Tax@30% 99270 99270 99270 99270 122370 EAT 231630 231630 231630 231630 285530 add Depriciation 188000 188000 188000 188000 188000 Working capital 82000 Cash flow -1022000 419630 419630 419630 419630 555530 PV factor @11% 1 0.9009009 0.811622 0.731191 0.658731 0.593451 -1022000 378045.05 340581.1 306829.8 276423.3 329680 609559.3

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