Question

the company is considering the purchase of machinery and equipment to set up a line to produce a combination washer-dryer. They have given you the following information to analyze the project on a 5-year timeline: Initial cash outlay is $150,000, no residual value. Sales price is expected to be $2,250 per unit, with $595 per unit in labor expense and $795 per unit in materials. Direct fixed costs are estimated to run $20,750 per month. Cost of capital is 8%, and the required rate of return is 10%. They will incur all operational costs in Year 1, though sales are expected to be 55% of break-even. Break-even (considering only direct fixed costs) is expected to occur in Year 2. Variable costs will increase 2% each year, starting in Year 3. Sales are estimated to grow by 10%, 15%, and 20% for years 3 - 5. They have asked you to calculate: The product’s contribution margin Break-even quantity NPV IRR Once you have determined these amounts, they have asked that you present the information, describe how you performed your calculations, and explain what the results mean. After you have completed the calculations and presented your work, management makes the investment. Explain how the project analyses do or do not support this decision. In either case, what are the factors that should have been considered in management’s decision?

Answer 1

A B C 6 Sales price p.u $2250 7 -Labour cost p.u -$595 8 -Material cost p.u -$795 9 Contribution p.u $860 10 11 Contribution Margin 12 =Contribution/Sales price 13 0.382222222 14 38.22% 15 16 Break-Even Quantity 17 =Annual Fixed cost/Contribution p.u 18 289.5348837 19 290 units In above calculation management what is breakeven point of that project breakeven point is a point on which from have no profit no loss situation. Management used fixed cost divided by contribution margin. Contribution margin represent the amount of profit after deducting variable cost.

Computation of cash flow: 1 2 3 4 5 Year Sale (units) *Sale Price p.u Total Sales (a) Variable cost pu -Total Variable cost (b) c) - Direct Fixed Costs (20750* 159 2250 357750 1390 221010 249000 290 2250 652500 1390 403100 249000 319 2250 717750 1417.8 452278.2 249000 367 2250 825750 1446.156 530739.252 249000 440 2250 990000 1475.07912 649034.8128 249000 91965.1872 Total Cash Flows (a-b-c) - 112260 400 16471.8 46010.748 Tax information is not given so amount of deprecaion deduction will have no impart

In about calculation of flow of all variable and fixed costs deducted from the revenue to get. net cash inflow from the project. А B N 30 31 32 Year 33 34 35 36 37 38 39 Rate 40 NPV formula 41 NPV Computation of NPV Amount o 150000 1 -112260 400 16471.8 46010.748) 5 91965.1872 8% =NPV(B39,B34:B38)-B33 -144116.43 3 4 NPV is considered as NET gain from net cash inflow in present and considered the project is beneficial or not if project have any positive value then it should be considered as favorable otherwise it is adverse for business.

Management calculate NPV to evaluate project A B 30 31 32 Year 33 34 Computation of IRR Amount 이 -150000 1 -112260 2. 4001 3 16471.8 46010.748) 5 91965.1872 =irr(B33:B38) -12% 35 36 37 38 39 IRRformula 40 IRR 41 4 z IRR is a situation on which NPV zero. Management computed IRR to find return from the project

AB 6 Sales price per unit 7 -Labor cost per unit 8 -Material cost per unit 9 Contribution per unit $2250-$595 -$795 $860 10 11 Contribution Margin 12 =Contribution/Sales price 13 0.382222222 14 38.22% 15 16 Break-Even Quantity 17 =Annual Fixed cost/Contribution per unit 18 289.5348837 19 290 units Year2. Sale (units) 159 290 319 367 440 *Sale Price per unit 2250, 2250, 2250, 2250, 2250 Total Sales (a) 357750 652500 717750 825750 990000 Variable cost per unit 1390, 1390 1417.8 1446.156 1475.07912 - Total Variable cost (b) 221010 403100 452278.2 530739.252 649034.8128 c)-Direct Fixed Costs (20750* 249000, 249000, 249000, 249000, 249000 Total Cash Flows (a-b-c) -112260 16471.8 46010.748 400 91965.1872 Tax information is not given so amount of depreciation deduction will have no impact AB 30 31 Computation of NPV 32 Year Amount 150000 33 34 -112260 35 2 400 36 3 16471.8 46010.748 37 4 38 91965.1872 8% 39 Rate 40 NPV formula =NPV (B39 B34:B38)-B33 - 144116.43 41 NPV A B 30 31 Computation of IRR 32 Year Amount 33 -150000 34 -112260 35 2 400 36 16471.83 374 46010.748 38 5 91965.1872 39 IRR formula =IRRB33:B38) 40 IRR -12% 41

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