You
are considering a new product launch. The project will cost $2,200,000,
have a fouryear life, and have no salvage value; depreciation is
straightline to zero. Sales are projected at 150 units per year; price
per unit will be $29,000, variable cost per unit will be $17,500, and
fixed costs will be $590,000 per year. The required return on the
project is 12 percent, and the relevant tax rate is 34 percent.
a. 
Based
on your experience, you think the unit sales, variable cost, and fixed
cost projections given here are probably accurate to within ±10 percent.
What are the upper and lower bounds for these projections? What is the
basecase NPV? What are the bestcase and worstcase scenarios? (Negative amount should be indicated by a minus sign. Round your NPV answers to 2 decimal places. (e.g., 32.16))

Scenario  Unit Sales  Variable Cost  Fixed Costs  NPV 
Base  $  $  $  
Best  
Worst  
b. 
Evaluate the sensitivity of your basecase NPV to changes in fixed costs. (Negative amount should be indicated by a minus sign. Round your answer to 3 decimal places. (e.g., 32.161))

ΔNPV/ΔFC  $ 
c. 
What is the cash breakeven level of output for this project (ignoring taxes)? (Round your answer to 2 decimal places. (e.g., 32.16))

Cash breakeven 
d1 
What is the accounting breakeven level of output for this project? (Round your answer to 2 decimal places. (e.g., 32.16))

Accounting breakeven 
d2 
What is the degree of operating leverage at the accounting breakeven point? (Round your answer to 3 decimal places. (e.g., 32.161))

Degree of operating leverage 
Explanation:
a.
b.
c.
d.
The
basecase, bestcase, and worstcase values are shown below. Remember
that in the bestcase, sales and price increase, while costs decrease.
In the worstcase, sales and price decrease, and costs increase.

Using the tax shield approach, the OCF and NPV for the base case estimate is: 
OCF_{base} = [($29,000 – 17,500)(150) – $590,000](0.66) + 0.34($2,200,000/4) 
OCF_{base} = $936,100 
NPV_{base} = –$2,200,000 + $936,100(PVIFA_{12%,4}) 
NPV_{base} = $643,262.72 
The OCF and NPV for the worst case estimate are: 
OCF_{worst} = [($29,000 – 19,250)(135) – $649,000](0.66) + 0.34($2,200,000/4) 
OCF_{worst} = $627,385 
NPV_{worst} = –$2,200,000 + $627,385(PVIFA_{12%,4}) 
NPV_{worst} = –$294,412.58 
And the OCF and NPV for the best case estimate are: 
OCF_{best} = [($29,000 – 15,750)(165) – $531,000](0.66) + 0.34($2,200,000/4) 
OCF_{best} = $1,279,465 
NPV_{best} = –$2,200,000 + $1,279,465(PVIFA_{12%,4}) 
NPV_{best} = $1,686,182.18 
b.
To
calculate the sensitivity of the NPV to changes in fixed costs we
choose another level of fixed costs. We will use fixed costs of
$600,000. The OCF using this level of fixed costs and the other base
case values with the tax shield approach, we get:

OCF = [($29,000 – 17,500)(150) – $600,000](0.66) + 0.34($2,200,000/4) 
OCF = $929,500 
And the NPV is: 
NPV = –$2,200,000 + $929,500(PVIFA_{12%,4}) 
NPV = $623,216.22 
The sensitivity of NPV to changes in fixed costs is: 
ΔNPV/ΔFC = ($643,262.72 – 623,216.22)/($590,000 – 600,000) 
ΔNPV/ΔFC = –$2.005 
For every dollar FC increases, NPV falls by $2.005. 
c.
The cash breakeven is: 
Q_{C} = FC/(P – v) 
Q_{C} = $590,000/($29,000 – 17,500) 
Q_{C} = 51.30 
d.
The accounting breakeven is: 
Q_{A}= (FC + D)/(P – v) 
Q_{A} = [$590,000 + ($2,200,000/4)]/($29,000 – 17,500) 
Q_{A} = 99.13 
At the accounting breakeven, the DOL is: 
DOL = 1 + FC/OCF 
DOL = 1 + ($590,000/$550,000) = 2.073 
For each 1% increase in unit sales, OCF will increase by 2.073%. 