Problem 11-25 Break-Even and Taxes [LO3] Wettway Sailboat Corporation is conside

Question

Problem 11-25 Break-Even and Taxes [LO3] Wettway Sailboat Corporation is considering whether to launch its new Margo-class sailboat. The selling price will be S52,000 per boat. The variable costs will be about half that, or $26,000 per boat, and fixed costs will be $1,000,000 per year. The Base Case: The total investment needed to undertake the project is $3,700,000. This amount will be depreciated straight-line to zero over the five-year life of the equipment. The salvage value is zero, and there are no working capital consequences. Wettway has a 15 percent required return on new projects. FC+ Use the above expression to find cash, accounting and financial break-even points for Wettway Sailboat Assume a tax rate of 38 percent. (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.) Cash break-even Accounting break-even Financial break-even

Explanation / Answer

Cash Break-even = Fixed Cost / (Price - Variable Cost) = 1,000,000 / (52,000 - 26,000) = 38.46 units

Accounting Break-even = (Fixed Cost + Depreciation) / (Price - VC) = (1,000,000 + 3,700,000 / 5) / (52,000 - 26,000) = 66.92 units

Financial break-even is the no. of units at which the NPV of the project is equal to zero. For 89.49 units, NPV of the project is almost zero.

Sailboat 0 1 2 3 4 5 Investment -3,700,000 Sales 4,653,480 4,653,480 4,653,480 4,653,480 4,653,480 VC -2,326,740 -2,326,740 -2,326,740 -2,326,740 -2,326,740 FC -1,000,000 -1,000,000 -1,000,000 -1,000,000 -1,000,000 Depreciation -740,000 -740,000 -740,000 -740,000 -740,000 EBT 586,740 586,740 586,740 586,740 586,740 Tax (38%) -222,961 -222,961 -222,961 -222,961 -222,961 Net Income 363,779 363,779 363,779 363,779 363,779 Cash Flows -3,700,000 1,103,779 1,103,779 1,103,779 1,103,779 1,103,779 NPV $37.73

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