Project Analysis and Evaluation

Compute net accounting profit based on the following information: Revenues = $4,000; Variable costs = $1,600; Fixed costs = $700; Depreciation = $300; Tax rate = 21%

$1,106

Contribution margin refers to the contribution made toward paying __________________ by each additional unit sold .

Fixed costs

A firm with higher operating leverage will have ___________ fixed costs relative to a firm with low operating leverage.

High

A potential problem with DCF analysis is that a project may appear to have a positive NPV because the estimated cash flows are ____________________-

Inaccurate

What is the relationship between variable costs and output?

Total variable costs are directly related to the level of output

True or false: Depreciation expense on a specific asset could be a fixed dollar amount or a variable dollar amount.

True

In a competitive market, positive NPV projects are:

Uncommon

Which of the following is a legitimate reason for a project to have a positive NPV for Palmer Corporation?

1. Palmer has a better distribution channel than its competition. 2. Palmer can produce the product more cheaply than its competition. 3. Palmer has a better product than its competition.

Which of the following represents the accounting profit break-even point?

(FC+D)/Contribution margin

The possibility that errors in projected cash flows will lead to incorrect decisions is known as:

Estimation risk (forecasting risk)

Which of the following is a fixed cost for a tire manufacturing business

1. Building rent of $10 per month. 2. Manager's salary of $98k per year.

What is the accounting break-even point for a firm that reports the following information: Sales per unit = $40,000 Variable cost per unit= $25,000 Fixed costs (excluding D)= $960,000 Depreciation=$25,000

40000-25000= 15,000 VC 960,000+25,000= 985,000 985,000/15,000= 65.67 units

What is a sunk cost?

A cost incurred in the past that is irrelevant to the capital investment decision process.

From a managerial perspective, highly uncertain projects can be dealt with by keeping the degree of operating leverage:

As low as possible

What will the taxes be for a firm that reports an accounting profit break-even point of 3,000 units with values at that point of: Fixed costs=$50,000; Depreciation=$10,000; Sales price per unit = $50; and Variable cost per unit = $30? Assume a tax rate of 21%.

At the accounting break-even point, the pretax profit is $0, so the taxes will be $0.

A positive NPV exists when the market value of a project exceeds its cost. Unfortunately, most of the time the market value of a project:

Cannot be observed

Evans Corporation estimated that the cash flows last year from a particular project would be $40,000, but the actual cash flow turned out to be $37,500. Evans Corporation should:

Not expect cash flow estimates to be exactly right every time

Mac Company requires a 15% return on its investments. It is considering launching a new ergonomic chair that will sell for $500 and cost $200 per unit to make. Fixed costs will be $1 million per year, and the initial investment for the new product will be $4 million. The company expects the project to last for 10 years, after which there will be innovations that will cause the product to be obsolete. Calculate the financial break-even point for the new product. The ten-year annuity factor at 15% is 5.0188.

OCF necessary to recover initial investment is: 4000000/5.0188= $797003.37 Q=(FC+OCF)/(P-v) Q= (1000000+797003.37)/(500-200) Q=5,990.01, which rounds to $5,990.

Which of the following statements is true in the context of comparing accounting project and present value break-even point?

Present value is superior to accounting profit because it adjusts for time value and considers the depreciation tax shield effect.

Dang Corporation has fixed costs of $2,000,000, operating cash flow of $18,000,000, and depreciation expense of $500,000. Its product sells for $20, and variable costs are $8. What is the cash break-even for Dang?

Q = FC/(P-v) = 2000000/(20-8) =2000000/12 =166,666.67 Units

A fixed cost is a cost that _______________

Remains constant as the level of business activity changes.

The Omega Division of Alpha Corporation has been allocated $4 million for capital spending but has identified $4.6 million in positive NPV projects. Omega's manager thinks he can convince the company to fund the additional $0.6 million because Omega uses ____________ rationing to control overall spending.

Soft

When a project breaks even on an accounting basis, the cash flow for that period will equal:

The depreciation allowance for that period

The financial break-even point differs from the accounting break-even point for the following reasons:

The financial break-even point adjusts for the time value of money

Corporate managers care about the break even point because it indicates:

The level to which sales can fall before a project will start losing money

Which of the following is an opportunity cost in the context of a vacant building that a firm currently owns??

The potential rental income lost by using the empty building for a project.

A firm will start generating profits when _______________

The total number of units sold exceesd the accounting breakeven point.

When McDonald's decides to build a new restaurant at a particular location, which of the following competitors might also be tempted to locate new facilities in the same area?

Wendy's and Burger King

An accounting break-even point of 2,000 means the firm ____________________.

Will start generating profits if it sells more than 2,000 units.

Financial break-even is the sales level that results in:

an NPV of zero

Which of the following are examples of fixed costs for a car repair shop performing oil changes and other repairs?

1. Monthly rent for the shop 2. Salary for the shop manager 3. Insurance for the shop

Rank each of the following in order from most important to least important as they pertain to project analysis:

1. Cash flow 2. Accounting income

Which of the following statements are true regarding fixed and variable costs?

1. Fixed costs per unit will decrease while variable costs per unit will stay constant if the level of output increases. 2. Total fixed costs remain constant while total variable costs increase if the level of output increases.

Which of the following are examples of variable costs for a car manufacturer?

1. Freight costs 2. The cost of steel 3. Labor cost

Which of the following are true about depreciation expense?

1. It affects the accounting profit break even point. 2. It is a non-cash expense. 3. It affects cash flows.

Which of the following are true about variable costs?

1. The variable cost per unit may remain constant as the number of units produced increases. 2. Total variable costs increase as the total number of units produced increases.

What is the contribution margin if the sales price per unit is $15,000, variable cost per unit is $10,000 and fixed costs are $2,000? Ignore taxes.

15,000-10,000= $5,000

True or false: When a business does hard rationing , the firm's DCF analysis breaks down.

True

You are in the business of manufacturing watches. The parts for each of these watches costs an average of $25. Your period costs for the month are $3,000. What will be the monthly total variable costs if you manufacture 100 watches?

VC = Total quantity of output * Cost per unit of output VC = 25 *100 VC = 2500

Which of the following are reasons why NPV is considered a superior capital budgeting technique?

1. NPV considers the time value of money. 2. NPV considers all the cash flows.

If Kellogg's introduces a new brand of cereal, it will most likely lead to ________________ in its sales of existing cereals.

Erosion, i.e., a decrease

For all practical purposes, it is easier to:

Increase operating leverage than to decreaseit

Suppose Price per Unit is $6, variable cost per unit is $2, fixed costs are $400 and the depreciation allowance per year is $500. The relationship between operating cash flow (OCF) and sales volume (Q) can be expressed as:

OCF= (P-v) * Q - FC OCF= 4*Q-400

If fixed costs are $3,500 and the operating cash flow is $4,500, then the degree of operating leverage (DOL) is:

DOL= 1+ FC/OCF = 1+(3500/4500) =1.78