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23 April, 06:40

Consider a four-year project with the following information: initial fixed asset investment = $550,000; straight-line depreciation to zero over the four-year life; zero salvage value; price = $36; variable costs = $24; fixed costs = $225,000; quantity sold = 76,000 units; tax rate = 23 percent. How sensitive is OCF to changes in quantity sold?

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  1. 23 April, 07:08
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    The OCF will increase $9.24 for every additional unit sold

    Explanation:

    OCF = ((price - Variable cost) * (Quantity - Fixed cost)) (1 - tax rate) + Tax rate*Depreciation

    OCF at 76000 units level = ((36 - 24) (76000 - 225000)) (1 - 0.23) + 0.23*550000/4

    = (912000 - 225000) * 0.77 + 0.23 * 137500

    = 528990 + 31625

    = $560615

    OCF at 75000 units level = ((36 - 24) (75000 - 225000) (1 - 0.23) + 0.23*550000/4

    = 519750 + 31625

    = $551375

    The sensitivity of changes in OCF to quantity sold

    = $560615 - $551375 / (76000 - 75000)

    = + 9.24

    Therefore, The OCF will increase $9.24 for every additional unit sold.
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