# HWM208-1 - Solutions to HW 2#5-8 1-4 are same as for HW2a 5...

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Solutions to HW 2 #5-8 ( 1-4 are same as for HW2a) 5. L.J.'s Toys Inc. just purchased a \$200,000 machine to produce toy cars. The machine will be fully depreciated by the straight-line method over its five-year economic life. Each toy sells for \$25. The variable cost per toy is \$5, and the firm incurs fixed costs of \$350,000 each year. The corporate tax rate for the company is 25 percent. The appropriate discount rate is 12 percent. What is the financial break-even point for the project? When calculating the financial breakeven point, we express the initial investment as an equivalent annual cost (EAC). Dividing the initial investment by the seven-year annuity factor, discounted at 12 percent, the EAC of the initial investment is: EAC = Initial Investment / PVIFA 12%,5 EAC = \$200,000 / 3.60478 EAC = \$55,481.95 Note that this calculation solves for the annuity payment with the initial investment as the present value of the annuity. In other words: PVA = C ({1 – [1/(1 + R )] t } / R ) \$200,000 = C {[1 – (1/1.12) 5 ] / .12} C = \$55,481.95 The annual depreciation is the cost of the equipment divided by the economic life, or: Annual depreciation = \$200,000 / 5 Annual depreciation = \$40,000 Now we can calculate the financial breakeven point. The financial breakeven point for this project is: Q F = [EAC + FC(1 – t C ) – Depreciation(t C )] / [(P – VC)(1 – t C )] Q F = [\$55,481.95 + \$350,000(.75) – \$40,000(0.25)] / [(\$25 – 5) (.25)] Q F = 20,532.13 or about 20,532 units 6. Ang Electronics, Inc., has developed a new DVDR. If the DVDR is successful, the present value of the payoff (at the time the product is brought to market) is \$20 million. If the DVDR fails, the present value of the payoff is \$5 million. If the product goes directly to market, there is a 50 percent chance of success. Alternatively, Ang can delay the launch by one year and spend \$2 million to test market

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HWM208-1 - Solutions to HW 2#5-8 1-4 are same as for HW2a 5...

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