Now we can calculate the NPV using our base-case projections. There is no salvage
value or NWC, so the NPV is:
NPV
base
= –$896,000 + $429,200(PVIFA
15%,8
)
NPV
base
= $1,029,958.39
To calculate the sensitivity of the NPV to changes in the quantity sold, we will
calculate the NPV at a different quantity. We will use sales of 105,000 units. The NPV
at this sales level is:
OCF
new
= [($40 – 25)(105,000) – $900,000](0.65) + 0.35($112,000)
OCF
new
= $477,950
And the NPV is:
NPV
new
= –$896,000 + $477,950(PVIFA
15%,8
)
NPV
new
= $1,248,715.31
So, the change in NPV for every unit change in sales is:
∆
NPV/
∆
S = ($1,248,715.31– 1,029,958.39)/(105,000 – 100,000)
∆
NPV/
∆
S = +$43.751
If sales were to drop by 500 units, then NPV would drop by:
NPV drop = $43.751(500) = $21,875.69
You may wonder why we chose 105,000 units. Because it doesn’t matter! Whatever
sales number we use, when we calculate the change in NPV per unit sold, the ratio will
be the same.
c.
To find out how sensitive OCF is to a change in variable costs, we will compute the
OCF at a variable cost of $24. Again, the number we choose to use here is irrelevant:
We will get the same ratio of OCF to a one dollar change in variable cost no matter
what variable cost we use. So, using the tax shield approach, the OCF at a variable cost
of $24 is:
OCF
new
= [($40 – 24)(100,000) – 900,000](0.65) + 0.35($112,000)
OCF
new
= $494,200
So, the change in OCF for a $1 change in variable costs is:
∆
OCF/
∆
v = ($429,200 – 494,200)/($25 – 24)
∆
OCF/
∆
v = –$65,000
If variable costs decrease by $1 then, OCF would increase by $65,000
6.
We will use the tax shield approach to calculate the OCF for the best- and worst-case scenarios. For