When considering taxes, the relationship between operating cash flow, OCF, and sales volume, Q, can be written as:=+1 If we consider the effect of taxes the degree of operating leverage can be written as: =1+[(1)(]/

Consider a project to supply Sports Car Co. with 30,000 tons of screws annually for vehicle production. You will need an initial $4.3 million investment in equipment to get the project started; the project will last for five years. Annual fixed costs are estimated to be $1.025 million and variable costs should be $190 per ton; the accounting department will depreciate the initial fixed asset investment straight-line to zero over the five-year project life. They also estimate a salvage value of $400,000 after dismantling costs. The marketing department estimates that the automakers will let the contract at a selling price of $290 per ton. The engineering department estimates you will need an initial net working capital investment of $410,000. You require a return of 13 percent and face a tax rate of 22 percent on this project.

a. What is the estimated OCF for this project (Tax shield approach)? What is the NPV (Dont forget at the beginning you have outflow for initial investment and WC and at the end you get the WC back and the salvage value)? Should this project be pursued?

b. Suppose you believe that the initial cost and salvage value projections are accurate only to within 15 percent; the marketing departments price estimate is accurate only to within 10 percent; and the engineering departments net working capital estimate is accurate only to within 5 percent. What is your worst-case scenario for this project? What is your best-case scenario? Should this project still be pursued? Note that the sales volume and variable and fixed costs do not change. Worst case, price and salvage value are lower, initial investment, and working capital are higher). You must redo Op CF and NPV for both best and worst.