Managerial Finance

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Question 1

Gamut Satellite Inc. produces satellite earth stations that sell for $150,000 each. The firm’s fixed costs, F, are $1.5 million, 20 earth stations are produced and sold each year, profits total $400,000, and the firm’s assets (all equity financed) are $5 million. The firm estimates that it can change its production process, adding $10 million to assets and $500,000 to fixed operating costs. This change will reduce variable costs per unit by $5,000 and increase output by 30 units. However, the sales price on all units must be lowered to $140,000 to permit sales of the additional output. The firm has tax loss carryforwards that render its tax rate zero, its cost of equity is 18%, and it uses no debt.

a. Determine the variable cost per unit

b. Determine the new profit if the change is made

c. What is the incremental profit?

d. What is the projects expected rate of return for the next year (defined as the incremental profit divided by the investment)?

e. Should the firm make the investment? Why or why not?

f. Would the firm’s break-even point increase or decrease if it made the change?

g. Would the new situation expose the firm to more or less business risk than the old one? Show workings

 

Sample Solution

measures to strengthen and revitalize the RCD. This clearly reflected an awareness that the organization had not been able to achieve all that it set out to achieve. At the Izmir RCD Summit held in April 1976, the then Pakistani Premier emphasized the importance of removing all obstacles between the intra-regional trade of these two nations to establish a free trade area. The Izmir Treaty was signed in March 1977 by RCD member nations, which paved the way for the foundation of RCD investment and development bank to initiate, promote and finance projects of a regional importance (Ali, 2001).

As a member of RCD Pakistan and Turkey made a good progress like various roads for enlarged Pakistan-Turkish trade were explored, it was originate that Turkish traders were interested in importing from Pakistani items that like surgical instruments, caustic soda, glycerin, castor oil, and products of stainless steel. On the other side Pakistani Importers were keen to buy chemicals and textiles auxiliaries among other goods from Turkey. At the session of the Pakistan-Turkish Joint Commission for Economic and Technical Cooperation which was held in Islamabad (Pakistan) in March 1977, the two governments Pakistan and Turkey obligated to identify a number of areas of cooperation, counting agriculture and food. That interest was shown at the time of launching joint ventures in the fields of commerce, industry and transportation.

Thus both countries once again come nearer to each other on 28 March 1977 when they signed a protocol in Islamabad on provided that for enhancing cooperation in agriculture, industry, trade and technical spheres. At the same time joint Commission favored to enhance the trade size, imagining frequent exchange of trade allocations, and agreed in principle, on joint participation in appropriate international fairs. On the other side in the fields of Agriculture, Turkey agreed to supply technical aid to Pakistan in the production, cultivation and marketing of olives, development of rain-fed agriculture, sunflower cultivation, and the production of quality cotton seeds. At that time Pakistan Turkey friendship was highly appreciated by the peoples of both countries (Ali, 2002).

On 16 January 1978 both countries further come nearer to Closer cooperation in aviation was the theme of a meeting of the representatives of the three national airlines at Tehran. The three cou

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