Question

you will bid to supply three jets per year for each of the next three years to the canadian armed forces. to get set up, you will need $10 million in equipment, which belongs in a 30% cca class and will have no salvage value. total fixed costs per year are $5 million, and variable costs are $7 million per jet. assuming a tax rate of 30% and a required return of 10%, what is the minimum price at which you should offer to supply the jets?

Answer 1

Main Answer:

The minimum price at which you should offer to supply the jets is $35.56 million per jet.

Explanation:

To calculate the minimum price, we need to consider the total cost per jet. The fixed costs amount to $5 million, and the variable costs are $7 million per jet. Additionally, there's a $10 million initial investment in equipment, which falls under a 30% Capital Cost Allowance (CCA) class with no salvage value. The tax rate is 30%, and the required return is 10%.

To determine the minimum price, we calculate the annual cash flow and then use the net present value (NPV) formula, factoring in the tax shield on CCA. The NPV is set equal to zero, and the price per jet is adjusted until this condition is met. The derived minimum price is $35.56 million per jet.

In essence, this price covers the total costs, provides the required return to investors, and accounts for the tax implications of the capital investment. It ensures that the bid is financially sound and aligns with the company's profitability goals.