Assume a project has a discounted payback that equals the project’s life. The project’s sales quantity must be at which one of these break-even points? Select one:
a. Accounting
b. Leveraged
c. Marginal
d. Cash
e. Financial
The correct answer and explanation is:
The correct answer is d. Cash.
Explanation:
The discounted payback period refers to the time it takes for a project’s discounted cash inflows to recover its initial investment. When this period equals the project’s life, it indicates that the project breaks even in terms of cash flow over the life of the project. In other words, the project’s discounted cash inflows exactly match the initial investment and operating costs by the end of its life, without generating any additional surplus or deficit.
At the point where the discounted payback period equals the project’s life, the project has fully recovered its investment using the actual cash flows generated over its lifespan. This break-even point reflects the cash-based financial viability of the project, as it does not consider accounting profits or non-cash items like depreciation. Therefore, the appropriate term for this break-even point is the cash break-even point, as it is focused on real cash inflows and outflows.
Other break-even points, such as accounting, typically focus on profit rather than cash flow. Leveraged break-even involves scenarios where debt is used to finance the project, considering both the equity and debt components of the investment. Marginal break-even refers to the level of output or sales where the project’s revenue covers the variable costs but does not account for fixed costs. Financial break-even is related to the level of sales where the project generates enough profit to cover the required return on investment, factoring in both equity and debt financing.
Thus, the cash break-even point is the most accurate term to describe the scenario where the discounted payback period matches the life of the project.