December 2011

The reason your answer is different is that if the sales revenue changes then so does the tax. The tax effect from the costs will not change (because the costs themselves do not change) but the tax effect on the revenue will change - it will be 30% with a one year time lag. The 'bottom' of the equation for the sensitivity is always the PV of all the flows that will changes. With regard to the sensitivity of the discount rates, we know that the current cost of capital is 11%, we also know that the rate at which the NPV will be zero (i.e. the IRR) is 16% (from part b of the question. Therefore it can change by up to 5 percentage points. So the % change in the current cost of capital is 5/11 = 45% I do suggest that you watch our free lectures on this. Our lectures are a complete course for Paper F9 and cover everything you need to be able to pass the exam well.