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Doing a APV question from Becker:
The question states Direct costs are 60% of revenues and indirect, activity based costs are $140 million for the first year of operations, growing at 5%per year over the life of the project.
The model answer does not include any reference to the activity based costs in the NPV cash flow?? Am I missing some understanding of the basics?? Why would it not be included?? Why would it be a non-relevant cost??
I do not have the Becker Kit, but I do know the question because it is from a past exam.
The reason is that activity based costs are shared fixed overheads. Since there is no mention of total fixed overheads changing as a result of the new project, they are irrelevant. Fixed overheads are only ever relevant if the total changes as a result of undertaking the project.
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