Exam 18: Capital Investment Decisions

The payback period provides some assessment of risk, with a longer payback period indicating a lower risk for the project.

Which of the following does not affect a capital investment decision?

An entity is contemplating investing in a long-term project. A comparison of two mutually exclusive projects reveals that Project A involves an initial outlay of $6000 with cash inflows of $2600 for years 1-5, whereas Project B requires a cash outlay of $4500 with cash inflows of $1300 for years 1-5. Based on this information, the IRR for Project A is higher than the IRR for Project

Which of the following formulas would you use to correctly calculate the future amount of an investment of $600 that was earning interest at 8% annually for three years?

Second Time Cinema, Inc., is a small company which produces movies for artists who have some prior experience in the film industry. Because of the high risk associated with these projects, the company will not accept projects that have an average Accounting Rate of Return of less than 25%. The company is considering three projects and requests your assistance in evaluating their potential given their projected cash flows. All of the initial investments are assets which have an estimated life of five years and will be depreciated on a straight-line basis.

Earning interest in one period on interest earned in an earlier period is known as:

Net present value (NPV) is an important concept used to analyse capital investment projects. NPV can best be described as:

Which of the methods of evaluating capital investment projects does not consider all of the future cash flows related to a project?

Companies evaluating capital investment projects frequently use net present value analysis to make decisions about which projects are likely to be the most profitable. Cash flows are projected for future periods and then discounted to the present. A common rate to use when discounting these cash flows is the:

The difference between future value and present value is:

The Sparks Sailboat Company has just acquired new manufacturing equipment. No down payment was made, but four year-end payments of $2400 will be required to pay for the machine. If 8% is the appropriate rate, at what amount should Sparks Sailboat Company record the new equipment on its books? (PV annuity at 8% for four years is 3.312, five years is 3.993)

The accounting rate of return does not consider:

The payback period is:

Which of the following combinations of interest rate and number of periods is needed for calculation of the present value of an investment that involves an annual interest rate of 12% for three years with monthly compounding? Number of periods Interest rate

Where two projects have the same investment outlays and project lives but different net cash inflows, the IRR and NPV may give different rankings.

The internal rate of return is the rate of return that discounts the cash flows of a project so that the present value of cash inflows equals the present value of expected profits.

A business is for sale at $100 000. Discounting the expected cash inflows and expected cash outflows (except the purchase price) at 12% yields an amount of $94 741. Based on this information:

Guerdon Ltd is reviewing a project that has an initial outlay of $3m. The project will generate a cash inflow of $2m per annum. The project is expected to have a useful life of six years and a zero salvage value. This company uses straight-line depreciation. What is the average annual accounting rate of return on the initial total investment?

The Bee Family Fun Centre is for sale at an asking price of $400 000. The audited financial statements show that the business generates approximately $43 000 per year in net cash flow. You believe you could operate the business for three years and sell it for $500 000. What is the maximum amount you would be willing to pay for the business if you wished to earn at least a 10% return on your investment?

Guerdon Ltd is reviewing a project that has an initial outlay of $3m. The project will generate a cash inflow of $2m per annum. The project is expected to have a useful life of six years and a zero salvage value. This company uses straight-line depreciation. What is the payback period?