Exam 20: Capital Budgeting: Methods of Investment Analysis

Use the information below to answer the following question(s).Albernie Ltd.purchased a CCA Class 8 (CCA rate of 20%)item of equipment for $90,000.The equipment was the only item in the Class 8 capital cost allowance pool.The equipment is expected to generate savings in the amount of $40,000 per year.The company uses straight-line depreciation, estimates a 3 year useful life with $20,000 salvage value for the new equipment.The tax rate is 35%, and Albernie has a required rate of return of 9.0%. -What is present value of the tax shield that Albernie Ltd.can expect from the equipment?

Financing opportunities are always investigated prior to the formal analyses of the costs and benefits of various investments.

An advantage of the internal rate of return method is that it can be used when the required rate of return varies over the life of the project.

Book & Bible Bookstore desires to buy a new coding machine to help control book inventories.The machine sells for $36,586 and requires working capital of $4,000.Its estimated useful life is five years and will have a salvage value of $4,000.Recovery of working capital will be $4,000 at the end of its useful life.Annual cash savings from the purchase of the machine will be $10,000.Ignore income taxes.Required: a.Compute the net present value at a 14 percent required rate of return. b.Compute the internal rate of return. c.Determine the payback period of the investment.

Next Service Centre is considering purchasing a new computer network for $82,000.It will require additional working capital of $13,000.Its anticipated eight-year life will generate additional client revenue of $33,000 annually with operating costs, excluding depreciation, of $15,000.At the end of eight years, it will have a salvage value of $9,500 and return $5,000 in working capital.Taxes are not considered.Required: a.If the company has a required rate of return of 14%, what is the net present value of the proposed investment? b.What is the internal rate of return?

When the present value of expected cash inflows from a project equals the present value of expected cash outflows of a project, the discount rate is the

A project has a net initial investment of $500,000 and the cash flows cover five years.The project involves replacing an old machine with a new machine at the same time.Which of the following is TRUE based on the above assumptions, in NPV analysis?

Many new capital projects are investments in new technologies.Both benefits and costs of these new technologies are hard to estimate.Required: Discuss some of the difficulties in quantifying the expected benefits and costs of new technologies.

EIF Manufacturing company needs to overhaul its drill press or buy a new one.The facts have been gathered, and are as follows: Required: Based on present value analysis, which alternative is the most desirable with a current required rate of return of 20 percent? Show cash flows, ignore tax effect.

Which of the following are not considered in capital-budgeting?

Use the information below to answer the following question(s).Hawkeye Cleaners has been considering the purchase of an industrial dry-cleaning machine.The existing machine is operable for three more years and will have a zero disposal price.If the machine is disposed of now, it may be sold for $30,000.The new machine will cost $200,000, an additional cash investment in working capital of $60,000 will be required and will be returned at the end of the project.The machine is expected to last 3 years and has an estimated disposal value at that time of $20,000.The new machine will reduce the average amount of time required to wash clothing and will decrease labour costs.The investment is expected to net $50,000 in additional cash inflows during the year of acquisition and $150,000 each additional year of use.These cash flows will generally occur throughout the year and are recognized at the end of each year.Income taxes are not considered in this problem. -Project ABC is under consideration.Annual cash flows equal $50,000 per year for 5 years.During the first three years the required rate of return is 2 percent.The required rate of return for cash flows in the final two years is 10 percent.What is the present value of cash inflows?

In determining whether to keep a machine or replace it, the original cost of the machine is always a relevant factor.

Capital Cost Allowance (CCA)is a cash flow.

Initial machine investment costs include cash outflows for installation and transportation.

Cost systems with an exclusive period-by-period focus are more likely to identify project costs over multiple periods.

The income tax depreciation method referred to as CCA

CCA reduces taxable income, and therefore reduces tax payments and increases the firm's cash flow.

The Zero Machine Company is evaluating a capital expenditure proposal that requires an initial investment of $20,960 and has predicted cash inflows of $5,000 per year for 10 years.It will have no salvage value.Required: a.Using a required rate of return of 16%, determine the net present value of the investment proposal. b.Determine the proposals internal rate of return.

ABC Boat Company is interested in replacing a moulding machine with a new improved model.The old machine has a salvage value of $20,000 now and a predicted salvage value of $4,000 in six years, if rebuilt.If the old machine is kept, it must be rebuilt in one year at a predicted cost of $40,000.The new machine costs $160,000 and has a predicted salvage value of $28,000 at the end of six years.The new machine will generate cash savings of $40,000 for each of the first three years and $20,000 for each year of its remaining six-year life.Ignore income taxes.Required: What is the net present value of replacing the old machine if the company has a required rate of return of 14 percent?

The internal rate of return method may result in erroneous decisions when used to compare mutually exclusive projects with unequal lives or unequal levels of initial investment.