Exam 21: Capital Budgeting and Cost Analysis

Sam's Structures desires to buy a new crane and accessories to help move and install modular buildings. The machine sells for $75,000 and requires working capital of $10,000. Its estimated useful life is six years and it will have a salvage value of $17,560. Recovery of working capital will be $10,000 at the end of its useful life. Annual cash savings from the purchase of the machine will be $20,000. Required: a. Compute the net present value at a 12% required rate of return. b. Compute the internal rate of return. c. Determine the payback period of the investment.

An important advantage of the net present value method of capital budgeting over the internal rate-of-return method is:

Answer the following questions using the information below: Jonesville Hospital has been considering the purchase of a new x-ray machine. The existing machine is operable for five more years and will have a zero disposal price. If the machine is disposed now, it may be sold for $90,000. The new machine will cost $650,000 and an additional cash investment in working capital of $20,000 will be required. The new machine will reduce the average amount of time required to take the x-rays and will allow an additional amount of business to be done at the hospital. The investment is expected to net $60,000 in additional cash inflows during the year of acquisition and $230,000 each additional year of use. The new machine has a five-year life, and zero disposal value. 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. The working capital investment will not be recovered at the end of the asset's life. -What is the net present value of the investment, assuming the required rate of return is 20%? Would the hospital want to purchase the new machine?

A weaknesses of the payback method is that it does not consider a project's cash flows after the payback period.

The focus in capital budgeting should be on:

In situations where the required rate of return is NOT constant for each year of the project, it is advantageous to use:

In the net present value (NPV)method, pre-tax cash flows should be used instead of after-tax cash flows when taxes are a consideration.

Which of the following results of the net present value method in capital budgeting is the LEAST acceptable?

There is an INCONSISTENCY between using the net present value method as best for capital budgeting decisions and then using a different method to evaluate performance.

Internal rate of return is a method of calculating the expected net monetary gain or loss from a project by discounting all expected future cash inflows and outflows to the present point in time.

The Zero Machine Company is evaluating a capital expenditure proposal that requires an initial investment of $41,920 and has predicted cash inflows of $10,000 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 proposal's internal rate of return.

The accrual accounting rate-of-return method has a significant weakness for use in making capital budgeting decisions because it does NOT track cash flows and it ignores the time value of money.

The identify projects stage of capital budgeting gathers information from all parts of the value chain to evaluate alternative projects.

Central Trailer Supply has received three proposals for its new trailer assembly line. Information on each proposal is as follows: Required: Determine each proposal's payback.

Upper Darby Park Department is considering a new capital investment. The following information is available on the investment. The cost of the machine will be $300,000. The annual cost savings if the new machine is acquired will be $80,000. The machine will have a 5-year life, at which time the terminal disposal value is expected to be $40,000. Upper Darby Park Department is assuming no tax consequences. If Upper Darby Park Department has a required rate of return of 10%, which of the following is closest to the present value of the project?

The accounting system that corresponds to the project dimension in capital budgeting is the:

Which of the following involves significant financial investments in projects to develop new products, expand production capacity, or remodel current production facilities?

The net present value method focuses on:

Discounted cash flow methods focus on operating income.

Retail Outlet is looking for a new location near a shopping mall. It is considering purchasing a building rather than leasing, as it has done in the past. Three retail buildings near a new mall are available but each has its own advantages and disadvantages. The owner of the company has completed an analysis of each location that includes considerations for the time value of money. The information is as follows: The owner does not understand how the location with the highest percentage return has the lowest net present value. Required: Explain to the owner what is (are)the probable cause(s)of the comparable differences.