Exam 14: Capital Investment Decisions

Charlotte Company Charlotte Company invests in a new piece of equipment costing $80,000. The equipment is expected to yield the following amounts per year for the equipment's four-year useful life: Cash rev enues \ 120,000 Cash expenses (64,000) Depreciation expenses (straight-line) (20,000) Income prov ided from equipment \ 36,000 Cost of capital 14\% -Refer to Charlotte Company. What is the net present value of this investment in equipment?

Projects that affect the cash flows of other projects are called independent projects.

Capital investment decisions are concerned with the process of planning, setting goals and priorities, arranging financing, and using certain criteria to select long-term assets.

Martin Brother Martin Brother is considering investing $20,000 in a project with the following cash revenues and expenses: Cash Expenses \& Revenues Depreciation Year 1 \ 8,000 \ 8,000 Year 2 \ 12,000 \ 8,000 Year 3 \ 15,000 \ 9,000 Year 4 \ 20,000 \ 10,000 Year 5 \ 20,000 \ 10,000 Assume straight-line depreciation over five years. -Refer to Martin Brother. What would be the payback period for this investment?

Martin Brother Martin Brother is considering investing $20,000 in a project with the following cash revenues and expenses: Cash Expenses \& Revenues Depreciation Year 1 \ 8,000 \ 8,000 Year 2 \ 12,000 \ 8,000 Year 3 \ 15,000 \ 9,000 Year 4 \ 20,000 \ 10,000 Year 5 \ 20,000 \ 10,000 Assume straight-line depreciation over five years. -Refer to Martin Brother. What is the accounting rate of return for the project?

Which measure results in the time required for a firm to recover its original investment?

A division manager is considering a project that requires a significant initial investment. If accepted, the project could have a negative impact on certain financial ratios that the company is required to maintain to satisfy bond contracts. The manager wants to ensure that the ratios will NOT be adversely affected by the investment. Which capital investment model should the manager use?

Smythe Company Smythe Company is considering the following investment: Investment \ 140,000 Annual revenues \ 96,000 Annual variable costs \ 32,000 Annual fixed out-of-pocket costs \ 20,000 Discount rate 12\% Expected life of project 8 years -Refer to Smythe Company. What is the present value of the future cash flows?

Which of the following best reflects the formula for the accounting rate of return?

Name two nondiscounting capital investment models. What is meant by "nondiscounting"?

Refer to Buckhead Shop What would be the accounting rate of return on the original investment in the press?

Postaudits ensure that resources are used wisely by evaluating profitability.

Present Value Tables Present value of $1 Periads 4\% 6\% 8\% 10\% 12\% 14\% 1 0.962 0.943 0.926 0.909 0.893 0.877 2 0.925 0.890 0.857 0.826 0.797 0.769 3 0.889 0.840 0.794 0.751 0.712 0.675 4 0.855 0.792 0.735 0.683 0.636 0.592 5 0.822 0.747 0.681 0.621 0.567 0.519 6 0.790 0.705 0.630 0.564 0.507 0.456 7 0.760 0.665 0.583 0.513 0.452 0.400 8 0.731 0.627 0.540 0.467 0.404 0.351 9 0.703 0.592 0.500 0.424 0.361 0.308 10 0.676 0.558 0.463 0.386 0.322 0.270 Present value of an annuity of $1 Periads 4\% 6\% 8\% 10\% 12\% 14\% 1 0.962 0.943 0.926 0.909 0.893 0.877 2 1.886 1.833 1.783 1.736 1.690 1.647 3 2.775 2.673 2.577 2.487 2.402 2.322 4 3.630 3.465 3.312 3.170 3.037 2.914 5 4.452 4.212 3.993 3.791 3.605 3.433 6 5.242 4.917 4.623 4.355 4.111 3.889 7 6.002 5.582 5.206 4.868 4.564 4.288 8 6.733 6.210 5.747 5.335 4.968 4.639 9 7.435 6.802 6.247 5.759 5.328 4.946 10 8.111 7.360 6.710 6.145 5.650 5.216 -Refer to Present Value Tables. Basil Company is considering two investments. Each will cost $20,000 initially. Project 1 will return annual cash flows of $10,000 in each of three years. Project 2 will return $5,000 in year 1, $10,000 in year 2, and $15,000 in year 3. The company requires a minimum rate of return of 10%. What is the net present value of Project 1?

A postaudit evaluates the overall outcome of the investment and proposes corrective action if needed.

Less objective results are obtainable if an independent party performs the postaudit of a capital investment.

Refer to Present Value Tables. Waterfall Country Club Company is considering two projects. Golf Course Upgrade Clubhouse Upgrade Initial investment \ 500,000 \ 100,000 Annual cash flows \ 88,500 \ 34,320 Life of the project 10 years 4 years Depreciation per year \ 50,000 \ 25,000 The company requires a minimum rate of return of 8%. Required: A. Calculate the accounting rate of return for each project. B. Calculate the net present value for each project. C. Calculate the internal rate of return for each project. D. Which project should be chosen? Explain your reasoning.

Which statement best reflects the difference between NPV and IRR?

Net present value analysis and internal rate of return analysis can sometimes produce erroneous choices because they ignore the time value of money.

The payback period considers the profitability of a project over its entire life span.

Which of the following compares the actual benefits from an investment with the estimated benefits, and the actual operating costs of the investment with estimated operating costs?