Exam 10: Planning for Capital Investments

Which method of evaluating capital investment decisions uses the concept of present value to compute a rate of return?

Cash outflows can be categorized into all of the following groups except:

What amount of cash would result at the end of one year, if $15,000 is invested today and the rate of return is 8%?

An annuity is a series of equal payments over equal time intervals that earn a constant rate of return.

Levin Company is considering two new machines that should produce considerable cost savings in its assembly operations. The cost of each machine is $14,000 and neither is expected to have a salvage value at the end of a 4-year useful life. Levin's required rate of return is 12% and the company prefers that a project return its initial outlay within the first half of the project's life. The annual after-tax cash savings for each machine are provided in the following table: Required: 1) Compute the payback period for each machine using the incremental approach and comment on the results.2) Compute the unadjusted rate of return based on average investment for each machine. The machines will be depreciated on a straight-line basis.3) Compute the net present value for each machine.4) Which machine would you recommend? Explain your reasoning.5) Use the present value table to compute the approximate internal rate of return for Machine.

Indicate whether each of the following statements is true or false.A capital investment is a purchase of a long-term operational asset.Investments in capital assets normally are recovered by selling the assets.The profitability of a business is greatly influenced by the quality of its capital investment decisions.A capital investment decision exchanges current cash inflows for future cash outflows.The time value of money concept is often used in making capital investment decisions.

Nguyen Company has an opportunity to purchase an asset that will cost the company $36,000. The asset is expected to add $12,000 per year to the company's net income. Assuming the asset has a five-year useful life and zero salvage value, the unadjusted rate of return based on the average investment will be:

Select the incorrect statement concerning the present value index (PVI).

Generro Company is considering the purchase of equipment that would cost $36,000 and offer annual cash inflows of $10,500 over its useful life of 5 years. Assuming a desired rate of return of 12%, is the project acceptable?

Chichester Company is considering investing in the following two mutually exclusive projects: Required: 1) Which project is more desirable strictly in terms of cash inflows? Why? 2) Compute the present value of each project's cash inflows assuming the company's required rate of return is 10%.3) What is the maximum amount Chichester should be willing to pay for each project? 4) Suppose each project costs $10,000. Which project(s) should be accepted?

Which capital budgeting technique defines returns in terms of income instead of cash flows?

A capital investment with an internal rate of return equal to or greater than the required rate of return is considered to be an acceptable investment.

Indicate whether each of the following statements is true or false.When unequal cash inflows are expected from a capital investment, the payback period can be calculated by accumulating incremental cash inflows or by using average annual cash inflows.The unadjusted rate of return is also called the simple rate of return.The unadjusted rate of return can be calculated as average increase in cash inflows divided by net cost of the original investment.The unadjusted rate of return does not take the time value of money into account.The unadjusted rate of return should be calculated using the initial cost of the investment, rather than the average invested capital.

A cash flow that only occurs in equal amounts each year is referred to as:

Select the term from the list provided that best matches each of the following definitions or descriptions. Put the number of the term in the answer column.

A capital investment decision is essentially a decision to exchange current cash outflows for future cash inflows.

The time value of money concept recognizes that a dollar today is worth more than a dollar tomorrow. Which of the following is not a factor in causing the present value of cash inflows to diminish over time?

When a capital investment is expected to provide unequal annual cash inflows, the payback period can be calculated by accumulating the incremental cash inflows until the sum equals the amount of the original investment.

Capital investments differ from stock and bond investments in that stock and bond investments can be sold in organized markets.

Describe the decision rules management should use for accepting and rejecting capital projects under each of the following capital budgeting models: net present value model, internal rate of return model, payback period, and the unadjusted rate of return model.