Exam 11: Capital Budgeting Decisions

Mercer Corporation is considering replacing a technologically obsolete machine with a new state-of-the-art numerically controlled machine. The new machine would cost $250,000 and would have a ten-year useful life. Unfortunately, the new machine would have no salvage value. The new machine would cost $12,000 per year to operate and maintain, but would save $55,000 per year in labor and other costs. The old machine can be sold now for scrap for $10,000. The simple rate of return on the new machine is closest to:

Tangen Corporation is considering the purchase of a machine that would cost $380,000 and would last for 6 years. At the end of 6 years, the machine would have a salvage value of $80,000. By reducing labor and other operating costs, the machine would provide annual cost savings of $104,000. The company requires a minimum pretax return of 14% on all investment projects. The net present value of the proposed project is closest to:

Bill Anders retires in 5 years. He would have to purchase equipment costing $500,000 to equip the outlet and invest an additional $150,000 for inventories and other working capital needs. Other outlets in the fast-food chain have an annual net cash inflow of about $160,000. Mr. Anders would close the outlet in 5 years. He estimates that the equipment could be sold at that time for about 10% of its original cost and the working capital would be released for use elsewhere. Mr. Anders' required rate of return is 16%. Required: What is the investment's net present value? Is this an acceptable investment?

Beaver Corporation is investigating the purchase of a new threading machine that costs $18,000. The machine would save about $4,000 per year over the present method of threading component parts, and would have a salvage value of about $3,000 in 6 years when the machine would be replaced. The company's required rate of return is 12%. The machine's net present value is closest to:

Neighbors Corporation is considering a project that would require an investment of $279,000 and would last for 8 years. The incremental annual revenues and expenses generated by the project during those 8 years would be as follows: The scrap value of the project's assets at the end of the project would be $15,000. The cash inflows occur evenly throughout the year. The payback period of the project is closest to:

Jimba's, Inc., has purchased a new donut maker. It cost $20,000 and has an estimated life of 10 years. The following annual donut sales and expenses are projected: Assume cash flows occur uniformly throughout a year except for the initial investment. The simple rate of return on the new machine is closest to:

Vernon Corporation has been offered a 5-year contract to supply a part for the military. After careful study, the company has developed the following estimated data relating to the contract: It is not expected that the contract would be extended beyond the initial contract period. The company's discount rate is 10%. Required: Use the net present value method to determine if the contract should be accepted.

Messersmith Corporation is investigating automating a process by purchasing a machine for $688,000 that would have an 8 year useful life and no salvage value. By automating the process, the company would save $160,000 per year in cash operating costs. The new machine would replace some old equipment that would be sold for scrap now, yielding $19,000. The annual depreciation on the new machine would be $86,000. The simple rate of return on the investment is closest to:

The management of Kleppe Corporation is investigating automating a process by replacing old equipment by a new machine. The old equipment would be sold for scrap now for $19,000. The new machine would cost $180,000, would have a 9 year useful life, and would have no salvage value. By automating the process, the company would save $30,000 per year in cash operating costs. Required: Determine the simple rate of return on the investment to the nearest tenth of a percent. Show your work!

The Halsey Corporation is contemplating the purchase of new equipment that would require an initial investment of $125,000. The equipment would have a useful life of six years, with a salvage value of $29,000. This new equipment would be depreciated over its useful life by the straight-line method. It would replace existing equipment which is fully depreciated. The existing equipment has a salvage value now of $38,000. The anticipated annual revenues and expenses associated with the new equipment are: Assume cash flows occur uniformly throughout a year except for the initial investment and the salvage value at the end of the project. The payback period is closest to:

An expansion at Fidell, Inc., would increase sales revenues by $75,000 per year and cash operating expenses by $38,000 per year. The initial investment would be for equipment that would cost $135,000 and have a 5 year life with no salvage value. The annual depreciation on the equipment would be $27,000. The simple rate of return on the investment is closest to:

Correl Corporation has provided the following data concerning an investment project that it is considering: The life of the project is 4 years. The company's discount rate is 15%. The net present value of the project is closest to:

Cascade, Inc., has assembled the estimates shown below relating to a proposed new product. These estimates are based on a 5-year project life, at the end of which the new equipment would be sold, working capital would revert to other uses in the company, and the product would be discontinued. Cascade uses a discount rate of 18%. Required: Compute the net present value of the new product.

The management of Edelmann Corporation is considering the following three investment projects: Rank the projects according to the profitability index, from most profitable to least profitable.

Czlapinski Corporation is considering a capital budgeting project that would require an initial investment of $440,000 and working capital of $32,000. The working capital would be released for use elsewhere at the end of the project in 4 years. The investment would generate annual cash inflows of $147,000 for the life of the project. At the end of the project, equipment that had been used in the project could be sold for $11,000. The company's discount rate is 7%. The net present value of the project is closest to:

When discounted cash flow methods of capital budgeting are used, the working capital required for a project is ordinarily counted as a cash inflow at the beginning of the project and as a cash outflow at the end of the project.

Riveros, Inc., is considering the purchase of a machine that would cost $120,000 and would last for 8 years. At the end of 8 years, the machine would have a salvage value of $29,000. The machine would reduce labor and other costs by $25,000 per year. Additional working capital of $9,000 would be needed immediately. All of this working capital would be recovered at the end of the life of the machine. The company requires a minimum pretax return of 18% on all investment projects. The net present value of the proposed project is closest to:

One criticism of the payback method is that it ignores cash flows that occur after the payback point has been reached.