Question 1

Raider Productions has to decide whether to build its warehouse in Dallas or Houston. This decision falls into the class of ____.

Accepted Answer

A)  independent projects 
B)  mutually exclusive projects 
C)  contingent projects 
D)  marginal projects

Question 2

Little Giant is building a manufacturing plant that will require a cash outlay of $300,000 for the initial purchase of a building, $450,000 for remodeling the first year, and $710,000 for new equipment in the second year. If the firm's cost of capital is 12 percent, what is the present value of the net investment at time 0?

Accepted Answer

A)  $1,460,000 
B)  $1,132,070 
C)  $1,267,720 
D)  $300,000

Question 3

In terms of the capital budgeting process, net cash flows are the ____.

Accepted Answer

A)  net cash outlays required to place a project in service 
B)  funds invested in additional assets 
C)  incremental changes in a firm's cash flow 
D)  outlays that have already been made

Question 4

Of the following, an example of a component of a firm's cost of capital is ____.

Accepted Answer

A)  repurchase of company stock 
B)  investment of corporate funds into a money market account 
C)  the purchase of another company's bonds 
D)  the return on common stock required by investors

Question 5

A recent survey of Fortune 500 firms regarding their cash flow estimation procedures indicated that ____.

Accepted Answer

A)  few firms prepared formal cash flow estimates 
B)  the majority produced detailed cash flow projections 
C)  a majority estimated cash flows for a range of estimates 
D)  about 50 percent made comparisons between actual and projected cash flows

Question 6

A contractor has a team of plumbers and assigns those plumbers to a new construction site. The fact that the plumbers are unavailable for any other job makes the construction site project a(n) ____ project.

Accepted Answer

A)  independent 
B)  qualified 
C)  mutually exclusive 
D)  contingent

Question 7

Moon Pie Company is considering automated baking equipment that costs $500,000 installed and would replace the present handmade production method. The present equipment has a zero book and salvage value. The new equipment will not increase revenues but will reduce operating costs from a current level of $600,000 to $300,000 per year. The depreciation of the new equipment will be $73,000 per year. What are the annual incremental net cash flows? Assume a marginal tax rate of 40 percent.

Accepted Answer

A)  $296,800 
B)  $136,200 
C)  $192,200 
D)  $209,200

Question 8

Most firms choose accelerated depreciation methods because ____.

Accepted Answer

A)  reported net income is higher 
B)  tax payments are made sooner, resulting in a lower deferred tax liability 
C)  operating expenses are correspondingly reduced 
D)  income taxes are deferred

Question 9

A(n) ____ is a cash outlay that is expected to generate a flow of future cash benefits lasting longer than 1 year.

Accepted Answer

A)  depreciation charge 
B)  operating expenditure 
C)  capital expenditure 
D)  capital gain

Question 10

Ripstart is replacing an old, fully depreciated stamping line with a more efficient machine that will cost $245,000. The line will be depreciated as a 7-year MACRS asset. With the increased production, Ripstart expects revenues to increase by $55,000, and operating expenses to increase by $20,000. The MACRS depreciation rate during the fifth year is 8.93%, and the accumulated MACRS depreciation after five years totals 77.69 percent of the cost of the asset. Assume the firm's marginal tax rate is 40 percent and that the company does get to take the full benefit of year 5 depreciation. If Ripstart expects to sell the new machine at the end of year 5 for $40,000, what will be the net cash flow in the fifth year?

Accepted Answer

A)  $29,751 
B)  $53,736 
C)  $75,615 
D)  $69,751

Question 11

Allen Company is considering an investment project that is expected to generate $100,000 in annual earnings before taxes. Annual depreciation will be $50,000. Allen's marginal tax rate is 40%. Determine the project's annual net cash flows.

Accepted Answer

A)  $150,000 
B)  $110,000 
C)  $90,000 
D)  $60,000

Question 12

The net cash flows for any year during the life of a capital expenditure project are equal to the change in ____ plus the change in ____.

Accepted Answer

A)  earnings before interest and taxes; depreciation 
B)  earnings before taxes; depreciation 
C)  earnings after taxes; depreciation 
D)  revenues; costs

Question 13

Ten years ago J-Bar Company purchased a lathe for $250,000. It was being depreciated on a straight-line basis to an estimated $25,000 salvage value over a 15-year period. The firm is considering selling the old lathe and purchasing a new one. The new lathe would cost $500,000. The firm's marginal tax rate 40 percent. Determine the net investment required to purchase the new lathe, if the old lathe is sold for $100,000.

Accepted Answer

A)  $380,000 
B)  $397,500 
C)  $400,000 
D)  $418,000

Question 14

A firm's cost of capital is ____.

Accepted Answer

A)  an important financial ratio 
B)  equal to 10 percent 
C)  rarely used in practice 
D)  an important input in the capital budgeting process

Question 15

An investment project is expected to generate earnings before taxes (EBT) of $60,000 per year. Annual depreciation from the project is $30,000, and the firm's tax rate is 40 percent. Determine the project's annual net cash flows.

Accepted Answer

A)  $48,000 
B)  $66,000 
C)  $36,000 
D)  $52,000

Question 16

The Johnson Drum Company is planning to build a new factory. The purchase of the land, building the plant, and installation of equipment will take place over a 2-year period. The following are planned cash outflows: $$\begin{array} { l l } 
\text { Year } & \text { Cash Outflow } \
0 & \$ 3,500,000 \
1 & \$ 4,750,000 \
2 & \$ 6,100,000
\end{array}$$ Johnson Drum's cost of capital is 14%, and its marginal tax rate is 35%. What is the NINV measured in present value terms today?

Accepted Answer

A)  $14,350,000 
B)  $12,356,650 
C)  $9,327,500 
D)  $8,035,788

Question 17

Outback is purchasing a new machine that will cost $98,000. The machine will qualify as MACRS 5-year property but has an economic life of 8 years. The new machine is expected to increase revenues by $35,000 per year, and operating costs are expected to increase by $15,000 per year. If the firm's marginal tax rate is 34 percent and the first year's depreciation rate is 20 percent, what is the net cash flow in the first year.

Accepted Answer

A)  $264 
B)  $7,984 
C)  $19,864 
D)  $26,034

Question 18

Adler is replacing its old packing line with a more efficient line. The old line was being depreciated on a straight-line basis at a rate of $20,000 per year. The old machine has a current book value of $100,000. The new line, which costs $910,000, will be depreciated on a 10-year MACRS schedule. The more efficient operation is expected to increase revenues by $50,000 per year and reduce annual operating costs by $80,000. Compute the net cash flows for Adler in year 2. Assume Adler has a marginal tax rate of 40%. Use the rounded MACRS schedule listed below: 
(10-Year Depreciation Schedule: 10%, 18%, 14%, 12%, 9%, 7%, 7%, 7%, 7%, 6%, 3%)

Accepted Answer

A)  $143,520 
B)  $135,520 
C)  $39,520 
D)  $47,520

Question 19

Felix Industries purchased a grinder 5 years ago for $15,000. It is being depreciated on a straight-line basis over 15 years to an estimated salvage value of zero. It could be sold now for $6,000. The firm is considering selling it and purchasing a new one. The new grinder would cost $25,000 installed and would be depreciated on a straight-line basis over 10 years to a zero estimated salvage value. The company's marginal tax rate is 40%. Determine the net investment if the old grinder is sold and the new one purchased.

Accepted Answer

A)  $19,000 
B)  $16,600 
C)  $17,400 
D)  cannot be computed

Question 20

The capital budgeting process is very important to the firm because it ____.

Accepted Answer

A)  highlights the impacts of a project on net income 
B)  essentially plots the company's future direction 
C)  is used in working capital analysis 
D)  indicates the net cash flows available for employee education

Exam 10: Capital Budgeting and Cash Flow Analysis