Question 1

The anticipated purchase of a fixed asset for $400,000, with a useful life of 5 years and no residual value, is expected to yield total net income of $300,000 for 5 years.The expected average rate of return is 30%.

Accepted Answer

The expected average rate of return is calculated as (Total net income/Initial investment) x 100%. Therefore, (300,000/400,000) x 100% = 75%. This exceeds the expected average rate of return of 30%, indicating that the investment is profitable.

Question 2

Average rate of return equals average investment divided by estimated average annual income.

Accepted Answer

The formula for calculating average rate of return is (estimated return - initial investment) / initial investment. The given formula is incorrect.

Question 3

When evaluating a proposal by use of the net present value method, if there is a deficiency of the present value of future cash inflows over the amount to be invested, the proposal should be accepted.

Accepted Answer

A deficiency of present value of future cash inflows indicates that the proposal will not generate sufficient returns to cover the investment. Therefore, the proposal should not be accepted.

Question 4

For years one through five, a proposed expenditure of $400,000 for a fixed asset with a 5-year life has expected net income of $50,000, $40,000, $20,000, $20,000, and $20,000, respectively, and net cash flows of $130,000, $120,000, $100,000, $100,000, and $100,000, respectively.The cash payback period is 3.5 years.

Accepted Answer

The cash payback period is calculated by adding up the net cash flows until they equal the initial investment. In this case, the total net cash flows for the first three years are $350,000 ($130,000 + $120,000 + $100,000), which means the investment will be paid back in less than 3.5 years. Therefore, the statement is true.

Question 5

A company should purchase an asset when the minimum rate of return exceeds its average rate of return.

Accepted Answer

A company should consider purchasing an asset when its average rate of return exceeds the minimum rate of return, indicating the investment is expected to perform above the minimum acceptable threshold.

Question 6

The methods of evaluating capital investment proposals can be grouped into two general categories: (1) methods that ignore present values and (2) methods that use present values.

Accepted Answer

The methods for evaluating capital investment proposals indeed fall into two main categories: those that do not consider the time value of money (ignore present values) such as the payback period and accounting rate of return methods, and those that do take into account the time value of money (use present values) such as the net present value (NPV) and internal rate of return (IRR) methods.

Question 7

For years one through five, a proposed expenditure of $250,000 for a fixed asset with a 5-year life has expected net income of $40,000, $35,000, $25,000, $25,000, and $25,000, respectively, and net cash flows of $90,000, $85,000, $75,000, $75,000, and $75,000, respectively.The cash payback period is 2.5 years.

Accepted Answer

The cash payback period is calculated by summing the net cash flows until the initial investment is recovered. In this case, $90,000 in year 1 and $85,000 in year 2 total $175,000, which does not recover the $250,000 initial investment. By adding part of year 3's cash flow, the total exceeds $250,000, indicating the payback period is longer than 2.5 years.

Question 8

If a proposed expenditure of $80,000 for a fixed asset with a 4-year life has an annual expected net cash flow and net income of $32,000 and $12,000, respectively, the cash payback period is 2.5 years.

Accepted Answer

To calculate cash payback period, we divide the initial investment ($80,000) by the annual net cash inflow ($32,000):
Cash payback period = $80,000 ÷ $32,000 = 2.5 years
Since the cash payback period is exactly 2.5 years as given in the problem, the answer is A) True.

Question 9

The process by which management plans, evaluates, and controls long-term investment decisions involving fixed assets is called capital investment analysis.

Accepted Answer

The statement accurately describes capital investment analysis, which involves assessing the potential return on investment for long-term projects and determining whether they align with the organization's overall goals and financial resources.

Question 10

The excess of cash flowing in from revenues over the cash flowing out for expenses is termed net discounted cash flow.

Accepted Answer

Net discounted cash flow refers to the present value of future cash inflows minus the present value of future cash outflows, taking into consideration the time value of money. It is not simply the difference between cash inflows and outflows.

Question 11

The anticipated purchase of a fixed asset for $400,000, with a useful life of 5 years and a $40,000 residual value, is expected to yield total net income of $200,000 for 5 years.The expected average rate of return on investment is 18.2%.

Accepted Answer

To calculate the expected rate of return on investment, we can use the following formula:

Expected Rate of Return = (Total Net Income / Initial Investment) / Number of Years

Plugging in the given values, we get:

Expected Rate of Return = ($200,000 / $400,000) / 5 = 0.10

To convert this into a percentage, we multiply by 100:

Expected Rate of Return = 10%

However, the question states that the expected average rate of return on investment is 18.2%. Therefore, the statement is false.

But, the calculation is incorrect. The expected rate of return (using the formula above) should be:

Expected Rate of Return = [(Total Net Income + Residual Value) / Initial Investment] / Number of Years

Expected Rate of Return = [($200,000 + $40,000) / $400,000] / 5 = 0.12

Converting to a percentage:

Expected Rate of Return = 12%

Since the given expected average rate of return (18.2%) is greater than the actual expected rate of return (12%), the statement remains false.

Question 12

The anticipated purchase of a fixed asset for $400,000, with a useful life of 5 years and no residual value, is expected to yield total net income of $200,000 for 5 years.The expected average rate of return on investment computed is 20%.

Accepted Answer

The expected average rate of return on investment computed is (Net income/Initial investment) x 100%. 
Here, the net income for 5 years is $200,000 per year x 5 years = $1,000,000. 
The initial investment is $400,000. 
So, the expected average rate of return on investment computed is ($1,000,000/$400,000) x 100% = 250%. 
Since this is greater than the given 20%, the statement is false. However, if the net income for 5 years was $80,000 per year instead of $200,000, then the expected average rate of return would be 20%.

Question 13

Average rate of return equals estimated average annual income divided by average investment.

Accepted Answer

The average rate of return is calculated by dividing the estimated average annual income by the average investment.

Question 14

The process by which management plans, evaluates, and controls long- term investment decisions involving fixed assets is called cost-volume-profit analysis.

Accepted Answer

The process described in the statement is actually capital budgeting, not cost-volume-profit analysis.

Question 15

The anticipated purchase of a fixed asset for $400,000, with a useful life of 5 years and a $40,000 residual value, is expected to yield total net income of $500,000 for 5 years.The expected average rate of return is 50%.

Accepted Answer

The expected average rate of return is calculated as (Annual Net Income / Initial Investment) * 100. The annual net income can be estimated by subtracting the residual value from the total net income over the useful life, then dividing by the useful life. However, the provided statement does not correctly calculate the average rate of return based on the given figures.

Question 16

If the average rate of return on an asset exceeds the minimum rate of return for investments, the asset should be purchased.

Accepted Answer

If the average rate of return on an asset is greater than the minimum rate of return required for investments, then it is expected to generate a positive return and thus it is advisable to purchase the asset.

Question 17

The methods of evaluating capital investment proposals can be grouped into two general categories: (1) average rate of return method and (2) cash payback method.

Accepted Answer

The methods of evaluating capital investment proposals can be grouped into more than two categories, including not only the average rate of return method and the cash payback method but also the net present value method, the internal rate of return method, and others.

Question 18

The excess of cash flowing in from revenues over the cash flowing out for expenses is termed net cash flow.

Accepted Answer

This statement correctly defines net cash flow as the excess of cash inflows over cash outflows.

Question 19

Care must be taken while making capital investment decisions since it involves a long-term commitment of funds and affects operations for several years.

Accepted Answer

Capital investment decisions involve substantial amounts of funds and have a long-term impact on a company's operations. Due to the nature of these investments, careful consideration and analysis are needed to ensure that the investment is profitable and aligns with the company's long-term goals.

Question 20

Methods that ignore present value in capital investment analysis include the cash payback method.

Accepted Answer

The cash payback method only considers the time it takes to recover the initial investment and does not take into account the present value of future cash inflows or outflows.

Quiz 15: Capital Investment Analysis