Reference: 10-13
Jimbob Co. is considering two alternatives to replace some existing manufacturing equipment. The following data have been gathered concerning these two alternatives: $$\begin{array} { | l | l | l | }
\hline & \text { Machine } A & \text { Machine } B \
\hline \text { Purchase cost new } & \$ 300,000 & \$ 300,000 \
\hline \text { Overhaul costs needed year } 4 & \$ 10,000 & 20,000 \
\hline \text { Annual cash operating costs } & \$ 130,000 & \$ 120,000 \
\hline \text { Salvage value at the end of 8 years } & \$ 20,000 & \$ 30,000 \
\hline
\end{array}$$ Jimbob Co. uses a 10% discount rate and the incremental cost approach to capital budgeting analysis. Both alternatives are expected to have a useful life of eight years.
-In considering the impact of inflation in capital budgeting net present value calculations, which of the following should be adjusted for anticipated inflation?
A)cash flows of future years.
B)cost of capital.
C)cash outflow at project start date.
D)A & B.

Question

Reference: 10-13
Jimbob Co. is considering two alternatives to replace some existing manufacturing equipment. The following data have been gathered concerning these two alternatives: $$\begin{array} { | l | l | l | } 
\hline & \text { Machine } A & \text { Machine } B \
\hline \text { Purchase cost new } & \$ 300,000 & \$ 300,000 \
\hline \text { Overhaul costs needed year } 4 & \$ 10,000 & 20,000 \
\hline \text { Annual cash operating costs } & \$ 130,000 & \$ 120,000 \
\hline \text { Salvage value at the end of 8 years } & \$ 20,000 & \$ 30,000 \
\hline
\end{array}$$ Jimbob Co. uses a 10% discount rate and the incremental cost approach to capital budgeting analysis. Both alternatives are expected to have a useful life of eight years.
-In considering the impact of inflation in capital budgeting net present value calculations, which of the following should be adjusted for anticipated inflation?
A)cash flows of future years.
B)cost of capital.
C)cash outflow at project start date.
D)A & B.

Quizplus · Accepted Answer

In capital budgeting net present value (NPV) calculations, both the cash flows of future years (A) and the cost of capital (B) should be adjusted for anticipated inflation. Future cash flows need to reflect expected inflation to accurately represent their future value. Similarly, the cost of capital should incorporate inflation expectations to accurately discount future cash flows to their present value. The cash outflow at the project start date (C) is not adjusted for inflation because it occurs at the present time, not in the future.

Reference: 10-13 Jimbob Co Jimbob Co Uses a 10% Discount Rate and the Incremental Cost

Reference: 10-13
Jimbob Co Jimbob Co Uses a 10% Discount Rate and the Incremental Cost