Deck 7: Capital Budgeting Decisions

Question 1

An increase in the expected salvage value at the end of a capital budgeting project will increase the internal rate of return for that project.

Answer 1

True

Question 2

In calculating the payback period where new equipment is replacing old equipment, any salvage value to be received on disposal of the old equipment should be deducted from the cost of the new equipment.

Answer 2

True

Question 3

A shorter payback period does not necessarily mean that one investment is more desirable than another.

Answer 3

True

Question 4

In the payback method, depreciation is added back to net operating income when computing the annual net cash flow.

Question 5

Neither the net present value method nor the internal rate of return method can be used as a screening tool in capital budgeting decisions.

Question 6

The internal rate of return method assumes that the cash flows generated by the project are immediately reinvested elsewhere at a rate of return that equals the company's cost of capital.

Question 7

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

Question 8

The salvage value of new equipment should not be considered when using the internal rate of return method to evaluate a project.

Question 9

If the internal rate of return is less than the required rate of return for a project, then the net present value of that project is positive.

Question 10

When the net cash inflow is the same every year for a project after the initial investment, the internal rate of return of a project can be determined by dividing the initial investment required in the project by the annual net cash inflow. This computation yields a factor that can be looked up in a table of present values of annuities to find the internal rate of return.

Question 11

The internal rate of return is computed by finding the discount rate that equates the present value of a project's cash outflows with the present value of its cash inflows.

Question 12

The cost of capital is the average rate of return that the company earns on its investments.

Question 13

An investment project with a project profitability index of 0.04 has an internal rate of return that is less than the discount rate.

Question 14

The net present value method assumes that cash flows from a project are immediately reinvested at a rate of return equal to the internal rate of return.

Question 15

The required rate of return is the maximum rate of return that an investment project must yield to the acceptable.

Question 16

The minimum required rate of return is the discount rate that makes the net present value of the project equal to zero.

Question 17

Discounted cash flow techniques automatically take into account recovery of the initial investment.

Question 18

The payback method is most appropriate for projects whose cash flows do not extend far into the future.

Question 19

The internal rate of return is the rate of return of an investment project over its useful life.

Question 20

When a company is cash poor, a project with a short payback period but a low rate of return may be preferred to a project with a long payback period and a high rate of return.

Question 21

Olinick Corporation is considering a project that would require an investment of $343,000 and would last for 8 years. The incremental annual revenues and expenses generated by the project during those 8 years would be as follows (Ignore income taxes.): The scrap value of the project's assets at the end of the project would be $23,000. The cash inflows occur evenly throughout the year. The payback period of the project is closest to:

A) 3.0 years
B) 5.1 years
C) 3.2 years
D) 4.8 years

Question 22

The internal rate of return method assumes that a project's cash flows are reinvested at the:

A) internal rate of return.
B) simple rate of return.
C) required rate of return.
D) payback rate of return.

Question 23

The Zingstad Corporation is considering an investment with the following data (Ignore income taxes.): Cash inflows occur evenly throughout the year. The payback period for this investment is:

A) 3.0 years
B) 3.5 years
C) 4.0 years
D) 4.5 years

Question 24

In calculating the "investment required" for the project profitability index, the amount invested should not be reduced by any salvage recovered from the sale of old equipment.

Question 25

The simple rate of return is computed by dividing the annual net operating income generated by a project by the initial investment in the project.

Question 26

If the salvage value of equipment at the end of a project is highly uncertain, the salvage value should be ignored in capital budgeting decisions.

Question 27

Amster Corporation has not yet decided on the required rate of return to use in its capital budgeting. This lack of information will prevent Amster from calculating a project's:

A) Choice A
B) Choice B
C) Choice C
D) Choice D

Question 28

If investment funds are limited, the net present value of one project should not be compared directly to the net present value of another project unless the initial investments in these projects are equal.

Question 29

A preference decision in capital budgeting:

A) is concerned with whether a project clears the minimum required rate of return hurdle.
B) comes before the screening decision.
C) is concerned with determining which of several acceptable alternatives is best.
D) involves using market research to determine customers' preferences.

Question 30

When computing the project profitability index of an investment project, the investment required should exclude any investment made in working capital at the beginning of the project.

Question 31

A company has unlimited funds to invest at its discount rate. The company should invest in all projects having:

A) an internal rate of return greater than zero.
B) a net present value greater than zero.
C) a simple rate of return greater than the discount rate.
D) a payback period less than the project's estimated life.

Question 32

In preference decisions, the profitability index and internal rate of return methods will rank projects in the same order of preference.

Question 33

If the net present value of a project is zero based on a discount rate of 16%, then the internal rate of return is:

A) equal to 16%.
B) less than 16%.
C) greater than 16%.
D) cannot be determined from this data.

Question 34

When the internal rate of return method is used to rank investment proposals, the higher the internal rate of return, the more desirable the investment.

Question 35

The project profitability index and the internal rate of return:

A) will always result in the same preference ranking for investment projects.
B) will sometimes result in different preference rankings for investment projects.
C) are less dependable than the payback method in ranking investment projects.
D) are less dependable than net present value in ranking investment projects.

Question 36

Some investment projects require that a company increase its working capital. Under the net present value method, the investment and eventual recovery of working capital should be treated as:

A) an initial cash outflow.
B) a future cash inflow.
C) both an initial cash outflow and a future cash inflow.
D) irrelevant to the net present value analysis.

Question 37

The simple rate of return focuses on cash flows rather than on accounting net operating income.

Question 38

The assumption that the cash flows from an investment project are reinvested at the company's discount rate applies to:

A) both the internal rate of return and the net present value methods.
B) only the internal rate of return method.
C) only the net present value method.
D) neither the internal rate of return nor net present value methods.

Question 39

Rennin Dairy Corporation is considering a plant expansion decision that has an estimated useful life of 20 years. This project has an internal rate of return of 15% and a payback period of 9.6 years. How would a decrease in the expected salvage value from this project in 20 years affect the following for this project?

A) Choice A
B) Choice B
C) Choice C
D) Choice D
E) Choice E

Question 40

Jarvey Corporation is studying a project that would have a ten-year life and would require a $450,000 investment in equipment which has no salvage value. The project would provide net operating income each year as follows for the life of the project (Ignore income taxes.): The company's required rate of return is 12%. The payback period for this project is closest to:

A) 3 years
B) 2 years
C) 4.28 years
D) 9 years

Question 41

The following data pertain to an investment proposal (Ignore income taxes.): Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.
The net present value of the proposed investment is closest to:

A) $2,622
B) $5,146
C) $2,524
D) $31,000

Question 42

The management of Lanzilotta Corporation is considering a project that would require an investment of $263,000 and would last for 8 years. The annual net operating income from the project would be $66,000, which includes depreciation of $31,000. 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 (Ignore income taxes.):

A) 3.8 years
B) 2.6 years
C) 2.7 years
D) 4.0 years

Question 43

Penniston Corporation is considering a capital budgeting project that would require an initial investment of $630,000 and working capital of $73,000. The working capital would be released for use elsewhere at the end of the project in 3 years. The investment would generate annual cash inflows of $228,000 for the life of the project. At the end of the project, equipment that had been used in the project could be sold for $29,000. The company's discount rate is 12%. The net present value of the project is closest to: Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.

A) $(134,696)
B) $(82,720)
C) $(9,720)
D) $54,000

Question 44

Dowlen, Inc., is considering the purchase of a machine that would cost $150,000 and would last for 6 years. At the end of 6 years, the machine would have a salvage value of $23,000. The machine would reduce labor and other costs by $36,000 per year. Additional working capital of $6,000 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 12% on all investment projects. The net present value of the proposed project is closest to (Ignore income taxes.): Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.

A) $9,657
B) $(2,004)
C) $6,699
D) $13,223

Question 45

Respass Corporation has provided the following data concerning an investment project that it is considering: Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.
The net present value of the project is closest to:

A) $67,000
B) $160,516
C) $516
D) $(5,776)

Question 46

Jark Corporation has invested in a machine that cost $60,000, that has a useful life of six years, and that has no salvage value at the end of its useful life. The machine is being depreciated by the straight-line method, based on its useful life. It will have a payback period of four years. Given these data, the simple rate of return on the machine is closest to (Ignore income taxes.):

A) 8.3%
B) 7.2%
C) 9.5%
D) 25%

Question 47

The management of Penfold Corporation is considering the purchase of a machine that would cost $440,000, would last for 7 years, and would have no salvage value. The machine would reduce labor and other costs by $102,000 per year. The company requires a minimum pretax return of 16% on all investment projects. The net present value of the proposed project is closest to (Ignore income taxes.): Use Exhibit 7B-1 and Exhibit 7B-2 to determine the appropriate discount factor(s) using the tables provided.

A) $(28,022)
B) $96,949
C) $(79,196)
D) $274,000

Question 48

Byerly Corporation has provided the following data concerning an investment project that it is considering: Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.
The working capital would be released for use elsewhere at the end of the project. The net present value of the project is closest to:

A) $(151,658)
B) $(105,847)
C) $11,000
D) $(44,847)

Question 49

Buy-Rite Pharmacy has purchased a small auto for delivering prescriptions. The auto was purchased for $24,000 and will have a 6-year useful life and a $6,000 salvage value. Delivering prescriptions (which the pharmacy has never done before) should increase gross revenues by at least $28,000 per year. The cost of these prescriptions to the pharmacy will be about $22,000 per year. The pharmacy depreciates all assets using the straight-line method. The payback period for the auto is closest to (Ignore income taxes.):

A) 2 years
B) 1.8 years
C) 4 years
D) 1.2 years

Question 50

Moates Corporation has provided the following data concerning an investment project that it is considering: Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.
The net present value of the project is closest to:

A) $378,963
B) $(31,037)
C) $410,000
D) $58,000

Question 51

Stomberg Corporation has provided the following data concerning an investment project that it is considering: Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.
The life of the project is 4 years. The company's discount rate is 10%. The net present value of the project is closest to:

A) $184,000
B) $579,982
C) $29,982
D) $20,420

Question 52

Ataxia Fitness Center is considering an investment in some additional weight training equipment. The equipment has an estimated useful life of 10 years with no salvage value at the end of the 10 years. Ataxia's internal rate of return on this equipment is 8%. Ataxia's discount rate is also 8%. The payback period on this equipment is closest to (Ignore income taxes.): Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.

A) 10 years
B) 6.71 years
C) 5 years
D) 7.81 years

Question 53

Haroldsen Corporation is considering a capital budgeting project that would require an initial investment of $350,000. The investment would generate annual cash inflows of $133,000 for the life of the project, which is 4 years. At the end of the project, equipment that had been used in the project could be sold for $32,000. The company's discount rate is 14%. The net present value of the project is closest to: Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.

A) $214,000
B) $37,429
C) $56,373
D) $406,373

Question 54

Parks Corporation is considering an investment proposal in which a working capital investment of $10,000 would be required. The investment would provide cash inflows of $2,000 per year for six years. The working capital would be released for use elsewhere when the project is completed. If the company's discount rate is 10%, the investment's net present value is closest to (Ignore income taxes.): Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.

A) $1,290
B) $(1,290)
C) $2,000
D) $4,350

Question 55

Charlie Corporation is considering buying a new donut maker. This machine will replace an old donut maker that still has a useful life of 6 years. The new machine will cost $3,600 a year to operate, as opposed to the old machine, which costs $3,800 per year to operate. Also, because of increased capacity, an additional 20,000 donuts a year can be produced. The company makes a contribution margin of $0.10 per donut. The old machine can be sold for $7,000 and the new machine costs $30,000. The incremental annual net cash inflows provided by the new machine would be (Ignore income taxes.):

A) $2,200
B) $200
C) $2,000
D) $5,000

Question 56

In an effort to reduce costs, Pontic Manufacturing Corporation is considering an investment in equipment that will reduce defects. This equipment will cost $420,000, will have an estimated useful life of 10 years, and will have an estimated salvage value of $50,000 at the end of 10 years. The company's discount rate is 22%. What amount of cost savings will this equipment have to generate per year in each of the 10 years in order for it to be an acceptable project? (Ignore income taxes.). Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided. (Round your intermediate calculations to 3 decimal places.)

A) $50,690 or more
B) $41,315 or more
C) $105,315 or more
D) $94,316 or more

Question 57

An investment project requires an initial investment of $100,000. The project is expected to generate net cash inflows of $28,000 per year for the next five years. These cash inflows occur evenly throughout the year. Assuming a 12% discount rate, the project's payback period is (Ignore income taxes.):

A) 0.28 years
B) 3.36 years
C) 3.57 years
D) 1.40 years

Question 58

A company with $500,000 in operating assets is considering the purchase of a machine that costs $60,000 and which is expected to reduce operating costs by $15,000 each year. These reductions in cost occur evenly throughout the year. The payback period for this machine in years is closest to (Ignore income taxes.):

A) 0.25 years
B) 8.3 years
C) 4 years
D) 33.3 years

Question 59

Fossa Road Paving Corporation is considering an investment in a curb-forming machine. The machine will cost $240,000, will last 10 years, and will have a $40,000 salvage value at the end of 10 years. The machine is expected to generate net cash inflows of $60,000 per year in each of the 10 years. Fossa's discount rate is 18%. The net present value of the proposed investment is closest to (Ignore income taxes.): Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.

A) $5,840
B) $37,280
C) $(48,780)
D) $69,640

Question 60

Puello Corporation has provided the following data concerning an investment project that it is considering: Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.
The life of the project is 4 years. The company's discount rate is 8%. The net present value of the project is closest to:

A) $480,000
B) $480,240
C) $100,000
D) $240

Question 61

Laws Corporation is considering the purchase of a machine costing $16,000. Estimated cash savings from using the new machine are $4,120 per year. The machine will have no salvage value at the end of its useful life of six years and the required rate of return for Laws Corporation is 12%. The machine's internal rate of return is closest to (Ignore income taxes.): Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.

A) 12%
B) 14%
C) 16%
D) 18%

Question 62

Whitton Corporation uses a discount rate of 16%. The company has an opportunity to buy a machine now for $18,000 that will yield cash inflows of $10,000 per year for each of the next three years. The machine would have no salvage value. The net present value of this machine is closest to (Ignore income taxes.): Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.

A) $22,460
B) $4,460
C) $(9,980)
D) $12,000

Question 63

Goergen Corporation is considering a capital budgeting project that would require an initial investment of $700,000. The investment would generate annual cash inflows of $267,000 for the life of the project, which is 4 years. The company's discount rate is 10%. The net present value of the project is closest to: Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.

A) $368,000
B) $846,123
C) $146,123
D) $700,000

Question 64

Orbit Airlines is considering the purchase of a new $275,000 maintenance hangar. The new hangar has an estimated useful life of 5 years with an expected salvage value of $50,000. The new hangar is expected to generate cost savings of $90,000 per year in each of the 5 years. A $20,000 increase in working capital will also be needed for this new hangar. The working capital will be released at the end of the 5 years. Orbit's discount rate is 18%. What is the net present value of the new hangar? (Ignore income taxes.) Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.

A) $8,280
B) $9,440
C) $17,020
D) $28,280

Question 65

Heap Corporation is considering an investment in a project that will have a two year life. The project will provide a 10% internal rate of return, and is expected to have a $40,000 cash inflow the first year and a $50,000 cash inflow in the second year. What investment is required in the project? (Ignore income taxes.) Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.

A) $74,340
B) $77,660
C) $81,810
D) $90,000

Question 66

Nevland Corporation is considering the purchase of a machine that would cost $130,000 and would last for 6 years. At the end of 6 years, the machine would have a salvage value of $18,000. By reducing labor and other operating costs, the machine would provide annual cost savings of $44,000. The company requires a minimum pretax return of 19% on all investment projects. The net present value of the proposed project is closest to (Ignore income taxes.): Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.

A) $38,040
B) $26,376
C) $74,902
D) $20,040

Question 67

Bau Long-Haul, Inc., is considering the purchase of a tractor-trailer that would cost $281,656, would have a useful life of 7 years, and would have no salvage value. The tractor-trailer would be used in the company's hauling business, resulting in additional net cash inflows of $76,000 per year. The internal rate of return on the investment in the tractor-trailer is closest to (Ignore income taxes.): Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.

A) 19%
B) 18%
C) 21%
D) 16%

Question 68

A company has provided the following data concerning a proposed project (Ignore income taxes.): Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.
The annual cost savings must be closest to: (Round your intermediate calculations to 3 decimal places.)

A) $4,024
B) $2,436
C) $1,875
D) $3,704

Question 69

Crockin Corporation is considering a machine that will save $9,000 a year in cash operating costs each year for the next six years. At the end of six years it would have no salvage value. If this machine costs $33,165 now, the machine's internal rate of return is closest to (Ignore income taxes.): Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.

A) 16%
B) 17%
C) 18%
D) 19%

Question 70

Highpoint, Inc., is considering investing in automated equipment with a ten-year useful life. Managers at Highpoint have estimated the cash flows associated with the tangible costs and benefits of automation, but have been unable to estimate the cash flows associated with the intangible benefits. Using the company's 12% required rate of return, the net present value of the cash flows associated with just the tangible costs and benefits is a negative $282,500. How large would the annual net cash inflows from the intangible benefits have to be to make this a financially acceptable investment? (Ignore income taxes.) Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.

A) $20,000
B) $28,250
C) $35,000
D) $50,000

Question 71

Cannula Vending Corporation is expanding operations and needs to purchase additional vending machines. There are currently two companies, Viscera, Inc. and Gullet International, that produce and sell machines that will do the job. Information related to the specifications of each company's machine are as follows (Ignore income taxes.): Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.
Cannula's discount rate is 18%. Cannula uses the straight-line method of depreciation. Using net present value analysis, which company's machine should Cannula purchase and what is the approximate difference between the net present values of the competing company's machines?

A) Gullet, $127
B) Viscera, $1,562
C) Viscera, $1,749
D) Viscera, $3,438

Question 72

Anthony operates a part time auto repair service. He estimates that a new diagnostic computer system will result in increased cash inflows of $1,500 in Year 1, $2,100 in Year 2, and $3,200 in Year 3. If Anthony's required rate of return is 10%, then the most he would be willing to pay for the new diagnostic computer system would be (Ignore income taxes.): Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.

A) $4,599
B) $5,501
C) $5,638
D) $5,107

Question 73

The following data pertain to an investment project (Ignore income taxes.): Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.
The internal rate of return is closest to:

A) 12%
B) 14%
C) 10%
D) 8%

Question 74

Basta Corporation has provided the following data concerning an investment project that it is considering: Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.
The working capital would be released for use elsewhere at the end of the project in 4 years. The company's discount rate is 8%. The net present value of the project is closest to:

A) $101,816
B) $126,726
C) $32,726
D) $318,000

Question 75

Congener Beverage Corporation is considering an investment in a project that has an internal rate of return of 20%. The only cash outflow for this project is the initial investment. The project is estimated to have an 8 year life and no salvage value. Cash inflows from this project are expected to be $100,000 per year in each of the 8 years. Congener's discount rate is 16%. What is the net present value of this project? (Ignore income taxes.) Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.

A) $5,215
B) $15,464
C) $50,700
D) $55,831

Question 76

Facio Corporation has provided the following data concerning an investment project that it is considering: Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.
The working capital would be released for use elsewhere at the end of the project in 3 years. The company's discount rate is 8%. The net present value of the project is closest to:

A) $(113,022)
B) $(61,412)
C) $3,588
D) $52,000

Question 77

Kanzler Corporation is considering a capital budgeting project that would require an initial investment of $450,000 and working capital of $25,000. 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 $143,000 for the life of the project. At the end of the project, equipment that had been used in the project could be sold for $10,000. The company's discount rate is 14%. The net present value of the project is closest to: Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.

A) $(27,521)
B) $(37,721)
C) $(52,521)
D) $132,000

Question 78

Golab Roofing is considering the purchase of a crane that would cost $69,846, would have a useful life of 6 years, and would have no salvage value. The use of the crane would result in labor savings of $21,000 per year. The internal rate of return on the investment in the crane is closest to (Ignore income taxes.): Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.

A) 18%
B) 20%
C) 19%
D) 17%

Question 79

Basey Corporation has provided the following data concerning an investment project that it is considering: Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.
The working capital would be released for use elsewhere at the end of the project. The net present value of the project is closest to:

A) $(9,048)
B) $(39,048)
C) $(21,888)
D) $194,000

Question 80

Welch Corporation is planning an investment with the following characteristics (Ignore income taxes.): Use Exhibit 7B-1 and Exhibit 7B-2, to determine the appropriate discount factor(s) using the tables provided.
The initial cost of the equipment is closest to:

A) $157,410
B) $175,005
C) $235,890
D) Cannot be determined from the given information.