Deck 23: Capital Investment Decisions

Question 1

The formula for computing the payback period is:

A) Investment cost divided by annual revenues from investment
B) Investment cost divided by annual net cash inflows
C) Net cash inflows divided by investment cost
D) Annual revenues from investment divided by investment cost

Answer 1

B

Question 2

Which method measures the amount of time it will take for net cash flows of an investment to equal the cash outlay?

A) Unadjusted rate of return method
B) Internal rate of return method
C) Payback method
D) Net present value method

Answer 2

C

Question 3

Another name for the accounting rate of return is the:

A) Internal rate of return
B) Discounted present value
C) Payback period
D) Unadjusted rate of return

Answer 3

D

Question 4

Which of the following capital budgeting methods ignores the time value of money?

A) Internal rate of return method
B) Net present value method
C) Payback method
D) All of these consider the time value of money

Question 5

Which of these factors is necessary to compute the payback period for an investment?

A) Useful life
B) Net present value
C) Annual net cash inflow
D) Minimum desired rate of return

Question 6

The formula, Investment Cost divided by Annual Net Cash Inflows, is used to determine an interval of time in which method?

A) Net present value method
B) Payback method
C) Internal rate of return method
D) Unadjusted rate of return method

Question 7

The formula for computing unadjusted rate of return is:

A) Increase in future average annual revenues divided by initial investment cost
B) Increase in future average annual net income divided by initial investment cost
C) Initial investment cost divided by increase in future annual revenues
D) Initial investment cost divided by increase in future annual net income

Question 8

Which of the following is a strength of the payback method?

A) It is difficult to compute
B) It considers the investment's overall profitability
C) It takes into account the time value of money
D) It determines whether an investment fits into a specific period for the use of funds

Question 9

The present value of $1 to be received 2 years in the future is:

A) Greater than $1
B) Less than $1
C) Equal to $1
D) None of these are correct

Question 10

All of the following define capital EXCEPT:

A) Material wealth
B) Money used for investment
C) Resources used for future benefit
D) Depreciable assets

Question 11

All of the following are characteristics of the capital investment decisions that are critical to long-run profitability EXCEPT:

A) They affect earnings over a long period
B) They are much less liquid than other assets
C) They involve fixed assets
D) They require large outlays of capital

Question 12

Which of the following is LEAST preferable for measuring profitability of an investment?

A) Internal rate of return method
B) Payback method
C) Net present value method
D) Unadjusted rate of return method

Question 13

Cash outlays for capital assets include all the following EXCEPT:

A) The original purchase price
B) The annual operating costs
C) The salvage value
D) All of these are correct

Question 14

When making a capital budgeting decision, which of the following is usually NOT discounted?

A) The original purchase price paid in cash
B) The annual operating expenses
C) The annual operating revenues
D) The salvage value of the purchased asset

Question 15

Determining whether capital investment projects meet minimum standards of financial acceptability is called:

A) The ranking function
B) The screening function
C) The selecting function
D) The acceptance function

Question 16

Which of the following is true when making capital budgeting decisions?

A) Both quantitative and qualitative factors should be considered
B) Only quantitative factors should be considered
C) Only qualitative factors should be considered
D) Neither quantitative nor qualitative factors should be considered

Question 17

Which of the following investments has the greatest present value?

A) An investment that provides $100,000 in 1 year
B) An investment that provides $50,000 at the end of each year for 2 years
C) An investment that provides $33,333 at the end of each year for 3 years
D) An investment that provides $25,000 at the end of each year for 4 years

Question 18

Determining whether or not a given investment is best among all acceptable alternatives is called:

A) The ranking function
B) The screening function
C) The selection function
D) The acceptance function

Question 19

Which of the following does NOT consider the time value of money?

A) Internal rate of return method
B) Unadjusted rate of return method
C) Net present value method
D) None of these consider the time value of money

Question 20

Which of the following expenses are often ignored when making capital budgeting decisions?

A) Maintenance expense
B) Utilities expense
C) Depreciation expense
D) Rent expense

Question 21

Tootie Clothing Store is considering opening a new store. The expected purchase price is $270,000, expected annual revenues are $150,000, and expected annual costs are $90,000, including $22,500 of depreciation. The store has a payback period of approximately:

A) 1.8 years
B) 3.0 years
C) 3.3 years
D) 4.5 years

Question 22

If an investment has a payback period of 13 years and provides annual cash inflows of $14,500, its cost is:

A) $4,460
B) $102,000
C) $120,000
D) $188,500

Question 23

Tootie Clothing Store is considering opening a new store. The expected purchase price is $270,000, expected annual revenues are $150,000, and expected annual costs are $90,000, including $22,500 of depreciation. The store has an unadjusted rate of return of approximately:

A) 55.6%
B) 33.3%
C) 30.6%
D) 22.2%

Question 24

Curritt Company purchased equipment for $360,000 that is expected to generate cash inflows from operations of $108,000 in each of the next 5 years. The machine will be depreciated on a straight-line basis with no salvage value. What is the payback period for the investment by Curritt Company?

A) 2.0 years
B) 3.3 years
C) 4.0 years
D) 4.7 years

Question 25

Which method is best to help managers make capital investment decisions that will be LEAST costly to the organization?

A) Non-discounted cash flow method
B) Payback method
C) Net present value method
D) Unadjusted rate of return method

Question 26

Boone Corporation expects to buy a machine for $126,000, which will be depreciated over an 8-year period on a straight-line basis with no salvage value. The machine is expected to generate a net cash flow of $42,000 per year. What is the payback period?

A) 3.0 years
B) 3.5 years
C) 5.0 years
D) 6.4 years

Question 27

SkiTime Photos plans to spend $74,400 for a new machine, which is expected to generate cash inflows of $18,600 per year over its useful life of 10 years. The new machine will be depreciated on a straight-line basis over 10 years with no salvage value. What is the payback period?

A) 4 years
B) 5 years
C) 8 years
D) 10 years

Question 28

Which two capital budgeting techniques take the time value of money into consideration?

A) Net present value method and unadjusted rate of return method
B) Payback method and internal rate of return method
C) Net present value method and internal rate of return method
D) Unadjusted rate of return method and payback method

Question 29

Interpolation is usually associated with which of the following capital budgeting methods?

A) The unadjusted rate of return method
B) The internal rate of return method
C) The accounting rate of return method
D) The net present value method

Question 30

Curritt Company purchased equipment for $360,000 that is expected to increase revenues $115,200 in each of the next 5 years. The machine will be depreciated on a straight-line basis with no salvage value. What is the unadjusted rate of return on the initial investment by Curritt Company?

A) 10%
B) 12%
C) 15%
D) 20%

Question 31

Merriam Corporation is considering the purchase of a new machine that costs $18,000, has an expected useful life of 10 years, and has no salvage value. Merriam estimates that the machine will give the company a net income of $3,000 per year over the 10-year life. The company's hurdle rate is 12%. Given the data provided, the unadjusted rate of return for the machine is:

A) 6.7%
B) 16.7%
C) 12%
D) 10%

Question 32

When would a project be rejected under the net present value method?

A) If its net present value is less than zero
B) If its net present value is equal to zero
C) If its net present value is greater than zero
D) All of these are true

Question 33

Merriam Corporation is considering the purchase of a new machine that costs $18,000, has an expected useful life of 10 years, and has no salvage value. Merriam estimates that the machine will save the company $3,000 per year over the 10-year life. The company's hurdle rate is 12%. Given the data provided, the payback period for the machine is:

A) 4 years
B) 5 years
C) 6 years
D) 9 years

Question 34

In order for a project to be acceptable, the rate of return must be larger than the:

A) Hurdle rate
B) Accounting rate
C) Capital rate
D) Unadjusted rate

Question 35

What is the average cost of a firm's debt and its equity?

A) Internal rate of return
B) Hurdle rate
C) Net present value
D) Cost of capital

Question 36

Which of the following would be considered a discounted cash flow method?

A) The payback period method
B) The unadjusted rate of return method
C) The net present value method
D) The capital budgeting method

Question 37

Which of the following is true?

A) Present value concepts are used to determine accounting income
B) The higher the hurdle rate, the larger the present value of the amount being discounted
C) The further in the future a cash flow is, the smaller its present value will be
D) None of these are true

Question 38

The "true" discount rate of a capital investment is calculated by using the:

A) Internal rate of return method
B) Unadjusted rate of return method
C) The accounting rate of return method
D) The net present value method

Question 39

A $240,000 asset that is being depreciated at a rate of 10% per year and will increase a company's annual net income by $40,000 a year provides an approximate unadjusted rate of return of:

A) 6.7%
B) 16.7%
C) 26.7%
D) 29.7%

Question 40

Which of the following is a characteristic of the unadjusted rate of return?

A) It takes into account annual cash flows
B) It provides a measure of GAAP-based profitability
C) It takes into account the time value of money
D) It determines whether an investment fits into a specific period for the use of funds

Question 41

Gallatin Co. is considering the purchase of a new machine that costs $300,000. It is anticipated that it will provide net annual cash inflows of $80,000. The machine has an expected life of 5 years with no salvage value. Gallatin's hurdle rate is 7%. The present value annuity factors for 5 years are 4.1002 at 7%, 3.9927 at 8%, 3.8897 at 9%, 3.7908 at 10%, and 3.6048 at 12%. The internal rate of return for the purchase is:

A) Between 10% and 12%
B) Between 9% and 10%
C) Between 8% and 9%
D) Between 7% and 8%

Question 42

Clarke Company purchased equipment for $100,000 that is expected to generate cash inflows from operations of $30,000 in each of the next 5 years. The machine will be depreciated on a straight-line basis with no salvage value. Assume the following present value factors: What would be the net present value of the investment by Clarke Company?

A) $8,144
B) $8,881
C) $12,100
D) $16,288

Question 43

The internal rate of return method provides a rate of return that approximates:

A) The accounting rate of return
B) The unadjusted rate of return
C) Both the accounting rate of return and the unadjusted rate of return
D) Neither the accounting rate of return nor the unadjusted rate of return

Question 44

When using the internal rate of return method, a project will be rejected if:

A) The internal rate of return is greater than the hurdle rate
B) The internal rate of return is equal to the hurdle rate
C) The internal rate of return is less than the hurdle rate
D) None of these are correct

Question 45

The net present value of a proposed investment represents the:

A) Present value of the cash inflows less the present value of the cash outflows
B) Cash flows less the original investment
C) Cash flows less the present value of the cash flows
D) Present value of the cash flows plus the present value of the original investment

Question 46

If the net present value of an investment is positive, this represents the:

A) Net contribution margin of the investment
B) Net profit of the investment
C) Net tax benefit of the investment
D) Net value gain of the investment above the hurdle rate

Question 47

Crawford Company expects to invest $144,000 in an asset with a 10-year life. The annual cash inflows from using the asset are estimated to be $24,000. The company's expected rate of return for this type of asset is 10%. The following present value information is available: The company's actual rate of return on this asset is:

A) 10%
B) 12%
C) Less than 10%, but more than 0%
D) More than 10%, but less than 12%

Question 48

Linex Corporation is considering the purchase of a new machine that costs $18,000 and has an expected useful life of 10 years. Linex estimates that the machine will save the company $3,000 per year over the 10-year life. The company's hurdle rate is 12%. The present value annuity factors of 10, 12, and 14% for 10 years are 6.145, 5.650, and 5.216, respectively. The present value of $1 discounted for 10 years at 12% is 0.322. Given the data provided, if the machine had a salvage value of $4,000, the net present value of the machine would be:

A) $238
B) $957
C) $1,723
D) $2,950

Question 49

An asset is purchased for $100,000. It is expected to provide an additional $14,800 of annual net cash inflows. The asset has a 10-year life and an expected salvage value of $6,000. The hurdle rate is 9%. Assume the following present value factors: Given the data provided, the net present value would be approximately:

A) $4,868
B) $51
C) $(4,434)
D) $(5,018)

Question 50

An asset is purchased for $100,000. It is expected to provide an additional $15,600 of annual net cash inflows. The asset has a 10-year life and no expected salvage value. The hurdle rate is 10%. Assume the following present value factors: Given the data provided, the internal rate of return would be approximately:

A) 12%
B) 10%
C) 9%
D) 8%

Question 51

Which of the following situations is one in which a least-cost decision would be used?

A) Deciding whether to replace existing machinery or keep the old
B) Deciding whether to buy a new delivery truck
C) Deciding which of three pieces of safety equipment should be purchased in order to comply with state regulations
D) Deciding whether to invest in a new warehouse or an updated computer system

Question 52

An asset is purchased for $40,000. It is expected to provide an additional $10,000 of annual net cash inflows. The asset has a 10-year life and an expected salvage value of $3,300. The hurdle rate is 10%. The present value of an annuity factor of 10% for 10 years is 6.1446. The present value of $1 discounted for 10 years at 10% is 0.3855. Given the data provided, the net present value of the investment is approximately:

A) $62,718
B) $22,718
C) $21,446
D) $0

Question 53

A company's hurdle rate is the:

A) Unadjusted rate of return on a capital investment
B) True rate of return on a capital investment
C) Internal rate of return on a capital investment
D) Minimum rate of return that an investment must provide in order to be acceptable

Question 54

Hildale Hotels has been told that it must install a fire sprinkler system. System A would cost $400,000 immediately, but it would not add to annual operating costs. System B costs only $250,000, but it would add $25,000 a year to operating costs. Both systems have a useful life of 10 years. The hotel's hurdle rate is 12%. Given the data provided, with a present value of an annuity for 10 years at 12% of 5.650 and a present value of $1 for 10 years at 12% of 0.322, the company should:

A) Select System A
B) Select System B
C) Be indifferent about the two alternatives
D) Try to obtain additional data; as is, the answer cannot be determined

Question 55

Linex Corporation is considering the purchase of a new machine that costs $18,000, has an expected useful life of 10 years, and has no salvage value. Linex estimates that the machine will save the company $3,000 per year over the 10-year life. The company's hurdle rate is 12%. The present value annuity factors of 10, 12, and 14% for 10 years are 6.145, 5.650, and 5.216, respectively. The present value of $1 discounted for 10 years at 12% is 0.322. Given the data provided, the internal rate of return on the machine is:

A) Less than 10%
B) Between 10% and 12%
C) Between 12% and 14%
D) Greater than 14%

Question 56

Linex Corporation is considering the purchase of a new machine that costs $18,000, has an expected useful life of 10 years, and has no salvage value. Linex estimates that the machine will save the company $3,000 per year over the 10-year life. The company's hurdle rate is 12%. The present value annuity factors of 10, 12, and 14% for 10 years are 6.145, 5.650, and 5.216, respectively, and the present value of $1 discounted for 10 years at 12% is 0.322. Given the data provided, the net present value of the machine is:

A) $435
B) $(1,050)
C) $(2,358)
D) $(8,340)

Question 57

The internal rate of return capital budgeting method uses the same formula as which of the following?

A) The payback method
B) The unadjusted rate of return method
C) The accounting rate of return method
D) The net present value method

Question 58

Which of the following capital budgeting methods considers the time value of money?

A) Internal rate of return method
B) Net present value method
C) Unadjusted rate of return
D) Both the internal rate of return method and the net present value method

Question 59

Which of the following would have the greatest impact on the net present value of an investment?

A) The initial cost of the investment is understated by $7,000
B) The net annual cash inflows are understated by $1,400 for 5 years
C) The salvage value is understated by $7,000
D) All of these should have the same impact

Question 60

The internal rate of return and the net present value methods for making capital budgeting decisions are superior to the payback method because they:

A) Require less input
B) Are easier to implement
C) Consider the time value of money
D) Reflect depreciation and income taxes

Question 61

An asset is purchased for $120,000. It is expected to provide an additional $28,000 of annual net cash inflows. The asset has a 10-year life and an expected salvage value of $12,000. The hurdle rate is 10%. The present value of an annuity factor of 10% for 10 years is 6.1446, and the present value of $1 discounted for 10 years at 10% is 0.3855. The present value of annuity factors at 10% for 3, 4, 5, 6, 7, 8, and 9 years are 2.4869, 3.1699, 3.7908, 4.3553, 4.8684, 5.3349, and 5.7590, respectively. The minimum useful life that would provide a 10% return is between:

A) 3 and 4 years
B) 5 and 6 years
C) 7 and 8 years
D) 9 and 10 years

Question 62

Which of the following items would NOT have an impact on income taxes related to a capital budgeting decision?

A) Extra revenue generated by a new machine
B) Deductions for the cost of the new machine
C) Depreciation on a new machine
D) All of these impact income taxes

Question 63

The use of a profitability index is required when ranking projects for capital rationing under which method?

A) Internal rate of return method
B) Payback method
C) Net present value method
D) Unadjusted rate of return method

Question 64

When a company has an opportunity to invest in several projects but has limited resources, it should select those projects with the highest:

A) Net present value
B) Net annual cash inflows
C) Profitability index
D) Annual cash inflows

Question 65

Which of the following are correct capital budgeting decision rules when using the profitability index (PI)?

A) PI < 1, invest; PI_a > PI_b, pick a, etc.
B) PI = 1, invest; PI_a > PI_b, pick a, etc.
C) PI < 1, don't invest; PI_b > PI_a, pick a, etc.
D) PI > 1, invest; PI_a > PI_b, pick a, etc.

Question 66

Pulaski Corporation is considering a capital investment that has a profitability index of 1.2. If the initial investment is $1,200,000, the net present value must be:

A) $240,000
B) $1,000,000
C) $1,440,000
D) $1,680,000

Question 67

Which method is preferred for capital rationing?

A) Internal rate of return method
B) Payback method
C) Net present value method
D) Both internal rate of return method and net present value method

Question 68

Allin Company is considering two projects. Project W has an investment cost of $15,000 and a present value of net cash inflows of $21,000. Project T has an investment cost of $20,000 and a present value of net cash inflows of $29,000. Due to limited resources, Allin can invest in only one project. What should Allin do?

A) Invest in Project W
B) Invest in Project T
C) Invest in either Project W or Project T because both have positive net present values
D) The answer cannot be determined

Question 69

A profitability index is a method of:

A) Ranking alternative projects using net present values
B) Ranking alternative projects using internal rate of return
C) Screening alternative projects using internal rate of return
D) Screening alternative projects using net present value

Question 70

Collins Company is considering the purchase of a new machine. The initial investment in the machine was $39,000 and the present value of net cash inflows is $45,500. The profitability index is:

A) 7.00
B) 6.00
C) 1.17
D) 0.86

Question 71

Boggs Corporation is considering the purchase of a machine with an initial cost of $26,000, a useful life of 10 years, and a salvage value of $2,000. The company desires a 12% rate of return. Given the data provided, at a present value of an annuity for 10 years at 12% of 5.650 and a present value of $1 for 10 years at 12% of 0.322, the machine should be purchased only if annual net cash inflows are:

A) Greater than $4,487
B) Greater than $2,400
C) Greater than $2,600
D) Greater than $2,000

Question 72

The process of determining which investment is best among acceptable alternatives is:

A) The ranking function
B) The screening function
C) The selecting function
D) The rationing function

Question 73

Blakeley Company is considering the following six capital investment projects: Blakeley has a minimum required rate of return of 12%. Given this information, what ranking should Blakeley use on the capital investment projects?

A) C, A, F, D,
B) A, B, C, D,
C) D, C, B, E,
D) D, C, A, F

Question 74

A company may decide to invest in a project even if the investment returns less than the cost of capital. The qualitative reasons for doing so include all BUT which of the following?

A) To improve product quality
B) To deliver products to customers faster
C) To increase managers' bonuses
D) To reduce the number of defective products produced

Question 75

The technique used to consider a range of possibilities in capital budgeting decisions is called:

A) Discounted cash flow
B) Net present value
C) Sensitivity analysis
D) Ranking

Question 76

Which of the following is NOT typically a qualitative factor that management must consider in strategic and capital investment decisions?

A) Environmental concerns
B) Cost efficiency
C) Government regulations
D) Owner preferences

Question 77

Stanley Company invested in an asset with a useful life of 4 years and no salvage value. The company's expected rate of return is 12%. The cash inflows and present value factors for 4 years are as follows: If the asset generates a positive net present value of $3,000, what was the amount of the original investment?

A) $8,036
B) $28,050
C) $31,050
D) $34,050

Question 78

Windham Company is considering a project with annual cash inflows of $3,000 a year, an estimated life of 12 years, no salvage value, and a net present value of $(7,088). If the present value of an annuity factor used to calculate the net present value was 6.222, the initial investment is:

A) $17,500
B) $18,666
C) $25,754
D) $30,000

Question 79

Sensitivity analysis can be used to evaluate the uncertainty of:

A) Expected cash flows
B) Expected useful life
C) Expected salvage value
D) All of these are correct

Question 80

An asset is purchased for $50,000. It is expected to provide an additional $12,000 of annual net cash inflows. The asset has a 10-year life and an expected salvage value of $4,000. The hurdle rate is 10%. The present value of an annuity factor of 10% for 10 years is 6.1446, and the present value of $1 discounted for 10 years at 10% is 0.3855. Given the data provided, the minimum amount of annual cash inflows that would provide the 10% return is approximately:

A) $7,500
B) $7,900
C) $8,150
D) $8,500