Deck 16: Planning for Capital Investments

Question 1

When calculating the present value of an ordinary annuity, it is assumed that:

A) cash flows will be reinvested at the required rate of return.
B) cash flows occur at the end of each accounting period.
C) the investor will wait until the end of the investment period to withdraw cash flows.
D) cash flows will be reinvested at the required rate of return and cash flows occur at the end of each accounting period.

Answer 1

D
Explanation: In practice, cash flows are likely to be received throughout the period, not just at the end. However, the methods for computing the present value of an annuity discussed in the text assume the cash flows occur at the end of each accounting period. In addition, it is assumed that the cash flows are reinvested at the required rate of return.

Question 2

What amount of cash must be invested today in order to have $60,000 at the end of one year assuming the rate of return is 9%?

A) $45,455
B) $54,000
C) $55,046
D) $54,600

Answer 2

C

Question 3

Ashley projects that she can get $100,000 cash per year for 5 years on a real estate investment project. If Ashley wants to earn a rate of return of 12%, what is the maximum that she should pay for the investment? . (Round your answer to the nearest dollar.)

A) $56,743
B) $446,429
C) $360,478
D) $560,000

Answer 3

C

Question 4

Connor has $300,000 to invest in a 5-year annuity. Assuming the time value of money is 10%, what amount will Connor receive in cash each year? . (Round your answer to the nearest dollar.)

A) $79,139
B) $60,000
C) $96,631
D) None of these answers is correct.

Question 5

Which one of the following statements best describes an ordinary annuity?

A) Series of cash inflows of varying amounts collected at the end of each period
B) Series of cash flows of equal amounts collected at the end of each period
C) Series of cash flows of varying amounts collected at the beginning of each period
D) Series of cash flows of equal amounts collected at the beginning of each period

Question 6

A cash flow that only occurs in equal amounts each year is referred to as:

A) a lump sum.
B) a perpetuity.
C) an annuity.
D) None of these.

Question 7

Which of the following is not a major cash inflow from a capital investment?

A) Incremental revenue
B) Increase in working capital
C) Cost savings
D) Salvage value

Question 8

Which of the following is not a factor in explaining why the present value of a future dollar is less than one dollar?

A) Inflation
B) Interest
C) Risk of failure to receive expected cash inflows
D) Historic cost

Question 9

A customary assumption in capital budgeting analysis is that:

A) the desired rate of return includes the effects of compounding.
B) the cash inflows generated by the investment are not reinvested.
C) annual cash flows occur at the beginning of each period.
D) the time value of money is ignored.

Question 10

Which of the following statements describes the cost of capital?

A) The internal rate of return on investments
B) The maximum acceptable rate of return on investments
C) The minimum rate of return on investments
D) The interest rate the bank charges its best customers

Question 11

Jiminez Company has two investment opportunities. Both investments cost $5,000 and will provide the following net cash flows: What is the net present value of Investment A's cash flows assuming an 8% minimum rate of return? Use Appendix Table 2. (Do not round your intermediate calculations. Round your answer to the nearest whole dollar.)

A) $14,936.
B) $4,936.
C) $7,000.
D) $12,000.

Question 12

For a capital investment project to be acceptable, it must generate a rate of return:

A) less than the hurdle rate.
B) equal to or greater than the cost of capital.
C) equal to the conversion rate.
D) none of these answers is correct.

Question 13

Which statement characterizes the time value of money concept?

A) The future value of a present dollar is greater than one dollar.
B) The present value of a future dollar is greater than one dollar.
C) The timing of cash flows is not relevant to decision making.
D) None of these answers is correct.

Question 14

Morrisey Company has two investment opportunities. Both investments cost $5,500 and will provide the same total future cash inflows. The cash receipt schedule for each investment is given below: What is the net present value of Investment II assuming an 8% minimum rate of return? Use Appendix Table 2. (Do not round your intermediate calculations. Round your answer to nearest whole dollar.)

A) $6,492
B) $992
C) $5,880
D) $380

Question 15

Harvey wants to determine the net present value for a proposed capital investment. He has determined the desired rate of return, the expected investment time period, a series of cash inflows of equal amount, the salvage value of the investment, and the required cash outflows. Which of the following tables would most likely be used to calculate the net present value of the investment?

A) Present value of annuity.
B) Future value of a lump sum.
C) Present value of annuity and present value of a lump sum.
D) Future value of annuity and future value of a lump sum.

Question 16

The cost of capital is called all of the following except:

A) cutoff rate.
B) discount rate.
C) hurdle rate.
D) All of these are terms for the cost of capital.

Question 17

What amount of cash would result at the end of one year, if $15,000 is invested today and the rate of return is 8%?

A) $16,200
B) $13,889
C) $15,000
D) $1,200

Question 18

All of the following are capital investment decisions except:

A) acquiring $100,000 of common stock.
B) buying a $5,000,000 manufacturing plant.
C) purchasing equipment for $80,000.
D) paying $600,000 to renovate a restaurant.

Question 19

Evergreen Company has two investment opportunities. Both investments cost $5,000 and will provide the same total future cash inflows. The cash receipt schedule for each investment is given below: Select the correct statement.

A) Evergreen should choose Investment I because of the time value of money.
B) Evergreen should choose Investment II because it generates more immediate cash inflows.
C) Evergreen should be indifferent between the two investments because they provide the same total cash inflows.
D) Time value of money techniques are not useful for comparing these investments.

Question 20

Assuming equal time intervals between the payments and a constant rate of return, which of the following cash flow patterns represents an annuity?

A) A
B) B
C) C
D) Any of the answers can represent an annuity.

Question 21

Shenandoah Springs Company is considering two investment opportunities whose cash flows are provided below: The company's hurdle rate is 12%. What is the present value index of Investment B? Use Appendix Table 1. (Do not round your intermediate calculations. Round your answer to two decimal points.)

A) 1.01
B) 1.16
C) 0.86
D) None of these answers is correct.

Question 22

An investment that costs $40,000 will produce annual cash flows of $12,000 for a period of 4 years. Given a desired rate of return of 10%, what will the investment generate? Use Appendix Table 2. (Do not round your intermediate calculations. Round your answer to the nearest whole dollar.)

A) A positive net present value of $38,038.
B) A positive net present value of $1,962.
C) A negative net present value of $38,038.
D) A negative net present value of $1,962.

Question 23

An investment that costs $20,000 will produce annual cash flows of $5,000 for a period of 6 years. Further, the investment has an expected salvage value of $3,000. Given a desired rate of return of 12%, what will the investment generate? Use Appendix Table 2. (Do not round your intermediate calculations. Round your answer to the nearest whole dollar.)

A) A positive net present value of $2,077.
B) A negative net present value of $2,077.
C) A positive net present value of $22,077.
D) A positive net present value of $557.

Question 24

An investment that costs $5,000 will produce annual cash flows of $2,000 for a period of 4 years. Given a desired rate of return of 8%, what is the present value index? Use Appendix Table 2. (Do not round your intermediate calculations. Round your answer to three decimal points.)

A) 0.755.
B) 1.600.
C) 2.500.
D) 1.325.

Question 25

Cash outflows can be categorized into all of the following groups except:

A) opportunity costs associated with selecting a specific capital project.
B) outflows associated with the initial investment.
C) working capital commitments.
D) increases in operating expenses.

Question 26

Select the incorrect statement concerning the present value index (PVI).

A) The PVI is computed by dividing the total present value of the cash inflows by the present value of the cash outflows.
B) The PVI should be used to evaluate two or more projects whose initial investments differ.
C) The lower the PVI, the better.
D) A project whose PVI is positive will also have a positive net present value.

Question 27

The rate of return that equates the present value of cash inflows and outflows is the:

A) minimum rate of return.
B) internal rate of return.
C) desired rate of return.
D) hurdle rate.

Question 28

An investment that cost $30,000 provided annual cash inflows of $9,000 per year for five years. The desired rate of return is 10%. What is the internal rate of return from the investment?

A) less than the desired rate of return.
B) equal to the desired rate of return.
C) greater than the desired rate of return.
D) the answer cannot be determined from the information provided.

Question 29

Cash outflows from a capital investment project include:

A) increases in operating expenses.
B) the reduction in the amount of working capital.
C) terminal salvage value.
D) all of these answers are correct.

Question 30

Select the incorrect statement concerning the internal rate of return (IRR) method of evaluating capital projects.

A) The higher the IRR the better.
B) The internal rate of return is that rate that makes the present value of the initial outlay equal to zero.
C) If a project has a positive net present value then its IRR will exceed the hurdle rate.
D) A project whose IRR is less than the cost of capital should be rejected.

Question 31

Which of the following would be considered a cash inflow in determining the value of a capital investment?

A) Incremental revenues from increased productivity
B) Cost savings from a reduction in labor hours
C) An increase in working capital commitments
D) Both incremental revenues from increased productivity and cost savings from a reduction in labor hours are correct.

Question 32

Newton Company is considering the purchase of an asset that will provide a depreciation tax shield of $10,000 per year for 10 years. Assuming the company is subject to a 40% tax rate during the period, and a zero salvage value, what is the depreciable cost of the new asset?

A) $100,000
B) $250,000
C) $400,000
D) Can't be determined from the information provided

Question 33

Mendez Company is considering a capital project that costs $16,000. The project will deliver the following cash flows: Using the incremental approach, the payback period for the investment is:

A) 5 Years.
B) 2 Years.
C) 2.4 Years.
D) 1.66 Years.

Question 34

Weston Company is considering a capital project that delivers a $50,000 annual net cash flow before tax. The investment will result in annual depreciation expense of $10,000 over the project's four-year useful life. Assuming a tax rate of 40%, what amount of annual after-tax net cash flow will be provided by this project?

A) $40,000
B) $16,000
C) $34,000
D) $24,000

Question 35

A capital investment project may provide cash inflows from:

A) incremental revenues.
B) cost savings.
C) the salvage value of the investment.
D) all of these answers are correct.

Question 36

George Company has the opportunity to purchase an asset that costs $40,000. The asset is expected to increase net income by $10,000 per year. Depreciation expense will be $5,000 per year. Based on this information the payback period is:

A) 4 years.
B) 2.5 years.
C) 2.67 years.
D) 8 years.

Question 37

Garrison Company has two investment opportunities. A cash flow schedule for the investments is provided below: Considering the unequal investments, which of the following techniques would be most appropriate for choosing between Investment A and Investment B?

A) Payback technique
B) Present value index
C) Net present value technique
D) None of these answers is correct.

Question 38

Which of the following is the approximate internal rate of return for an investment that costs $33,550 and provides a $5,000 annuity for 10 years?

A) 5%
B) 6%
C) 8%
D) 10%

Question 39

Theresa is considering starting a small business. She plans to purchase equipment costing $145,000. Rent on the building used by the business will be $26,000 per year while other operating costs will total $30,000 per year. A market research specialist estimates that Theresa's annual sales from the business will amount to $80,000. Theresa plans to operate the business for 6 years. Disregarding the effects of taxes, what will be the amount of annual net cash flow generated by the business?

A) $24,000
B) $56,000
C) $80,000
D) None of these answers is correct.

Question 40

Southport Company is considering the purchase of a piece of equipment that costs $100,000. The equipment would be depreciated on a straight-line basis to its expected salvage value of $10,000 over its 10 years useful life. Assuming a tax rate of 40%, what is the annual amount of the depreciation tax shield provided by this investment?

A) $4,000
B) $9,000
C) $3,600
D) None of these answers is correct.

Question 41

Langdon Company is considering purchasing a capital investment that is expected to provide annual cash inflows of $10,000 per year for 3 years. Assuming that Langdon's required rate of return is 8%, what is the present value of these cash inflows? Use Appendix Table 2. (Do not round your intermediate calculations. Round your final answer to the nearest dollar.)

A) $24,018
B) $24,869
C) $33,121
D) $25,771

Question 42

Benson Corporation is considering an investment in equipment that would cost $50,000 and provide annual cash inflows of $14,000. The company's required rate of return is 12%; the internal rate of return for the investment is 10.5%. Should the company make this investment?

A) No, since the internal rate of return is more than the company's required rate of return.
B) Yes, since the internal rate of return is less than the company's required rate of return.
C) No, since the internal rate of return is less than the company's required rate of return.
D) The answer cannot be determined.

Question 43

The review of a capital budgeting decision to determine whether a project was accepted that should have been rejected is referred to as:

A) an audit.
B) a preaudit.
C) a postaudit.
D) a capital review.

Question 44

Finnegan Company plans to invest in a new operating plant that is expected to cost $500,000. The projected incremental income from the investment is as follows: The unadjusted rate of return (based on average investment) would be approximately:

A) 16.0%.
B) 6.0%.
C) 16.7%.
D) 48.0%.

Question 45

Select the incorrect statement regarding postaudits of capital investment decisions.

A) A postaudit should be conducted at the end of the project.
B) The postaudit helps management determine whether a project that had been accepted should have been rejected.
C) A postaudit is only necessary for a capital investment selected using a technique that does not consider the time value of money.
D) The goal of a postaudit is to provide feedback that can be used to improve the accuracy of future capital investment decisions.

Question 46

Nguyen Company has an opportunity to purchase an asset that will cost the company $36,000. The asset is expected to add $12,000 per year to the company's net income. Assuming the asset has a five-year useful life and zero salvage value, the unadjusted rate of return (based on average investment) will be:

A) 60%.
B) 66%.
C) 15%.
D) none of these answers is correct.

Question 47

Paul Company is considering purchasing a capital investment that is expected to provide annual cash inflows of $12,000 per year for 3 years. Assuming that the required rate of return is 10%, what is the present value of these cash inflows? Use Appendix Table 2. (Do not round PV factors and intermediate calculations. Round your final answer to the nearest dollar.)

A) $9,016
B) $28,822
C) $29,842
D) $27,047

Question 48

Fenwick Company is considering purchase of equipment that costs $60,000 and is expected to offer annual cash inflows of $16,645 for 5 years. Fenwick Company's required rate of return is 10%. The internal rate of return of this investment project is closest to:

A) 12%.
B) 27%.
C) 17%.
D) 11%.

Question 49

Generro Company is considering the purchase of equipment that would cost $36,000 and offer annual cash inflows of $10,500 over its useful life of 5 years. Assuming a desired rate of return of 12%, is the project acceptable?

A) No, since the negative net present value indicates the investment will yield a rate of return below the desired rate of return.
B) Yes, since the investment will generate $52,500 in future cash flows, which is greater than the purchase cost of $36,000.
C) Yes, since the positive net present value indicates the investment will earn a rate of return greater than 12%.
D) The answer cannot be determined.

Question 50

Grayson Company is considering purchase of equipment that costs $49,000 and is expected to offer annual cash inflows of $13,000. Grayson's minimum required rate of return is 10%. How many years must the cash flows last for the investment to be acceptable? (Do not round your intermediate calculations. Round to nearest whole year.)

A) 4
B) 5
C) 3
D) 6

Question 51

The purposes of the postaudit for capital investments include all of the following except:

A) continuous improvement.
B) rewarding managers for increasing idle cash.
C) determining whether the project generated the results expected.
D) encouraging managers to closely scrutinize capital investment decisions.

Question 52

Kerwin Company is considering purchase of equipment that costs $50,000. If the useful life is expected to be 5 years and Crown's required rate of return is 12%, what is the minimum annual cash inflow that the equipment must offer for the investment to be acceptable? (Do not round your intermediate calculations. Round your final answer to the nearest dollar.)

A) $8,929
B) $13,870
C) $12,076
D) $17,623

Question 53

Saget Company is considering the purchase of equipment that would cost $35,000 and offer annual cash inflows of $10,500 over its useful life of 5 years. Assuming a required rate of return of 8%, what is the net present value of this investment opportunity?

A) $(6,923)
B) $17,500
C) $6,923
D) $41,923

Question 54

Findell Corporation is considering two projects, A and B, and it has gathered the following estimates for the projects: What is the net present value of cash flows for project B?

A) $7,360
B) $6,100
C) $1,260
D) None of these answers is correct.

Question 55

Which of the following statements concerning payback analysis is true?

A) An investment with a shorter payback is preferable to an investment with a longer payback.
B) The payback method ignores the time value of money concept.
C) The payback method and the unadjusted rate of return are different approaches that will not consistently lead to the same conclusion.
D) All of the other answers are correct.

Question 56

Six years ago, Neighborhood Hardware paid a contractor $45,000 to expand the store. At that time, the company calculated a net present value of about $6,000 for the expansion. Now, the company believes that the investment increased annual cash inflows by $8,000 per year for each of the six years. The company has a desired rate of return of 10%. Ignoring income tax considerations, what was the net present value actually achieved for this capital investment? (Do not round your intermediate calculations. Round your answer to the nearest dollar.)

A) ($10,158)
B) ($3,000)
C) $34,842
D) $(9,207)

Question 57

Cash outflows generated by capital investments include all of the following except:

A) depreciation expense
B) transportation costs
C) increased operating expenses
D) increase in the required amount of working capital

Question 58

Which of the following does not represent an advantage of the unadjusted rate of return over the payback method for evaluating capital projects?

A) The unadjusted rate of return method considers the investment's profitability.
B) The unadjusted rate of return method considers the time value of money.
C) The unadjusted rate of return is a percentage that can be compared to a stated hurdle rate.
D) None of these represents an advantage.

Question 59

Mr. J's Bagels invested in a new oven for $14,000. The oven reduced the amount of time for baking which increased production and sales for five years by the following amounts of cash inflows: Using the averaging method, the payback period for the investment in the oven would be:

A) 5.0 years.
B) 2.3 years.
C) 2.0 years.
D) 0.5 years.

Question 60

Which capital budgeting technique defines returns in terms of income instead of cash flows?

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

Question 61

The length of time required to recover the initial investment in a capital asset is known as the:

A) the rate of return.
B) investment period.
C) present value period.
D) payback period.

Question 62

Which method for evaluating capital investment proposals deducts the present value of cash outflows from the present value of cash inflows?

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

Question 63

Young Corporation is considering purchasing equipment that costs $80,000 and is expected to provide the following cash inflows over its five-year useful life: What is the payback period of this investment project (rounded to the nearest year)?

A) 2 years
B) 4 years
C) 3 years
D) 6 years

Question 64

The difference between an ordinary annuity and an annuity due is:

A) an ordinary annuity represents a present value and an annuity due represents a future value.
B) an ordinary annuity represents a future value and an annuity due represents a present value.
C) an ordinary annuity assumes the cash flows occur at the beginning of the period and an annuity due assumes the cash flows occur at the end of the period.
D) an ordinary annuity assumes the cash flows occur at the end of the period and an annuity due assumes the cash flows occur at the beginning of the period.

Question 65

The time value of money concept recognizes that a dollar today is worth more than a dollar tomorrow. Which of the following is not a factor in causing the present value of cash inflows to diminish over time?

A) Current expenses.
B) Earning potential, such as interest.
C) Risk of uncollectibility.
D) Inflation reduces future purchasing power.

Question 66

Which of the following statements is incorrect?

A) The further into the future a cash receipt is expected to occur, the lower is its present value.
B) The return on investment measures the compensation a company expects to receive from investing in capital assets.
C) Most companies use their cost of capital to estimate the minimum return on investment required from capital investments.
D) When a company invests in capital assets, it sacrifices future dollars for the opportunity to receive present dollars.

Question 67

Which of the following is not a criterion that is used to determine whether a project is acceptable under the net present value method?

A) If the net present value is equal to zero
B) If the net present value is greater than zero
C) If the net present value is equal to the required rate of return
D) None of these answers is correct.

Question 68

A series of equal cash flows at fixed intervals is termed a(n):

A) net cash flow.
B) lump sum.
C) annuity.
D) return on investment.

Question 69

Which of the following statements about postaudits is correct?

A) A postaudit should be conducted at the time a capital investment is purchased.
B) The postaudit of a capital investment project should be made using the same analytical technique that was used in deciding to make the investment.
C) The purpose of postaudits is to improve a company's cost-volume-profit analysis.
D) The postaudit process uses expected cash flows and the company's cost of capital.

Question 70

Joan Osborne is evaluating a potential capital investment. She has calculated the net present value using a minimum rate of return of 10%. Using this rate, the net present value is negative. What does this tell her about the rate of return expected for the project?

A) If the net present value is negative; the expected rate of return for the project is greater than the 10% minimum or required rate of return.
B) If the net present value is negative; the expected rate of return for the project is less than the 10% minimum or required rate of return.
C) If the net present value is negative; the expected rate of return for the project is equal to the 10% minimum or required rate of return.
D) None of the other answers are correct.

Question 71

Which method of evaluating capital investment decisions uses the concept of present value to compute a rate of return?

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

Question 72

Cash inflows generated by capital investments include all of the following except:

A) incremental revenues.
B) cost savings.
C) reduction in the amount of required working capital.
D) increase in operating expenses.

Question 73

Which of the following are not present value methods of analyzing capital investment proposals?

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

Question 74

The present value index indicates the:

A) time it will take to recover the initial cash outflow of an investment.
B) additional cash inflows from operating activities.
C) rate of return per dollar invested in a capital project.
D) ratio of the net present value of an investment to the initial investment.

Question 75

Seth Morrison is considering alternative proposals that involve different amounts of investments. To compare different size investment proposals, it may be helpful for Seth to prepare a relative ranking of the proposals by using a(n):

A) present value index.
B) net present value.
C) internal rate of return.
D) none of these answers is correct.

Question 76

Cash outflows generated by capital investments include all of the following except:

A) annual depreciation of the capital asset.
B) initial investment in the capital asset.
C) increase in operating expenses.
D) increase in the amount of required working capital

Question 77

Butch's Barbecue thinks that offering delivery will increase their sales. Butch's is considering whether to purchase a used delivery truck costing $12,000. Additional net income from the delivery service will be $1,400 per year. The truck will last approximately 5 years. What is the unadjusted rate of return based on the average investment?

A) About 58.3%
B) About 11.7%
C) About 23.3%
D) About 857.1%

Question 78

Findell Corporation is considering two projects, A and B, and it has gathered the following estimates for the project: What is the present value index for project A?

A) 1.096
B) 1.124
C) 0.889
D) 0.913

Question 79

Capital investment decisions involve all of the following, except:

A) the acquisition of short-term operational assets.
B) projects requiring relatively long periods of time and large cash flows.
C) the acquisition of long-term operational assets.
D) none of these answers is correct.

Question 80

The process by which management evaluates long-term investment decisions involving long term operational assets is called:

A) capital investment analysis.
B) activity based management.
C) strategic business analysis.
D) fixed cost analysis.