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Exam 16: Planning for Capital Investments

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Question 81

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Shenandoah Springs Company is considering two investment opportunities whose cash flows are provided below: $\begin{array} { l r r } \text { Year } & \text { Investment A} &\text { Investment B} \\ 0 & \$ ( 15,000 ) & \$ ( 9,000 ) \\1 & 5,000 & 5,000 \\2& 5,000 & 4,000 \\3 & 5,000 & 3,000 \\4&4,000 & 1,000\end{array}$ The company's hurdle rate is 12%. What is the present value index of Investment B? (PV of $1and PVA of $1) (Use appropriate factor(s) from the tables provided. 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 are correct.

E) B) and C)
F) C) and D)

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Question 82

Multiple Choice

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Shenandoah Springs Company is considering two investment opportunities whose cash flows are provided below: $\begin{array}{ccc}\text { Year } & \text { Investment A} &\text { Investment B} \\0 & \$(18,000) & \$(12,600) \\1 & 6,080 & 6,080 \\2 & 6,080 &4,960 \\3 &6,080 & 4,320 \\4 & 4,960 & 2,440\end{array}$ The company's hurdle rate is 10%. What is the present value index of Investment B? (PV of $1and PVA of $1) (Use appropriate factor(s) from the tables provided. Do not round intermediate calculations. Round your answer to two decimal points.)

A) 1.07
B) 1.15
C) 1.00
D) None of these answers is correct.

E) A) and B)
F) A) and C)

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Question 83

True/False

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The payback method of evaluating capital investments measures the recovery of the investment, but it does not measure profitability.

Which of the following statements concerning payback analysis is true?

Assuming equal time intervals between the payments and a constant rate of return, which of the following cash flow patterns represents an annuity? $\begin{array}{rrrrrrr}&\text { Year } & \text { Year } & \text { Year } & \text { Year } 4 & \text { Year }5& \text { Year } 6 \\\text {A) }&\$ 1,360 & \$ 1,360 & \$ 1,360 & \$ 1,360 & \$ 1,360 & \$ 1,360 \\\text {B) }&\$ 1,040 & \$ 0 & \$ 1,040 & \$ 1,040 & \$ 1,040 & \$0\\\text {C) }&\$280&\$380&\$480&\$580&\$680&\$780\end{array}$

Which of the following statements describes the cost of capital?

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? (PV of $1and PVA of $1) (Use appropriate factor(s) from the tables provided. Do not round your intermediate calculations. Round your answer to the nearest dollar.)

Theresa is considering starting a small business. She plans to purchase equipment costing $143,000. Rent on the building used by the business will be $23,000 per year while other operating costs will total $28,800 per year. A market research specialist estimates that Theresa's annual sales from the business will amount to $87,000. 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?

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

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%? (PV of $1and PVA of $1) (Use appropriate factor(s) from the tables provided.)

Jiminez Company has two investment opportunities. Both investments cost $5,100 and will provide the following net cash flows: $\begin{array}{lcc}\text { Year }& \text { Investment A} & \text { Investment B} \\1 & \$ 3,050 & \$ 3,050 \\2 & 3,050 & 4,060 \\3 & 3,050 & 2,050 \\4 & 3,050 & 1,020\end{array}$ What is the total present value of Investment A's cash flows assuming an 10% minimum rate of return? (PV of $1and PVA of $1) (Use appropriate factor(s) from the tables provided. Do not round intermediate calculations. Round your answer to the nearest dollar.)

The time value of money concept recognizes the fact that the present value of a dollar to be received in the future is worth more than a dollar.

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

Neighbors Company is considering the purchase of new equipment that will cost $130,000. The equipment will save the company $38,000 per year in cash operating costs. The equipment has an estimated useful life of five years and a zero expected salvage value. The company's cost of capital is 10%.(PV of $1and PVA of $1) (Use appropriate factor(s) from the tables provided.)Required:Ignoring income taxes, compute the net present value and internal rate of return. Round net present value to the nearest dollar and round internal rate of return to the nearest whole percent.Should the equipment be purchased? Why or why not?

Indicate whether each of the following statements is true or false. The further into the future a cash receipt is expected to occur, the higher is its present value. ______The return on investment measures the compensation a company expects to receive from investing in capital assets. ______Most companies use their cost of capital to estimate the minimum return on investment required from capital investments. ______When a company invests in capital assets, it sacrifices present dollars for the opportunity to receive future dollars. ______ The required rate of return on a capital investment is also referred to as the hurdle rate or discount rate. ______

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 the average investment will be:

Seven Day Mini Mart is considering installing video games in its stores. The machines cost $300,000 and have an estimated six-year useful life. Ignore income taxes. The following projected income statement is provided: Required:Seven Day Mini Mart would like to recoup its original investment in less than five years. Compute the payback period for the video game machine investment. Would you recommend that the machines be purchased? Why or why not?Seven Day Mini Mart's target unadjusted rate of return is 12%. Compute the unadjusted rate of return on the original investment. Would you recommend that the machines be purchased? Why or why not?

Columbus Company is considering a project that requires an initial investment of $400,000. Its incremental cash flows are expected to be $150,000 per year for 5 years. The project would be depreciated on a straight-line basis over 5 years with no expected salvage value. The company has a stated policy that all projects must return their required investment dollars within the first 75% of the project's life. The company is subject to a 40% income tax rate, and its cost of capital is 10%. (PV of $1and PVA of $1) (Use appropriate factor(s) from the tables provided.)Required:Compute the project's after-tax net cash flows (NCF) by completing the following table:

Bruce Company is considering replacing one of its delivery trucks. The truck in question was purchased two years ago at a cost of $41,000. At the time of purchase the truck was expected to have a $5,000 salvage value at the end of its six-year life. Given the use of straight-line depreciation, the truck has a current book value of $29,000. If sold today, the company could get $22,000 for the truck. It costs $20,000 per year to operate the existing truck. The new truck would cost $46,000 and would cost only $14,000 per year to operate. The new truck would be depreciated on a straight-line basis over its four-year useful life to its expected salvage value of $10,000. The company's required rate of return is 14%. Ignore income taxes. (PV of $1and PVA of $1) (Use appropriate factor(s) from the tables provided.)Required:Identify the cash flows for each alternative by completing the following table:

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