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Exam 10: Planning for Capital Investments

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Question 1

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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

E) A) and B)
F) None of the above

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Question 2

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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

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

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Question 3

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Generally,the unadjusted rate of return should be calculated based on the average investment rather than the amount of the original investment in a depreciable asset such as equipment.

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

Montana Company is evaluating two different capital investments,Project X and Y.Either X or Y would cost $210,000,and the company cannot afford to do both.The company expects that Project X would provide net cash inflows of $62,000 per year for 5 years.For Project Y,the net cash inflows are expected to be as follows: $\begin{array}{|l|r|}\hline \text { Year: } &\text { Cash inflows from Project Y } \\\hline 1&\$44,000\\\hline 2 & 48,000 \\\hline 3 & 60,000 \\\hline 4 & 76,000 \\\hline 5 & \underline { 80,000} \\\hline \text {Total}& \underline { \$ 308,000 } \\\hline \end{array}$ Montana's cost of capital is 12%. Required: 1)Calculate the present value index for Project X and for Project Y.Round your answer to three decimal places. 2)Indicate whether each of the projects is an acceptable investment. 3)Based on present value index,which of the two projects should Montana implement?

Describe how the unadjusted rate of return for a capital investment is calculated.Should it be based on the net cost of the investment or the average investment?

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?

Findell Corporation is considering two projects,A and B,and it has gathered the following estimates for the project $\begin{array}{|l|l|l|}\hline & \text { Project A } & \text { Project B } \\\hline \text { Useful life } & 5 \text { years } & 5 \text { years } \\\hline \text { Present value of cash inflows } & \$ 84,360 & \$ 55,100 \\\hline \text { Present value of cash outflows } & \$ 77,000 & \$ 49,000 \\\hline & & \\\hline\end{array}$ What is the present value index for project A?

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. )

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%. Required: 1)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. 2)Should the equipment be purchased? Why or why not?

Why is the time value of money often taken into account in analyzing a capital investment?

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

A customary assumption in capital budgeting analysis is that:

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: $\begin{array}{|l|r|r|}\hline \text { Video game revenue } & &\$ 100,000\\\hline \text {Less expenses: } \\\hline \text { Electricity, supplies, etc. } & \$ 2,000 \\\hline \text { Insurance } & 7,000 \\\hline \text { Maintenance } & 1,000 \\\hline \text { Depreciation } & \underline { 50,000} &\underline { 60,000 } \\\hline \text { Net income } &&\underline { \$40,000 } \\\hline\end{array}$ Required: 1)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? 2)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?

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

What is a postaudit of a capital investment decision,and how should the postaudit be conducted?

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%?

Which of the following statements describes the cost of capital?

If the net present value for a capital investment is equal to zero,the internal rate of return for the investment is equal to the required rate of return.

Bruce Company is considering replacing one of its delivery