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Exam 13: Capital Budgeting Decisions

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Question 51

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A weakness of the internal rate of return method for screening investment projects is that it:

A) does not consider the time value of money.
B) implicitly assumes that the company is able to reinvest cash flows from the project at the company's discount rate.
C) implicitly assumes that the company is able to reinvest cash flows from the project at the internal rate of return.
D) does not take into account all of the cash flows from a project.

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

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Question 52

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Information on four investment proposals is given below: Rank the proposals in terms of preference according to the project profitability index:

A) 3,4,1,2
B) 1,2,3,4
C) 1,3,2,4
D) 2,1,4,3

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

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Question 53

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(Ignore income taxes in this problem. ) Lajeunesse Limos,Inc. ,is considering the purchase of a limousine that would cost $195,661,would have a useful life of 9 years,and would have no salvage value.The limousine would bring in cash inflows of $47,000 per year in excess of its cash operating costs. Required: Determine the internal rate of return on the investment in the new limousine.Show your work!

108.(Ignore income taxes in this problem. ) Ursus,Inc. ,is considering a project that would have a ten-year life and would require a $1,000,000 investment in equipment.At the end of ten years,the project would terminate and the equipment would have no salvage value.The project would provide net operating income each year as follows: All of the above items,except for depreciation of $100,000 a year,represent cash flows.The depreciation is included in the fixed expenses.The company's required rate of return is 12%. Required: a.Compute the project's net present value. b.Compute the project's internal rate of return to the nearest whole percent. c.Compute the project's payback period. d.Compute the project's simple rate of return. Answer: a.Since depreciation is the only noncash item on the income statement,the annual net cash flow can be computed by adding back depreciation to net operating income. b.The formula for computing the factor of the internal rate of return (IRR) is: Investment required / Annual net cash inflow = Factor of the IRR To the nearest whole percent,the internal rate of return is 27%. c.The formula for the payback period is: Investment required / Annual net cash inflow = Payback period $1,000,000 / $300,000 = 3.33 years d.The formula for the simple rate of return is: Net operating income /Initial investment = Simple rate of return $200,000 / $1,000,000 = 20.0% -(Ignore income taxes in this problem. ) Prince Company's required rate of return is 10%.The company is considering the purchase of three machines,as indicated below.Consider each machine independently. Required: a.Machine A will cost $25,000 and have a life of 15 years.Its salvage value will be $1,000,and cost savings are projected at $3,500 per year.Compute the machine's net present value. b.How much will Prince Company be willing to pay for Machine B if the machine promises annual cash inflows of $5,000 per year for 8 years? c.Machine C has a projected life of 10 years.What is the machine's internal rate of return,to the nearest whole percent,if it costs $30,000 and will save $6,000 annually in cash operating costs? Would you recommend purchase? Explain.

(Ignore income taxes in this problem. ) Steinmann Inc.is considering the acquisition of a new machine that costs $410,000 and has a useful life of 5 years with no salvage value.The incremental net operating income and incremental net cash flows that would be produced by the machine are: -The present value of the stream of annual net cash inflows from operations is:

(Ignore income taxes in this problem. ) Corin Corporation is considering the purchase of a machine that would cost $420,000 and would last for 8 years.At the end of 8 years,the machine would have a salvage value of $97,000.The machine would reduce labor and other costs by $76,000 per year.The company requires a minimum pretax return of 16% on all investment projects. Required: Determine the net present value of the project.Show your work!

(Ignore income taxes in this problem. ) Masone Inc.has provided the following data concerning a proposed investment project: The company uses a discount rate of 10%. Required: Compute the net present value of the project.

The payback period is the length of time it takes for an investment to recoup its initial cost out of the cash receipts it generates.

(Ignore income taxes in this problem. ) Purvell Company has just acquired a new machine.Data on the machine follow: The company uses straight-line depreciation and a $5,000 salvage value.(The company considers salvage value in making depreciation deductions. ) Assume cash flows occur uniformly throughout a year. -The payback period would be closest to:

(Ignore income taxes in this problem. ) Ferris Company has an old machine that is fully depreciated but has a current salvage value of $5,000.The company wants to purchase a new machine which would cost $60,000 and have a 5-year useful life and zero salvage value.Expected changes in annual revenues and expenses if the new machine is purchased are: Required: a.Compute the payback period on the new equipment. b.Compute the simple rate of return on the new equipment.

(Ignore income taxes in this problem) The management of Rousseau Corporation is considering the purchase of a machine that would cost $340,000,would last for 8 years,and would have no salvage value.The machine would reduce labor and other costs by $67,000 per year.The company requires a minimum pretax return of 15% on all investment projects.The net present value of the proposed project is closest to:

(Ignore income taxes in this problem. ) Anne,Inc. ,is considering the purchase of a machine that would cost $200,000 and would last for 8 years.At the end of 8 years,the machine would have a salvage value of $46,000.The machine would reduce labor and other costs by $31,000 per year.Additional working capital of $7,000 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 8% on all investment projects. -The combined present value of the working capital needed at the beginning of the project and the working capital released at the end of the project is closest to:

(Ignore income taxes in this problem. ) Fast Food,Inc. ,has purchased a new donut maker.It cost $16,000 and has an estimated life of 10 years.The following annual donut sales and expenses are projected: -The payback period on the new machine is closest to:

(Ignore income taxes in this problem. ) Steinmann Inc.is considering the acquisition of a new machine that costs $410,000 and has a useful life of 5 years with no salvage value.The incremental net operating income and incremental net cash flows that would be produced by the machine are: -The payback period of this investment is closest to:

(Ignore income taxes in this problem. ) Jarvey Company 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: The company's required rate of return is 12%.What is the payback period for this project?

(Ignore income taxes in this problem) The management of Boie Corporation is considering the purchase of a machine that would cost $330,980 and would have a useful life of 6 years.The machine would have no salvage value.The machine would reduce labor and other operating costs by $76,000 per year.The internal rate of return on the investment in the new machine is closest to:

(Ignore income taxes in this problem. ) How is depreciation handled by the following capital budgeting techniques?

(Ignore income taxes in this problem. ) Tighe Corporation is contemplating purchasing equipment that would increase sales revenues by $420,000 per year and cash operating expenses by $231,000 per year.The equipment would cost $747,000 and have a 9 year life with no salvage value.The annual depreciation would be $83,000.The simple rate of return on the investment is closest to:

(Ignore income taxes in this problem. ) The management of Lassonde Corporation is considering the purchase of a machine that would cost $290,000,would last for 9 years,and would have no salvage value.The machine would reduce labor and other costs by $56,000 per year.The company requires a minimum pretax return of 8% on all investment projects. -The present value of the annual cost savings of $56,000 is closest to:

(Ignore income taxes in this problem. ) Isomer Industrial Training Corporation is considering the purchase of new presentation equipment at a cost of $150,000.The equipment has an estimated useful life of 10 years with an expected salvage value of zero.The equipment is expected to generate net cash inflows of $35,000 per year in each of the 10 years.Isomer's discount rate is 16%.Isomer uses the straight-line method of depreciation for its assets. -What is the simple rate of return of the presentation equipment?