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Exam 10: Capital Investment Analysis

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Question 31

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Methods that ignore present value in capital investment analysis include the average rate of return method.

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Question 32

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Match the term with the correct definition.

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accounting rate of return

A formal means of analyzing long-range investment decisions.

net present value

The length of time it will take to recover through cash inflows the dollars of a capital outlay.

internal rate of return

The decision model that computes the expected net monetary gain or loss from a project by discounting all expected future cash inflows and outflows to their present value, using a minimum desired rate of return.

capital investment analysis

A measure of profitability computed by dividing the average operating income that an asset generates by the average amount of the investment in the asset.

payback period

A stream of equal cash flow amounts.

annuity

The rate of return that makes the net present value of a project equal to zero.

Premises

accounting rate of return

net present value

internal rate of return

capital investment analysis

payback period

annuity

Responses

A formal means of analyzing long-range investment decisions.

The length of time it will take to recover through cash inflows the dollars of a capital outlay.

The decision model that computes the expected net monetary gain or loss from a project by discounting all expected future cash inflows and outflows to their present value, using a minimum desired rate of return.

A measure of profitability computed by dividing the average operating income that an asset generates by the average amount of the investment in the asset.

A stream of equal cash flow amounts.

The rate of return that makes the net present value of a project equal to zero.

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Correct Answer

Premises

Responses

accounting rate of return

net present value

internal rate of return

capital investment analysis

payback period

annuity

Premises

accounting rate of return

net present value

internal rate of return

capital investment analysis

payback period

annuity

Responses

Question 33

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Match each of the following terms with the best definition given below.

For years one through five, a proposed expenditure of $250,000 for a fixed asset with a 5-year life has expected net income of $40,000, $35,000, $25,000, $25,000, and $25,000, respectively, and net cash flows of $90,000, $85,000, $75,000, $75,000, and $75,000, respectively. The cash payback period is 3 years.

Identify four capital investment analysis models discussed in the chapter and discuss the strengths and weaknesses of each model.

The management of Indiana Corporation is considering the purchase of a new machine costing $400,000. The company's desired rate of return is 10%. The present value factors for $1 at compound interest of 10% for 1 through 5 years are 0.909, 0.826, 0.751, 0.683, and 0.621, respectively. In addition to the foregoing information, use the following data in determining the acceptability in this situation: The average rate of return for this investment is:

The expected average rate of return for a proposed investment of $500,000 in a fixed asset, with a useful life of four years, straight-line depreciation, no residual value, and an expected total net income of $240,000 for the 4 years, is:

An 6-year project is estimated to cost $350,000 and have no residual value. If the straight-line depreciation method is used and the average rate of return is 12%, determine the estimated annual net income.

Which of the following is not an advantage of the average rate of return method?

A qualitative characteristic that may impact upon capital investment analysis is manufacturing flexibility.

Below is a table for the present value of $1 at compound interest. Below is a table for the present value of an annuity of $1 at compound interest. Using the tables above, what would be the present value of $15,000 (rounded to the nearest dollar) to be received at the end of each of the next two years, assuming an earnings rate of 6%?

The management of River Corporation is considering the purchase of a new machine costing $380,000. The company's desired rate of return is 6%. The present value factor for an annuity of $1 at interest of 6% for 5 years is 4.212. In addition to the foregoing information, use the following data in determining the acceptability in this situation: The net present value for this investment is:

If in evaluating a proposal by use of the net present value method there is an excess of the present value of future cash inflows over the amount to be invested, the rate of return on the proposal is less than the rate used in the analysis.

Methods that ignore present value in capital investment analysis include the internal rate of return method.

Which of the following is not considered as a complicating factor in capital investment decisions?

A company is considering purchasing a machine for $21,000. The machine will generate income from operations of $2,000; annual cash flows from the machine will be $3,500. The payback period for the new machine is 10.5 years.

The production department is proposing the purchase of an automatic insertion machine. They have identified 3 machines and have asked the accountant to analyze them to determine the best average rate of return.

Using the following partial table of present value of $1 at compound interest, determine the present value of $20,000 to be received four years hence, with earnings at the rate of 10% a year:

A company is considering purchasing a machine for $21,000. The machine will generate income from operations of $2,000; annual cash flows from the machine will be $3,500. The payback period for the new machine is 6 years.

Which of the following are present value methods of analyzing capital investment proposals?