Exam 12: Capital Budgeting: Principles and Techniques

A firm would accept a project with a net present value of zero because

The relevant cash flows for a proposed capital expenditure are the incremental after-tax cash outflows and resulting subsequent inflows.

Nuff Folding Box Company, Inc. is considering purchasing a new glueing machine. The glueing machine costs $50,000 and requires installation costs of $2,500. This outlay would be partially offset by the sale of an existing gluer. The existing gluer originally cost $10,000 and is four years old. It is being depreciated using the Class 10 CCA rate of 30% and can currently be sold for $15,000. The existing gluer has a remaining useful life of five years. If held until year 5, the existing machine's market value would be zero. Over its five-year life, the new machine should reduce operating costs (excluding depreciation) by $17,000 per year. The new machine will be depreciated using the Class 10 CCA rate of 30%. The firm has a 12 percent cost of capital and a 40 percent tax on ordinary income and capital gains. -The payback period for the project is (See Figure 12.7)

Accounting figures and cash flows are not necessarily the same, due to the presence of certain noncash expenditures on the firm's income statement.

One strength of the payback period is that it takes fully into account the time factor in the value of money.

-The cash flow pattern depicted is associated with a capital investment and may be characterized as(See Figure 12.2)

A non-conventional cash flow pattern associated with capital investment projects consists of aninitial

The_________is the compound annual rate of return that the firm will earn if it invests in the project and receives the given cash inflows.

The change in net working capital when evaluating a capital budgeting decision is

Investment tax credits provided by the Canadian government to stimulate economic development in selected regions of the country are relevant cash flows in capital budgeting.

A conventional cash flow pattern associated with capital investment projects consists of an initial

Projects having higher cash inflows in the early years tend to be preferred at a higher discount rate.

Examples of sophisticated capital budgeting techniques include all of the following EXCEPT

The payback period is the exact amount of time required for the firm to recover the installed cost of a new asset.

If a new asset is being considered as a replacement for an old asset, the relevant cash flows would be found by adding the expected cash flows attributed to old assets and the expected cash flows for new assets.

In capital budgeting, the preferred approaches in assessing whether a project is acceptable, or to rank projects, are those that integrate time-value procedure, risk, return, valuation concept, and the cost of capital.

A corporation is considering expanding operations to meet growing demand. With the capital expansion the current accounts are expected to change. Management expects cash to increase by$10,000, accounts receivable by $20,000, and inventories by $30,000. At the same time accounts payable will increase by $40,000, accruals by $30,000, and long-term debt by $80,000. The change in net working capital is __________.

Capital cost allowance is simply the tax version of amortization.

If an asset is depreciable and used in business, any loss on sale of the asset is deductible onlyagainst capital gains.

Net present value is considered a sophisticated capital budgeting technique since it gives explicitconsideration to the time value of money.