Deck 7: Capital Budgeting Choices and Decisions

Question 1

Capital budgeting is typically used in considering what types of projects?

A)The potential acquisition of current assets.
B)Does not provide long-range economic benefits in the form of a target return.
C)Long-term time horizon projects that do not require a significant cash outflow.
D)Projects that require significant cash outflows and span a long-term time horizon.

Answer 1

Projects that require significant cash outflows and span a long-term time horizon.

Question 2

Which statement is NOT true concerning the "Circle of Life" relationship?

A) The "Circle of Life" relationship involves most organizations' operating, financing, and investing activities.
B) The "Circle of Life" relationship starts with the operating activities.
C) The operating activities of an organization are the results of the products and services it provides.
D) Financing activities include obtaining and/or repaying capital from lenders.

Answer 2

The "Circle of Life" relationship starts with the operating activities.

Question 3

One way to calculate the return on investment (ROI) is

A) investment divided by net income.
B) operating income divided by investment.
C) investment divided by return.
D) operating income divided by net income.

Answer 3

operating income divided by investment.

Question 4

Cost accounting utilizes the return on investment to

A) capture all transactions for the business.
B) capture only financing activities of a business.
C) optimize the outcomes of investing activities only.
D) optimize the outcomes of operating and investing activities.

Question 5

Which statement is true regarding the definition of an investment, as it applies to return on investment (ROI)?

A) All companies use long-term assets to comprise the investment in the ROI calculation.
B) All companies use total assets to comprise the investment in the ROI calculation.
C) Companies will use their own interpretation of which assets on the balance sheet comprise the investment in the ROI calculation.
D) All companies will use total assets, less intangibles to comprise the investment in the ROI calculation.

Question 6

MacBeth Company had the following information:
Calculate the company's return.

A) $75,000.
B) $110,000.
C) $125,000.
D) $200,000.

Question 7

MacBeth Company had the following information:
If the company exactly met its required 10% ROI for the year, what must be its investment?

A) $7,500.
B) $20,000.
C) $750,000.
D) $2,000,000.

Question 8

Hamlet Inc. had the following information:
Calculate the company's return on investment (ROI), using the financial perspective.

A) 5.7%.
B) 8.6%.
C) 11.7%.
D) 48.6%.

Question 9

Hamlet Inc. had the following information:
Calculate the company's invested assets if the ROI was calculated using the cost accounting perspective.

A) $75,893.
B) $156,250.
C) $758,929.
D) $1,562,500.

Question 10

Hamlet Inc. had the following information:
Invested assets $3,200,000
ROI 8.6%
Calculate the company's operating income.

A) $275,200.
B) $2,752,000.
C) $3,720,930.
D) $37,209,302.

Question 11

The statement of cash flows is separated into three sections, operating, investing, and financing. All three are essential to the "Circle of Life." However, the process starts with which activity?

A) Operating.
B) Investing.
C) Financing.
D) All three options are correct.

Question 12

The correct order of events for the "Circle of Life" is

A) operating, investing, and then financing.
B) financing, operating, and then investing.
C) Investing, financing, and then operating.
D) financing, investing, and then operating.

Question 13

Positive net earnings on the statement of cash flows signifies

A) a positive net income.
B) a thriving business.
C) the company is liquid and can pay off its operating expenses.
D) Both a positive net income and/or a thriving business.

Question 14

On the statement of cash flows, one of the purposes of buying long-term investments is to

A) generate a target return.
B) obtain financing from lenders.
C) repay its creditors.
D) None of the options are correct.

Question 15

All of the following are essential elements of capital budgeting decisions except

A) cash flows.
B) tax rates.
C) inventory.
D) depreciation.

Question 16

Which statement is NOT true concerning timelines?

A) Only industry standards inform companies on a particular asset's useful life.
B) Projects must have the same length of time for comparison purposes.
C) Tax codes and industry guidelines inform companies on a particular asset's useful life.
D) The market's reaction to a product can affect the timeline.

Question 17

To calculate the present value, you need all of the following except the

A) future value.
B) rate of return.
C) number of periods.
D) current cost of the investment.

Question 18

All of the following are needed to calculate the future value of a single sum except

A) Principal.
B) number of periods.
C) interest rate.
D) maturity value.

Question 19

Which of the following is NOT needed to calculate the future value of an ordinary annuity?

A) interest rate.
B) number of periods.
C) amount of the payments.
D) maturity value.

Question 20

The factor 1.34587 is taken from the 2% column and 15 periods row in a certain table. From what table is this factor taken?

A) Future value of a single sum.
B) Future value of an ordinary annuity of 1.
C) Present value of a single sum.
D) Present value of an ordinary annuity of 1.

Question 21

If $25,000 is put in a savings account paying interest of 6% compounded annually, what amount will be in the account at the end of five years?

A) $33,456.
B) $18,682.
C) $140,927.
D) $105,309.

Question 22

If $5,000 is put into a savings account at the end of each year and the account pays interest of 4% compounded annually, what amount will be in the account at the end of six years?

A) $6,327.
B) $3,952.
C) $33,165.
D) $26,211.

Question 23

If you can earn an 12% rate of return, what amount would you need to invest to have $20,000 on year from now?

A) $22,400.
B) $17,857
C) $20,000.
D) $17,857.

Question 24

Allied Company is considering the purchase of a machine. The machine will produce cash flows for the next two years as follows:
Year 1 $80,000
Year 2 $90,000
What is the maximum price Allied should pay for this machine if they have a cost of capital of 12%?

A) $143,176.
B) $170,000.
C) $202,496.
D) $223,533.

Question 25

The difference between the future value of an annuity and the future value of an annuity due is

A) The future value of an annuity has recurring payments or receipts, and the future value of an annuity due receives or pays the amount only once.
B) The future value of an annuity due has recurring payments or receipts, and the future value of an annuity receives or pays the amount only once.
C) The future value of an annuity due receives payments at the beginning of each period, and the future value of an ordinary annuity receives payments at the end of each period.
D) The future value of an annuity receives payments at the beginning of each period, and the future value due of an annuity receives payments at the end of each period.

Question 26

Ducky Company purchased a machine that requires annual payments of $25,000 to be paid at the end of each of the next seven years. The discount rate is 8%. What amount will be used to record the machine?

A) $14,587.
B) $223,070.
C) $130,159.
D) $140,572.

Question 27

Ducky Company purchased a machine that requires annual payments of $25,000 to be paid at the beginning of each of the next seven years. The discount rate is 8%. What amount will be used to record the machine?

A) $14,587.
B) $223,070.
C) $130,159.
D) $140,572.

Question 28

Companies must use a rate to determine the present value of future cash flows. All of the following can be considered the discount rate except

A) actual rate of return.
B) hurdle rate.
C) weighted-average cost of capital.
D) tax rate.

Question 29

Companies typically use a(n) _________ in capital budgeting decisions

A) after-tax basis.
B) pre-tax basis.
C) actual tax liability.
D) quarterly tax payment.

Question 30

Following is selected financial information for Epic Inc.
Revenues $225,000
Operating expenses (including depreciation) $100,000
Depreciation $ 15,000
Decrease in accounts receivable balance $ 5,000
Tax rate 21%
Calculate the after-tax net cash flows for the year.

A) $90,850.
B) $102,700.
C) $86,900.
D) $82,950.

Question 31

Which of the following statements is true regarding depreciation?

A) All expenses that are deductible for accounting purposes are also deductible for tax purposes.
B) All expenses that are deductible for tax purposes are also deductible for accounting purposes.
C) Tax deductions (like depreciation) are cash savings.
D) Buying a long-term asset to generate income entitles a company to a one-year tax deduction.

Question 32

Random Company is considering purchasing a machine to create a widget. The following information pertains to the purchase:
Cost of machine $77,000
Useful Life 7 years
Salvage value $7,000
Tax rate 21%
Calculate the tax shield if the company makes the purchase.

A) $2,100.
B) $2,310.
C) $14,700.
D) $16,170.

Question 33

Which of the following statements is false when considering the net present value (NPV)?

A) The NPV is the preferred capital budgeting tool used in most businesses.
B) The NPV captures the surplus but not the deficit the project generates in today's dollar.
C) The NPV can be used to rank competing projects.
D) The NPV can accommodate non-uniform cash flows from one year to the next.

Question 34

If the net present value is positive, which of the following statements is true?

A) The cost of capital is less than the discount rate.
B) The investment is not profitable and should be rejected.
C) It measures the increase in the value of a company that results from an investment.
D) It measures the rate at which the discount rate has decreased.

Question 35

A business is considering an investment that has a net present value (NPV) of $0 when they use a discount rate of 10%. A discount rate of 8% will result in a

A) NPV of $0.
B) positive NPV.
C) negative NPV.
D) there is not enough information to provide a solution.

Question 36

Blender Inc. purchased a new piece of equipment that cost $120,000. The equipment is will be used for 10 years and will have a salvage value of $10,000. The annual operating cash inflows will be $45,000, and the annual operating cash outflows will be $30,000. The tax rate is 21%, and the company requires an after-tax rate of return of 8%. Calculate the net present value (NPV) of the equipment

A) ($20,353).
B) $73,051.
C) ($17,384).
D) $68,419.

Question 37

A projected project requires an investment of $100,000 and has an expected life of four years. The project expects annual cash flows of $40,000 in year 1, $48,000 in year 2, $76,000 in year 3 and $56,000 in year 4. If the company has a discount rate of 8%, what is the net present value (ignoring income taxes)?

A) $49,680.
B) $79,682.
C) ($79,682).
D) ($49,680).

Question 38

Sky High Company is considering the purchase of an investment of $250,000. Data related to the investment are as follows:
Cash flows (at the end of the next four years) $125,000
Salvage value $25,000
Tax Rate 21%
With a discount rate of 9%, what is the net present value of the investment.

A) $354,910.
B) $189,185.
C) $158,140.
D) $125,902.

Question 39

Which of the following does NOT considered a company's discount rate?

A) Net present value.
B) Internal rate of return.
C) Accounting rate of return.
D) Simple payback period.

Question 40

Which capital budgeting tool takes into account both the discounted cash flows and the original investment?

A) Annual rate of return
B) Profitability index.
C) Annual rate of return.
D) Simple payback period.

Question 41

All of the following are true regarding the internal rate of return (IRR), except

A) The greater the project's IRR, the greater the project's desirability.
B) The IRR is expressed as a percentage making it easier to compare projects.
C) The IRR can be used to rank competing projects.
D) The IRR is expressed as a percentage making it harder to compare projects.

Question 42

Blender Inc. purchased a new piece of equipment that cost $120,000. The equipment is will be used for 10 years and will have a salvage value of $10,000. The annual operating cash inflows will be $45,000, and the annual operating cash outflows will be $30,000. The tax rate is 21%, and the company requires an after-tax rate of return of 8%. Using Excel calculate the internal rate of return (IRR) of the equipment

A) 4.3%.
B) 3.1%.
C) 6.0%.
D) 2.6%.

Question 43

Sky High Company is considering the purchase of an investment of $250,000. Data related to the investment are as follows:
Cash flows (at the end of the next four years) $125,000
Salvage value $25,000
Tax Rate 21%
With a discount rate of 9%, what is the internal rate of return of the investment?

A) 9.0%.
B) 24.0%.
C) 32.5%.
D) 26.3%.

Question 44

Which of the following formulas correctly depicts the payback period?

A) Net initial investment divided by average net income.
B) Investment divided by the net initial investment.
C) Annual cash inflows divided by net initial investment.
D) Net initial investment divided by annual cash inflows.

Question 45

The primary difference between the simple payback period and the discounted payback period is

A) the simple method puts cash flows into present value terms while the discounted method does not.
B) the discounted method puts cash flows into present value terms while the simple method does not.
C) The simple method uses a non-uniform cash flows approach, and the discounted method does not.
D) The discounted method uses a non-uniform cash flows approach, and the simple method does not.

Question 46

Peaches Inc. is considering the purchase of a new machine for $140,000. The machine will generate an annual cash flow before depreciation and taxes of $52,688 for four years. At the end of four years, the machine will not have a salvage value. The company's rate of return is 10 percent, with a tax rate of 21%. What is the net after-tax cash flow per year?

A) $48,974.
B) $18,414.
C) $69,274.
D) $38,714.

Question 47

Justys Company is considering the purchase of equipment for $90,000. The equipment will generate an annual cash flow before depreciation and taxes of $32,887 for five years. At the end of five years, the equipment will not have a salvage value. The company's rate of return is 8 percent, with a tax rate of 21%. What is the net after-tax cash flow per year?

A) $21,126.
B) $40,201.
C) $10,686.
D) $29,761.

Question 48

If a project has a payback period that is greater than the useful life, the

A) project's return will always be greater than the discount rate.
B) project will only be accepted if the project has a lower discount rate.
C) entire initial investment will not be recovered.
D) project will always be profitable.

Question 49

Blender Inc. purchased a new piece of equipment that cost $120,000. The equipment included an investment in working capital of $19,000. The equipment is will be used for 10 years and will have a salvage value of $10,000. The annual operating cash inflows will be $45,000, and the annual operating cash outflows will be $30,000. The tax rate is 21%, and the company requires an after-tax rate of return of 8%. Calculate the simple payback period of the equipment.

A) 9.3 years.
B) 8.6 years.
C) 8.0 years.
D) 2.7 years.

Question 50

Sky High Company is considering the purchase of an investment of $250,000. Data related to the investment are as follows:
Cash flows (at the end of the next 4 years) $125,000
Salvage value of new investment $25,000
Proceeds from disposal of old investment $22,000
Investment in working capital $14,000
Tax Rate 21%
With a discount rate of 9%, what is the simple payback period of the investment.

A) 2.1 years.
B) 2.0 years.
C) 1.9 years.
D) 1.8 years.

Question 51

Sky High Company is considering the purchase of an investment of $250,000. Data related to the investment are as follows:
Year 1 cash flows $133,000
Year 2 cash flows $137,000
Year 3 cash flows $125,000
Year 4 cash flows $130,000
Salvage value of new investment $25,000
Proceeds from disposal of old investment $22,000
Investment in working capital $14,000
Tax Rate 21%
With a discount rate of 9%, what is the payback period with non-uniform cash flows of the investment?

A) 2.1 years.
B) 2.0 years.
C) 1.9 years.
D) 1.8 years.

Question 52

Sky High Company is considering the purchase of an investment of $250,000. Data related to the investment are as follows:
Year 1 cash flows $133,000
Year 2 cash flows $137,000
Year 3 cash flows $125,000
Year 4 cash flows $130,000
Salvage value of new investment $25,000
Proceeds from disposal of old investment $22,000
Investment in working capital $14,000
Tax Rate 21%
With a discount rate of 9%, what is the discounted payback period of the investment.

A) 2.05 years.
B) 2.0 years.
C) 1.9 years.
D) 1.4 years.

Question 53

Which of the following is true when the simple payback period and the accounting rate of return is compared?

A) Both methods ignore profitability and the time value of money.
B) Both methods ignore profitability, and only the accounting rate of return takes into consideration the time value of money.
C) Both methods ignore the time value of money, but only the accounting rate of return takes into consideration profitability.
D) Both methods take into consideration the time value of money, but only the accounting rate of return takes into consideration profitability.

Question 54

The accounting rate of return on the initial investment is calculated as

A) initial investment divided by average annual after-tax operating income.
B) average annual after-tax operating income divided by debt.
C) average annual after-tax operating income divided by the initial investment.
D) total assets divided by total debt.

Question 55

All of the following statements regarding the accounting rate of return (ARR) are true except:

A) The ARR is helpful when analyzing projects with a positive net present value.
B) The ARR is the only method that uses accrual accounting instead of cash flows.
C) The ARR uses total annual after-tax operating income earned by the projects over its lifespan.
D) The ARR is most often used by managers that have bonuses tied to divisional profits.

Question 56

Sky High Company is considering the purchase of an investment of $250,000. Data related to the investment are as follows:
Cash flows (at the end of the next four years) $125,000
Salvage value of new investment $25,000
Proceeds from disposal of old investment $22,000
Book value of old investment $24,500
Investment in working capital $14,000
Tax Rate 21%
With a discount rate of 9%, what is the accounting rate of return of the investment?

A) 19.8%.
B) 32.6%.
C) 27.4%.
D) 22.4%.

Question 57

Project Duke has a present value of cash flows of $50,000 and an original investment of $35,000. Project Prince has a present value of cash flows of $90,000 and an original investment of $95,000. Both projects have the same useful life. Using the profitability index, which project should be accepted?

A) Project Duke.
B) Project Prince.
C) Both projects should be accepted.
D) Neither project should be accepted.

Question 58

If a company's required rate of return is 6%, and a project has an index greater than 1, in using the profitability index method, this indicates that the project's rate of return is

A) greater than 6%.
B) less than 6%.
C) equal to 6%.
D) not acceptable for investment.

Question 59

The capital budgeting tool that takes into account both the size of the initial investment and the present value of future cash flows is the

A) profitability index.
B) simple payback method.
C) annual rate of return.
D) internal rate of return.

Question 60

The profitability index

A) can only be less than 1.
B) will not take into account the present value of future cash flows.
C) is calculated by dividing total cash flows by the initial investment.
D) allows projects to be compared on the relative desirability with different initial investments.

Question 61

Mead Company is considering the purchase of an investment. The following information pertains to the potential investment:
Initial investment $225,000
Net annual cash flows 23,500
Net present value 42,867
Salvage value 20,000
Useful life 10 years
What is the profitability index of the potential investment?

A) 1.19.
B) 1.10.
C) 1.21.
D) 1.11.

Question 62

Jabber Company is considering the purchase of an investment with a 4-year life span. The initial investment is $65,000 and net annual cash flows were $28,000 for year 1; $22,000 for year 2; $25,000 for year 3; and $30,000 for year 4. There is no salvage value. If the company has a cost of capital of 10%, what is the investment's profitability index?

A) 3.34.
B) 0.34.
C) 1.31.
D) 1.28.

Question 63

Twosome Company is considering a capital project costing $82,000 with a 3-year life span. The project is expected to have annual cost savings of $26,000 for the first two years and $20,000 for the third year. There is no salvage value. If the company has a cost of capital of 6%, what is the investment's profitability index?

A) .56.
B) .79.
C) 1.23.
D) .49.

Question 64

Maximus Company has a cost of capital of 9% and is considering a capital project costing $210,000. The project is expected to have annual cost savings of $45,000 for the first two years and $75,000 for years 3 and 4. There is no salvage value. What is the investment's profitability index?

A) .91.
B) .93.
C) 1.53.
D) .71.

Question 65

If a project has a profitability index greater than 1, then the

A) project should always be accepted.
B) project should always be accepted if funds are available.
C) project's net present value is negative.
D) project has an internal rate of return that is less than the discount rate.

Question 66

If a project has a profitability index less than 1, then the

A) project should be rejected.
B) project's net present value if zero.
C) project's net present value is positive.
D) project has an internal rate of return that is greater than the discount rate.

Question 67

A project has a profitability index of 1.325. The project also has a future cash flows of $21,350 and an internal rate of 12%. What was the initial investment?

A) $16,113.
B) $28,289.
C) $3,395.
D) $14,775.

Question 68

A company is considering the following four projects. These projects have the following information:
Which project is preferred?

A) A.
B) B.
C) C.
D) D.

Question 69

When comparing the net present value (NPV) and the internal rate of return (IRR), what is the most significant difference?

A) Profitability is measured in relative terms using NPV and absolute terms using IRR.
B) The time value of money is used to calculate the NPV, but not the IRR.
C) The time value of money is used to calculate the IRR, but not the NPV.
D) The NPV assumes that each cash inflow received is reinvested at the rate of return, but the IRR assumed that each cash inflow is reinvested at the computed IRR.

Question 70

Daesha Inc. is considering several capital budgeting projects. The projects are as follows:
Rank the projects using the profitability index.

A) X, Y, Z.
B) Z, Y, X.
C) Z, X, Y.
D) Y, Z, X.

Question 71

Daesha Inc. is considering several capital budgeting projects. The projects are as follows:
Using the profitability index, how many of the projects are acceptable?

A) 0.
B) 1.
C) 2.
D) 3.

Question 72

If a project has a profitability index of 1.10, the project's internal rate of return is

A) equal to 10%.
B) equal to the rate of return.
C) less than the rate of return.
D) greater than the rate of return.

Question 73

The purpose of the sensitivity analysis is to answer the question,

A) how much tolerance the company is willing to accept?
B) what-if the estimates provided are incorrect?
C) why is the net present value zero?
D) how much should the project duration be?

Question 74

A project has a projected initial investment of $125,000, net annual cash flows of $56,000 for five years, and a rate of return of 10%. With a tax rate of 21% and a net present value of $62,606, how much cash flows must be earned to be left with $56,000 after-tax?

A) $70,887.
B) $266,667.
C) $298,123.
D) $79,248.

Question 75

A project has a projected initial investment of $125,000, net annual cash flows of $56,000 for five years, and a rate of return of 10%. With a tax rate of 21% and a net present value of $62,606, what are the breakeven cash flows to provide a net present value of zero?

A) $39,629.
B) $157,022.
C) $32,975.
D) $41,741.

Question 76

A project has a projected initial investment of $125,000, net annual cash flows of $56,000 for five years, and a rate of return of 10%. With a tax rate of 21% and a net present value of $62,606, how much can the project be off in the cash flow estimate before the project is less impressive with a net present value of zero?

A) $70,887.
B) $29,145.
C) $41,740.
D) $39,619.

Question 77

The first step in the decision-making framework is,

A) identify suitable options and gather relevant information.
B) outline the problem.
C) select the option that maximizes the benefits of the company.
D) calculate relevant costs and benefits for each option.

Question 78

The second step in the decision-making framework is,

A) identify suitable options and gather relevant information.
B) outline the problem.
C) select the option that maximizes the benefits of the company.
D) calculate relevant costs and benefits for each option.

Question 79

The third step in the decision-making framework is,

A) identify suitable options and gather relevant information.
B) implement your choice.
C) select the option that maximizes the benefits of the company.
D) calculate relevant costs and benefits for each option.

Question 80

The fourth step in the decision-making framework is,

A) identify suitable options and gather relevant information.
B) implement your choice.
C) select the option that maximizes the benefits of the company.
D) calculate relevant costs and benefits for each option.