Universal Corp. is reviewing a capital budgeting decision regarding the acquisition of a capital equipment. Below

are the relevant information:

Investment P300,000

PV of net cash inflows 200,000

Cash-flow tax shield from depreciation 100,000

The company is used to have as benchmark for similar projects an excess present value index of 0.50, that is, the

project’s index should be no less than 0.50. Should this project be pursued? (M)

a. No, since the excess present value index is 0.33

b. Yes, since the excess present value index is 0.67

c. No, since the excess present value index is less than 0.50

d. Yes, since the excess present value index is 1.50 RPCPA 0597

*. A tax-exempt foundation, Sincerely Foundation, Inc. intends to invest P1 million in a five-year project. The

foundation estimates that the annual savings from the project will amount to P325,000. The P1 million asset is

depreciable over five (5) years on a straight-line basis. The foundation’s hurdle rate is 12% and as a consultant of

the foundation, you are asked to determine the internal rate of return and advise if the project should be pursued.

To facilitate computations, below are present value factors:

N=5 12% 14% 16%

Present value of P1 0.57 0.52 0.48

Present value of an annuity of P1 3.60 3.40 3.30

Your advice is (M)

a. To proceed due to an estimated IRR of less than 14% but not more than 12%.

b. To proceed due to an estimated IRR of less than 16% but not more than 14%.

c. Not to proceed due to an estimated IRR of less than 12%.

d. To proceed due to an estimated IRR of more than 16%. RPCPA 1095

Unlimited Capital

*. SB Co. uses a 12% hurdle rate for all capital expenditures. It has lined up four projects and below is the summary

thereof.

In Thousand Pesos

Project 1 Project 2 Project 3 Project 4

Initial cash outflow 400 596 496 544

Annual cash inflow

Year 1 130 200 160 190

2 140 270 190 250

3 160 180 180 180

4 80 130 160 120

Net present value (7.500) 8.552 28.128 29.324

Profitability Index 98% 101% 106% 105%

Internal rate of return 11% 13% 14% 15%

If the company has no budgetary limitations, which projects should be pursued? (E)

a. Project 1. c. Projects 2, 3 and 4.

b. Projects 3 and 4. d. All the four projects. RPCPA 1096

*. The following data relate to two capital-budgeting projects of equal risk:

Present Value of Cash Flows

Period Project A Project B

0 $(10,000) $(30,000)

1 4,550 13,650

2 4,150 12,450

3 3,750 11,250

Which of the projects will be selected using the profitability index (PI) approach and the NPV approach?

CIA 0586 IV-33 a. b. c. d.

PI B Either Either B

NPV A B A B

RANKING OF INVESTMENT ALTERNATIVES AND PROJECT SELECTION

Capital Budget

120

. A company’s marginal cost of new capital (MCC) is 10% up to $600,000. MCC increases .5% for the next $400,000

and another .5% thereafter. Several proposed capital projects are under consideration, with projected cost and

internal rates of return (IRR) as follows:

Project Cost IRR

A $100,000 10.5%

B $300,000 14.0%

C $450,000 10.8%

D $350,000 13.5%

E $400,000 12.0%

What should the company’s capital budget be?

A. $0 C. $1,500,000

B. $1,050,000 D. $1,600,000 CIA 0589 IV-55

Mutually Exclusive

- Which of the following results of the net present value method in capital budgeting is the LEAST acceptable? (E)

a. $(10,000) c. $(18,000)

b. $(7,000) d. $0 Horngren - The projects have the following NPVs and project lives.

Project NPV Life

Project A $5,000 4 years

Project B $7,000 7 years

If the cost of capital is 12%, which project would you accept?

A. A C. Both A and B

B. B D. Reject both A and B B & M - A firm is considering two mutually exclusive projects with the following cash flows:

Project A Project B

Year 1 $20,000 $60,000

Year 2 $40,000 $40,000

Year 3 $60,000 $20,000

Each project requires an investment of $50,000. The cost of capital is 10 percent.

Which project will have the higher net present value?

a. Project A

b. Project B

c. Project A and Project B will have the same net present value. H & M

d. It is not possible to answer the question based upon the information provided.

121

. If the investment projects listed below are mutually exclusive, which alternative should be accepted?

Project A B C D

NPV $100,000 ($20,000) $60,000 $30,000

A. Project A. C. Projects A and C.

B. Project B. D. Projects A, C, and D. CIA 0595 IV-38

122

. Five mutually exclusive projects had the following information:

A B C D E

NPV $500 $(200) $100 $200 $1,000

IRR 12% 8% 11% 13% 10%

Which project is preferred? (M)

a. A d. D

b. B e. E

c. C H & M

123

. Five mutually exclusive projects had the following information:

V W X Y Z

Which project is preferred?

a. V d. Y

b. W e. Z

c. X H & M

124

. As the director of capital budgeting for Denver Corporation, you are evaluating two mutually exclusive projects with

the following net cash flows:

Year Project X Cash Flow Project Z Cash Flow

0 -$100,000 -$100,000

1 50,000 10,000

2 40,000 30,000

3 30,000 40,000

4 10,000 60,000

If Denver’s cost of capital is 15 percent, which project would you choose? (E)

a. Neither project. d. Project X, since it has the higher NPV.

b. Project X, since it has the higher IRR. e. Project Z, since it has the higher IRR.

c. Project Z, since it has the higher NPV. Brigham

125

. Two projects being considered are mutually exclusive and have the following projected cash flows:

Year Project A Cash Flow Project B Cash Flow

0 -$50,000 -$50,000

1 15,625 0

2 15,625 0

3 15,625 0

4 15,625 0

5 15,625 99,500

If the required rate of return on these projects is 10 percent, which would be chosen and why? (E)

a. Project B because it has the higher NPV.

b. Project B because it has the higher IRR.

c. Project A because it has the higher NPV.

d. Project A because it has the higher IRR.

e. Neither, because both have IRRs less than the cost of capital. Brigham

*. Each of three mutually exclusive projects costs $200. Using the table provided, rank the projects in descending

NPV order. (M)

Present Value

Interest Factor

(10%)

Project’s Cash Flow

Year A B C

1 .91 $300 $200 $ 0

2 .83 200 100 100

3 .75 100 0 100

4 .68 0 100 200

5 .62 0 200 300

a. A, B, C. c. C, B, A.

b. B, A, C. d. A, C, B. CIA 0585 IV-33

Questions 55 and 56 are based on the following information. CMA 1291 4-8 & 9

Mercken Industries is contemplating four projects, Project P, Project Q, Project R, and Project S. The capital costs and

estimated after-tax net cash flows of each mutually exclusive project are listed below. Mercken’s desired after-tax

opportunity cost is 12%, and the company has a capital budget for the year of $450,000. Idle funds cannot be reinvested

at greater than 12%.

Project P Project Q Project R Project S

Initial cost $200,000 $235,000 $190,000 $210,000

Annual cash flows

Year 1 $93,000 $90,000 $45,000 $40,000

Year 2 93,000 85,000 55,000 50,000

Year 3 93,000 75,000 65,000 60,000

Year 4 -0- 55,000 70,000 65,000

Year 5 -0- 50,000 75,000 75,000

Net present value $23,370 $29,827 $27,333 $(7,854)

Internal rate of return 18.7% 17.6% 17.2% 10.6%

Excess present value index 1.12 1.13 1.14 .96

126

. During this year, Mercken will choose

A. Projects P, Q, and R. C. Projects Q and R.

B. Projects P, Q, R, and S. D. Projects P and Q.

127

. If Mercken is able to accept only one project, the company would choose

A. Project P.

B. Project Q because it has the highest net present value.

C. Project P because it has the highest internal rate of return.

D. Project P because it has the shortest payback period.

*. A capital budgeting decision model has provided the following information:

Proposal A Proposal B

Investment P1,000,000 P1,800,000

Profitability Index 1.2 2.1

Net present Value P600,000 P300,000

The best project is(situation is impossible)

a. Proposal A because it has the highest present value.

b. Proposal B because it has the highest profitability index.

c. Proposal B because its profitability index is over 2.0

d. Proposal A because it has the highest net present value even though its investment base in smaller.

RPCPA 0595

Excess Present Value Index

*. Telephone Corp. is contemplating four projects: L, M, N, and O. The capital costs for the initiation of each mutuallyexclusive project and its estimated after-tax, net cash flow are listed below. The company’s desired after-tax

opportunity costs is 12%. It has P900,000 capital budget for the year. Idle funds cannot be reinvested at greater

than 12%.

In Thousand Pesos

L M N O

Initial cost 400 470 380 420

Annual cash flows

Year 1 113 180 90 80

2 113 170 110 100

3 113 150 130 120

4 113 110 140 130

5 113 100 150 150

Net present value P7,540 P59,654 P54,666 P(15,708)

Internal rate of return 12.7% 17.6% 17.2% 10.6%

Excess present value index 1.02 1.13 1.14 0.96

The company will choose (E)

a. Projects M, N and O. c. Projects L and N.

b. Projects M and N. d. Projects L and M. RPCPA 0595

EAC - Two machines, A and B, which perform the same functions, have the following costs and lives.

Type PV Costs Life

Machine A $6000 5

Machine B $8000 7

Which machine would you choose? The two machines are mutually exclusive and the cost of capital is 15%.

A. Machine A as the EAC is $1789.89 C. Don’t buy either machine

B. Machine B as the EAC is $1922.88 B & M

Internal Rate of Return

Mutually exclusive projects

Internal Rate of Return

128

. Two projects being considered by a firm are mutually exclusive and have the following projected cash flows:

Year Project A Cash Flow Project B Cash Flow

0 ($100,000) ($100,000)

1 39,500 0

2 39,500 0

3 39,500 133,000

Based only on the information given, which of the two projects would be preferred, and why? (M)

a. Project A, because it has a shorter payback period.

b. Project B, because it has a higher IRR.

c. Indifferent, because the projects have equal IRRs.

d. Include both in the capital budget, since the sum of the cash inflows exceeds the initial investment in both

cases.

e. Choose neither, since their NPVs are negative. Brigham

Payback Period

Questions 18 & 19 are based on the following information. Gitman

A firm is evaluating two projects that are mutually exclusive with initial investments and cash flows as follows:

Project: A Project: B

Initial

Investment

End-of-Year

Cash Flows

Initial

Investment

End-of-Year

Cash Flows

$40,000 $20,000 $90,000 $40,000

20,000 40,000

20,000 80,000 - If the firm in Figure 901 has a required payback of two (2) years, they should

A. accept projects A and B. C. reject project A and accept B.

B. accept project A and reject B. D. reject both. - The new financial analyst does not like the payback approach and determines that the firm’s required rate of return

is 15%. His recommendation would be to

A. accept projects A and B. C. reject project A and accept B.

B. accept project A and reject B. D. reject both.

Replacement Chain - OM Construction Company must choose between two types of cranes. Crane A costs $600,000, will last for 5

years, and will require $60,000 in maintenance each year. Crane B costs $750,000 and will last for seven years.

Maintenance costs for crane B are incurred at the end of each year. The appropriate discount rate is 12% per year.

Which machine should OM Construction purchase?

A. Crane A as EAC is $226,444

B. Crane B as EAC is $194,336

C. Crane A as the PV is $816,286

D. Cannot be calculated as the revenues for the project are not given B & M

129

. Borden Books is interested in purchasing a computer system to use for the next 10 years. Currently, Borden is

considering two mutually exclusive systems, System S and System L.

System S has an up-front cost of $3 million at t = 0 and will produce positive cash flows of $2.5 million per year for

two years (at t = 1 and 2). This system can be repeated forever. In other words, every two years the company can

repurchase the system under exactly the same terms.

System L has an up-front cost of $5 million at t = 0 and will produce positive cash flows of $2 million per year for five

years (at t = 1, 2, 3, 4, and 5). This system can be replaced at a cost of $4 million at t = 5, after which time it will

produce positive cash flows of $1.5 million per year for the subsequent five years (at t = 6, 7, 8, 9, and 10).

Borden’s CFO has determined that the company’s WACC is 12 percent. Over a 10-year extended basis, which

system is the better system and what is its NPV? (M)

a. System L; $2.21 million d. System L; $4.41 million

b. System L; $3.01 million e. System S; $6.13 million

c. System S; $4.10 million Brigham

Capital Rationing

Net Present Value

*. The Nativity Corporation has the following investment opportunities:

Proposal Profitability Index Initial Cash Outlay

1 1.15 P200,000

2 1.13 125,000

3 1.11 175,000

4 1.08 150,000

The firm has a budget constraint of P300,000.

What proposal(s) should be accepted? (D)

a. Proposal 1 because it has the highest profitability index.

b. Proposal 4 because it has the lowest profitability index.

c. Proposals 2 and 3 because their total net present values are the highest among all possible proposal

combinations.

d. Proposals 1 and 2 because their total net present values are the highest among all possible proposal

combinations. RPCPA 0579 - The following table gives the available projects for a firm.

A B C D E F G

90 20 60 50 150 40 20 Initial investment

140 70 65 -10 30 32 10 NPV

If the firm has a limit of 200 million to invest, what is the maximum NPV the company can obtain? (M)

A. 200 C. 283

B. 243 D. None of the above B & M - The following table gives the available projects for a firm.

A B C D E F G

5.0 4.0 5.0 1.0 2.0 7.0 8.0 Initial investment

1.5 -0.5 1.0 0.5 0.5 1.0 1.0 NPV

The firm has only twenty million to invest. What is the maximum NPV that the company can obtain? (M)

A. 3.5 C. 4.0

B. 4.5 D. None of the above B & M

Profitability Index

*. Information on three (E) investment projects is given below:

Project Investment Required Net Present Value

X P150,000 P34,005

G 100,000 22,670

W 60,000 13,602

Rank the projects in terms of preference: (M)

a. 1st W; 2nd G; 3rd X. c. 1st X; 2nd G; 3rd W.

b. 1st G; 2nd W; 3rd X. d. The ranking is the same. RPCPA 1097 - Perkins Company is considering several investment proposals, as shown below:

Investment Proposal

A B C D

Investment required $80,000 $100,000 $60,000 $75,000

Present value of future net cash flows 96,000 150,000 84,000 120,000

Rank the proposals in terms of preference using the profitability index: (E)

a. D, B, C, A. c. B, D, A, C.

b. B, D, C, A. d. A, C, B, D. G & N 9e - Information on four investment proposals is given below:

Proposal Investment Net Present Value

1 $50,000 $30,000

2 60,000 24,000

3 30,000 15,000

4 45,000 9,000

Rank the proposals in terms of preference according to the profitability index: (E)

a. 3, 4, 1, 2. c. 1, 3, 2, 4.

b. 1, 2, 3, 4. d. 2, 1, 4, 3. G & N 9e

*. The Sarmiento Company has the following investment opportunities:

Proposal Profitability Index Initial Cash Outlay

1 1.25 P400,000

2 1.19 100,000

3 1.16 175,000

4 1.14 125,000

5 1.09 200,000

6 1.05 100,000

7 0.97 150,000

If the budget ceiling for initial outlays during the present period was P1,000,000 and the proposals were

independent of each other, the Company should engage in proposal(s) (E)

a. Proposal 1 to 6 because their profitability indeces are all greater than 1.

b. Proposal 7 because its profitability index is less than 1.

c. Proposal 1 to 5 because their profitability indeces are greater. RPCPA 0579

d. Proposals 1, 3, 4, 5 and 6 because their profitability indeces are greater than 1.

Questions 26 and 27 are based on the following information. CIA 1196 IV-40 & 41

Investment Project Cash Outlay Present Value of Cash Inflows

A $1,100,000 $ 980,000

B 250,000 600,000

C 1,400,000 1,830,000

D 650,000 790,000

The company has $2 million of financing available for new investment projects.

130

. The investment project with the highest profitability index is

A. Project A. C. Project C.

B. Project B. D. Project D.

131

. If only one project may be selected, which should the company undertake?

A. Project A. C. Project C.

B. Project B. D. Project D.

Net Present Value & Internal Rate of Return

Questions 20 & 21 are based on the following information. Gitman

A firm must choose from six capital budgeting proposals outlined below. The firm is subject to capital rationing and has a

capital budget of $1,000,000; the firm’s cost of capital is 15 percent.

Project Initial Investment IRR NPV

1 $200,000 19% $100,000

2 400,000 17 20,000

3 250,000 16 60,000

4 200,000 12 5,000

5 150,000 20 50,000

6 400,000 15 150,000 - Using the internal rate of return approach to ranking projects, which projects should the firm accept?

A. 1, 2, 3, 4, and 5 C. 2, 3, 4, and 6

B. 1, 2, 3, and 5 D. 1, 3, 4, and 6 - Using the net present value approach to ranking projects, which projects should the firm accept?

A. 1, 2, 3, 4, and 5 C. 2, 3, 4, and 5

B. 1, 2, 3, 5, and 6 D. 1, 3, 5, and 6

Comprehensive - Investors, Inc. uses a 12% hurdle rate for all capital expenditures and has done the following analysis for four

projects for the upcoming year:

Project 1 Project 2 Project 3 Project 4

Initial cash outlay P200,000 P298,000 P248,000 P272,000

Annual net cash inflows

Year 1 P 65,000 P100,000 P 80,000 P 95,000

Year 2 70,000 135,000 95,000 125,000

Year 3 80,000 90,000 90,000 90,000

Year 4 40,000 65,000 80,000 60,000

Net present value ( 3,798) 4,276 14,064 14,662

Profitability index 98% 101% 106% 105%

Internal rate of return 11% 13% 14% 15%

Which project(s) should Investors, Inc. select during the upcoming year under each budgeted amount of funds? Pol

Bobadilla

No Budget Restriction P600,000 Available Funds P300,000 Available Funds

a. Projects 2,3, & 4 Projects 3 & 4 Project 3

b. Projects 1, 2, & 3 Projects 2, 3 & 4 Projects 3 & 4

c. Projects 1, 3, & 4 Projects 2 & 3 Project 2

d. Projects 3 & 4 Projects 2 & 4 Projects 2 & 4

Questions 63 through 65 are based on the following information. Gleim

Maloney Company uses a 12% hurdle rate for all capital expenditures and has done the following analysis for four

projects for the upcoming year:

Project 1 Project 2 Project 3 Project 4

Initial outlay $4,960,000 $5,440,000 $4,000,000 $5,960,000

Annual net cash inflows

Year 1 1,600,000 1,900,000 1,300,000 2,000,000

Year 2 1,900,000 2,500,000 1,400,000 2,700,000

Year 3 1,800,000 1,500,000 1,600,000 1,800,000

Year 4 1,600,000 1,200,000 800,000 1,300,000

Net present value 281,280 293,240 (75,960) 85,520

Profitability index 106% 105% 98% 101%

Internal rate of return 14% 15% 11% 13%

132

. What project(s) should Maloney undertake during the upcoming year assuming it has no budget restrictions?

a. All of the projects. c. Projects 1,2 and 4

b. Projects 1, 2, and 3 d. Projects 1 and 2

133

. Which projects should Maloney undertake during the upcoming year if it has only $12,000,000 of investment funds

available?

a. Projects 1 and 3 c. Projects 1 and 4.

b. Projects 1, 2, and 4. d. Projects 1 and 2.

134

. Which project(s) should Maloney undertake during the upcoming year if it has only $6,000,000 of funds available?

a. Project 3. c. Project 1.

b. Projects 1 and 2. d. Project 2.

Questions 60 through 62 are based on the following information. CMA 695 4-7 to 9

Capital Invest Inc. uses a 12% hurdle rate for all capital expenditures and has done the following analysis for four

projects for the upcoming year:

Project 1 Project 2 Project 3 Project 4

Initial capital outlay $200,000 $298,000 $248,000 $272,000

Annual net cash inflows

Year 1 $ 65,000 $100,000 $ 80,000 $ 95,000

Year 2 70,000 135,000 95,000 125,000

Year 3 80,000 90,000 90,000 90,000

Year 4 40,000 65,000 80,000 60,000

Net present value (3,798) 4,276 14,064 14,662

Profitability index 98% 101% 106% 105%

Internal rate of return 11% 13% 14% 15%

135

. Which project(s) should Capital Invest Inc. undertake during the upcoming year assuming it has no budget

restrictions?

A. All of the projects. C. Projects 2, 3, and 4.

B. Projects 1, 2, and 3. D. Projects 1, 3, and 4.

136

. Which project(s) should Capital Invest Inc. undertake during the upcoming year if it has only $600,000 of funds

available?

A. Projects 1 and 3. C. Projects 2 and 3.

B. Projects 2, 3, and 4. D. Projects 3 and 4.

137

. Which project(s) should Capital Invest Inc. undertake during the upcoming year if it has only $300,000 of capital

funds available?

A. Project 1. C. Projects 3 and 4.

B. Projects 2, 3, and 4. D. Project 3.

Questions 73 thru 78 are based on the following information.

A company that annually reviews its investment opportunities and selects appropriate capital expenditures for the

coming year is presented with two projects, called Project A and Project B. Best estimates indicate that the investment

outlay for Project A is $30,000 and for Project B is $1 million. The projects are considered to be equally risky. Project A is

expected to generate cash inflows of $40,000 at the end of each year for 2 years. Project B is expected to generate cash

inflows of $700,000 at the end of the first year and $500,000 at the end of the second year. The company has a cost of

capital of 8%.

138

. What is the net present value (NPV) of each project when the cost of capital is zero?

CIA 0594 IV-40 A. B. C. D.

Project A $30,000 $50,000 $80,000 $110,000

Project B $1,000,000 $200,000 $1,200,000 $2,200,000

139

. The internal rate of return of Project A, to the nearest full percentage point, is

A. 10% C. 25%

B. 15% D. 100% CIA 0594 IV-41

140

. Net present value (NPV) and internal rate of return (IRR) differ in that

A. NPV assumes reinvestment of project cash flows at the cost of capital, whereas IRR assumes reinvestment of

project cash flows at the internal rate of return. CIA 0594 IV-42

B. NPV and IRR make different accept or reject decisions for independent projects.

C. IRR can be used to rank mutually exclusive investment projects, butt NPV cannot.

D. NPV is expressed as a percentage, while IRR is expressed as a dollar amount.

141

. If Projects A and B are mutually exclusive, which of the following statements is true?

A. The company should undertake Project A only.

B. The company should undertake Project B only.

C. The company should undertake both projects.

D. The company should not undertake either project. CIA 0594 IV-43

142

. If Projects A and B are independent, which of the following statements is true?

A. The company should undertake Project A only.

B. The company should undertake Project B only.

C. The company should undertake both projects.

D. The company should not undertake either project. CIA 0594 IV-44

143

. If the net present value (NPV) of project A is known to be higher than the NPV of project B, it can be concluded that

A. The internal rate of return (IRR) of project A will definitely be higher than the IRR of project B.

B. The IRR of project A will definitely be lower than the IRR of project B.

C. The ranking of IRRs is indeterminate based on the information provided.

D. The payback period for project A is definitely shorter than the payback period for project B. CIA 1190

IV-54

PROJECT IMPLEMENTATION & REVIEW

Questions 28 and 29 are based on the following information. RPCPA 0593

The construction of a waste treatment plant was arrived at after a careful cost-benefit analysis. During the construction

period a status report was presented for your review:

• completed cost as originally estimated, P5 million

• % of actual completion to date, 65%

• actual cost to date, P3.75 million

*. Assuming cost is evenly distributed throughout the construction period, how much will the completion cost be most

likely? (E)

a. The original cost estimate of P5 million.

b. P5 million plus a cost overrun of about P769,000

c. P500,000 less than the original cost at completion.

d. About P100,000 above the original cost at completion.

*. What would be an appropriate action to take considering the situation in number 28?

a. No need to take any action.

b. Immediately stop further work on the project.

c. Recommend immediate review with the project implementation team to determine the cause of overrun and the

corrective actions to be taken.

d. Wait for the next quarterly status report on the project.

PROBABILITIES & EXPECTED VALUE ANALYSIS

144

. What is the expected value of NPV (to the nearest dollar) for the following situation? The firm expects an NPV of

$10,000 if the economy is exceptionally strong (40% probability), an NPV of $4,000 if the economy is normal (40%

probability), and an NPV of -$2,000 if the economy is exceptionally weak (20% probability). (M)

A. $5,600 C. $6,000

B. $5,200 D. None of the answers are correct. Gleim

Questions 5 thru 7 are based on the following information. Gitman

A corporation is assessing the risk of two capital budgeting proposals. The financial analysts have developed

pessimistic, most likely, and optimistic estimates of the annual cash inflows which are given in the following table. The

firm’s cost of capital is 10 percent.

Project A Project B

Initial

Investment

Annual

Cash inflow Outcome

Initial

Investment

Annual

Cash Inflow Outcome

$20,000 $ 5,000 Pessimistic $100,000 $ 20,000 Pessimistic

10,000 Most likely 40,000 Most likely

15,000 Optimistic 100,000 Optimistic - The range of the annual cash inflows for Project A is (E)

A. $30,000. C. $5,000.

B. $10,000. D. $0. - If the projects have fiveyear lives, the range of the net present value for Project B is approximately (M)

A. $80,560. C. $255,410.

B. $201,000. D. $303,280. - The expected net present value of project A if the outcomes are equally probable and the project has fiveyear life is

(M)

A. $ 1,045. C. $36,865.

B. $17,910. D. $93,730.

Questions 8 thru 12 are based on the following information. Gitman

A firm is evaluating the relative riskiness of two capital budgeting projects. The following table summarizes the net

present values and associated probabilities for various outcomes for the two projects.

Net Present Value

Probability Project A Project B

0.25 $ 5,000 0

0.50 4,000 $ 2,000

0.25 10,000 8,000 - The expected net present value for projects A and B are

A. $4,000 and $1,500, respectively. C. $3,250 and $3,000, respectively.

B. $2,000 and $1,000, respectively. D. $3,000 and $3,300, respectively. - The standard deviation for projects A and B are

A. $3,000 and $5,000, respectively. C. $2,106 and $0, respectively.

B. $4,210 and $2,104, respectively. D. $5,356 and $3,000, respectively. - The coefficient of variations for projects A and B are

A. 0.6 and 1, respectively. C. 0.8 and 2, respectively.

B. 1.6 and 1, respectively. D. 1.2 and 1.5, respectively. - The two projects can best be characterized relative to one another by the statement,

A. project A is more risky than project B.

B. project B is more risky than project A.

C. since project A has a higher expected net present value, it should be chosen.

D. since project B has a higher standard deviation, it is more risky and should not be chosen. - The firm should

A. choose project A since it has a higher net present value potential.

B. choose project B since it has a lower standard deviation.

C. choose project A since it has a lower relative risk.

D. choose project B since it has a lower relative risk.

Questions 23 through 25 are based on the following information. RPCPA 0579

The Suarez Corporation has the following incremental cash flows for a press machine it intends to buy:

Year 1 Year 2

Cash Flow Initial Probability Cash Flow Initial Probability

P5,000 0.5 P 3,000 0.3

4,500 0.3

6,000 0.4

P10,000 0.5 P10,000 0.25

12,500 0.40

15,000 0.35

The firm has a required after tax rate of return of 10%. The abandonment value of the machine is as follows:

Year 1 Year 2

Probability Amount Probability Amount

0.5 P8,000 0.5 P2,000

0.3 5,000 0.3 1,500

0.2 4,000 0.2 1,000

*. Based on the above data, what is the joint probability of the cash flow series that will yield P10,000 for the first year

and P12,500 for the second year? (D)

a. 0.125 c. 0.175

b. 0.150 d. 0.200

*. The abandonment value for year 1 is (D)

a. P5,000 c. P7,500

b. P6,300 d. P10,000

*. The abandonment value for year 2 is (D)

a. P1,650 c. P25,500

b. P13,500 d. P37,500

COMPREHENSIVE

Cash Flows & Discounted Cash Flows

Questions 91 through 94 are based on the following information. CMA 1296 4-15 to 18

In order to increase production capacity, Gunning Industries is considering replacing an existing production machine with

a new technologically improved machine effective January 1, 1997. The following information is being considered by

Gunning Industries:

The new machine would be purchased for $160,000 in cash. Shipping, installation, and testing would cost an

additional $30,000.

The new machine is expected to increase an annual sales by $20,000 at a sales price of $40 per unit. Incremental

operating costs include $30 per unit in variable costs and total fixed costs of $40,000 per year.

The investment in the new machine will require an immediate increase in working capital of $35,000. This cash

outflow will be recovered at the end of year 5.

Gunning uses straight-line depreciation for financial reporting and tax reporting purposes. The new machine has an

estimated useful life of 5 years and zero salvage value.

Gunning is subject to a 40% corporate income tax rate.

Gunning uses the net present value method to analyze investments and will employ the following factors and rates:

Period

Present Value

of $1 at 10%

Present Value of an

Ordinary Annuity of $1 at 10%

1 0.909 0.909

2 0.826 1.736

3 0.751 2.487

4 0.683 3.170

5 0.621 3.791

145

. Gunning Industries’ net cash outflow in a capital budgeting decision is

a. $190,000 c. P204,525

b. P195,000 d. P225,000

146

. Gunning Industries’ discounted annual depreciation tax shield for the year 1997 is

a. $13,817 c. $20,725

b. $16,762 d. $22,800

147

. The acquisition of the new production machine by Gunning Industries will contribute a discounted net-of-tax

contribution margin of

a. $242,624 c. $363,936

b. $303,280 d. $454,920

148

. The overall discounted cash flow impact of Gunning Industries’ working capital investment for the new production

machine would be

a. $(7,959) c. $(13,265)

b. $(10,080) d. $(35,000)

Net Investment & Payback Period

Questions 19 and 20 are based on the following information. RPCPA 0583

Beta Company plans to replace its company car with a new one. The new car costs P120,000 and its estimated useful

life is five years without scrap value. The old car has a book value of P15,000 and can be sold at P12,000. The

acquisition of the new car will yield annual cash savings of P20,000 before income tax. Income tax rate is 25%.

*. The net investment of the new car is (E)

a. P108,000 c. P107,250

b. P108,750 d. P107,000

*. The payback period of the investment is (M)

a. 5.14 years c. 5.11 years

b. 5.18 years d. 5.095 years

Payback & Net Present Value

Questions 1 & 2 are based on the following information. H & M

Randall Corp is considering the purchase of a new machine for $38,000. The machine would generate a net cash inflow

of $11,607 per year for five years. At the end of five years, the machine would have no salvage value. The company’s

cost of capital is 12 percent. The company uses straight-line method of depreciation with no mid-year convention.

149

. What is the payback period in years for the machine approximated to two decimal points, assuming no taxes are

paid?

a. 3.00 c. 3.27

b. 9.48 d. 4.00

150

. What is the net present value for the machine, assuming no taxes are paid?

a. $3,843 c. $38,000

b. $0 d. $(92,750)

Questions 1 and 2 are based on the following information. H & M

JD, Inc. is considering the purchase of production equipment that costs $400,000. The equipment is expected to

generate annual cash inflows of $125,000 and have a useful life of 5 years with no salvage value. The firm’s cost of

capital is 12 percent. The company uses the straight-line method of depreciation with no mid-year convention. There are

no income taxes.

151

. The payback period in years for the project is

a. 2.90 years c. 3.25 years

b. 3.20 years d. 4.20 years

152

. Ignoring income taxes, the net present value of the project is

a. $40,480 c. $50,625

b. $48,625 d. $54,450

Questions 1 & 2 are based on the following information.

Rogers Manufacturing Company is considering the following investment proposal:

Original investment $30,000

Operations (per year for 4 years):

Cash receipts $20,000

Cash expenditures 11,000

Salvage value of equipment after 4 years $ 2,000

Discount rate 10 percent

The firm uses the straight-line method of depreciation with no mid-year convention.

153

. What is the payback period in years approximated to two decimal points assuming no taxes are paid?

a. 3.33 d. 3.78

b. 1.50 e. 4.00

c. 1.70 H & M

154

. What is the net present value for the investment, assuming no taxes are paid?

a. $(1,000) d. $29,000

b. $30,000 e. $(104)

c. $29,896 H & M

Questions 79 and 80 are based on the following information. Pol Bobadilla

Risk Insurance Company’s management is considering an advertising program that would require an initial expenditure

of P165,500 and bring in additional sales over the next five years. The cost of advertising is immediately recognized as

expense. The projected additional sales revenue in Year 1 is P75,000, with associated expenses of P25,000. The

additional sales revenue and expenses from the advertising program are projected to increase by 10% each year. Risk

Insurance Company’s tax rate is 40%.

The present value of 1 at 10%, end of each period:

Periods Present Value Factor

1 0.90909

2 0.82645

3 0.75131

4 0.68301

5 0.62092 - The payback period for the advertising program is

A. 4.6 years. C. 3.9 years

B. 3.0 years D. 2.5 years - The net present value of the advertising program would be

A. P37,064 C. P(37,064)

B. P29,136 D. P(29,136)

Net Income after Tax, Annual Cash Flow & Payback Period

Questions 15 through 17 are based on the following information. RPCPA 1083

Plaridel Electronics is considering the feasibility of producing a new product to add to its existing line. The sales and

cost estimates for this new product are as follows:

Annual sales 22,500 units

Selling price P35 per unit

Variable manufacturing costs P21 per unit

Incremental fixed manufacturing costs (depreciation not included) P37,500

Incremental selling and administrative expenses P45,000

To produce the new product, the company must purchase an additional equipment costing P300,000. Since the product

will have a life cycle of only five years, the equipment will also have a service life of 5 years with no salvage value. The

straight-line method of depreciation is used. Cash basis for all revenues and expenses other than depreciation is

assumed. Applicable income tax rate is 35%

*. The estimated annual net income after taxes from the proposal to produce the new product is (E)

a. P86,250 c. P151,125

b. P112,125 d. P172,500

*. The estimated net annual cash flow expected from the same proposal is (E)

a. P112,125 c. P249,625

b. P172,125 d. P232,500

*. The payback period of this same proposal is (E)

a. 1.74 years c. 3.48 years

b. 2.68 years d. 5 years

Payback & NPV

Questions 79 and 80 are based on the following information. Barfield

Blues Bros. Inc. is considering an investment in a computer that is capable of producing various images that are useful

in the production of commercial art. The computer would cost $20,000 and have an expected life of eight years. The

computer is expected to generate additional annual net cash receipts (before-tax) of $6,000 per year. The computer will

be depreciated according to the straight-line method and the firm’s marginal tax rate is 25 percent. - What is the after-tax payback period for the computer project?

a. 7.62 years c. 4.44 years

b. 3.90 years d. 3.11 years - (Present value tables needed to answer this question.) What is the after-tax net present value of the proposed

project (using a 16 percent discount rate)?

a. $2,261 c. $6,062

b. $(454) d. $(4,797)

Questions 1 & 2 are based on the following information.

Hancock Corporation is considering an investment in equipment for $30,000. Data related to the investment are as

follows:

Year Income Before Depreciation and Taxes

1 $20,000

2 20,000

3 20,000

4 20,000

5 20,000

Cost of capital is 18 percent.

Hancock uses the straight-line method of depreciation with no mid-year convention. In addition, their tax rate is 40

percent and the life of the equipment is five years with no salvage value.

155

. What is the payback period in years approximated to two decimal points?

a. 1.00 d. 1.50

b. 0.67 e. 2.08

c. 0.48 H & M

156

. What is the net present value of the investment?

a. $45,029 d. $7,524

b. $(15,029) e. $15,029

c. $32,540 H & M

Questions 84 & 85 are based on the following information. Barfield

L&M Ironworks is considering a proposal to sell an existing lathe and purchase a new computer-operated lathe.

Information on the existing lathe and the computer-operated lathe follow:

Existing Lathe Computer-operated lathe

Cost $100,000 $300,000

Accumulated depreciation 60,000 0

Salvage value now 20,000

Salvage value in 4 years 0 60,000

Annual depreciation 10,000 75,000

Annual cash operating costs 200,000 50,000

Remaining useful life 4 years 4 years - What is the payback period for the computer-operated lathe?

a. 1.87 years c. 3.53 years

b. 2.00 years d. 3.29 years - (Present value tables needed to answer this question.) If the company uses 10 percent as its discount rate, what is

the net present value of the proposed new lathe purchase?

a. $236,465 c. $195,485

b. $256,465 d. $30,422

Questions 1 & 2 are based on the following information. H & M

Marriott Services is considering an investment of $50,000. Data related to the investment are as follows:

Year Cash Inflows

1 $20,000

2 22,000

3 16,000

4 30,000

5 30,000

Cost of capital is 14 percent.

157

. What is the payback period in years approximated to two decimal points, assuming no taxes are paid?

a. 2.12 c. 2.50

b. 4.00 d. 3.00

158

. What is the net present value of the investment, assuming no taxes are paid?

a. $29,650 c. $50,000

b. $78,588 d. $28,588

Net Investment and NPV

Problem 15 and 16 are based on the following information. RPCPA 1086

Daneche’s, a tax-exempt entity, plans to purchase a new machine which they project to depreciate over a ten-year

period without salvage value. The new machine will cost P200,000 and is expected to generate cash savings of

P60,000 per year in operating costs. Daneche’s cost of capital is 12%.

For ten periods at 12%, the present value of P1 is P0.3220, while the present value of an ordinary annuity of P1 is

P5.650.

*. What is the net present value of the proposed investment, assuming Daneche uses a 12% discount rate? (M)

a. P185,640 c. P139,000

b. P69,980 d. None of the above.

*. With the company’s initial investment on the new machine, the accounting rate of return is (M)

a. 15% c. 25%

b. 20% d. None of the above.

Questions 11 and 12 are based on the following information. RPCPA 1079

Andalucia Machine Corporation invested in machine with a useful life of six years and no salvage value. The machine

was depreciated using the straight-line method. The annual cash inflow from operations, net of income taxes was

P2,000. The present value of an ordinary annuity of P1 in arrears for six years at 14% is 3.889. The present value of P1

for six periods at 14% is 0.456.

*. Assuming that Andalucia used a time adjusted rate of return of 14%, what was the amount of the original

investment? (E)

a. P7,778 c. P8,687

b. P8,235 d. P9,048

*. Assuming that the minimum desired rate of return on this investment was 14% and the amount of the original

investment was P7,500, what would be the net present value to the nearest peso? (E)

a. P0 c. P278

b. P196 d. P345

Net Investment, Annual Cash Flow & NPV

Question 13 through 15 are based on the following information. RPCPA 1089

A proposal to management of Celine Company has been made to effect the replacement of an old machine with a

modern one, yielding a higher production capacity. The following relevant information was given for evaluation:

Net book value of the old machine P 23,000

Resale value of the old machine 30,000

Cost of the new machine 300,000

Annual cash savings before tax, due to increase in efficiency 85,000

Income tax rate 35%

Estimated useful life of the new machine with a salvage value of P3,000

10 years

Minimum desired rate of return on this investment 20%

The Company uses the straight-line method of depreciation. Information on present value factors follows:

Present value of P1.00 for 10 years at 20% 0.162

Present value of ordinary annuity of P1.00 in arrears for 10 years 4.192

*. What would be the annual cash flow net of tax?

a. P65,645 c. P55,000

b. P55,300 d. P67,750

*. What would be the net investment after income tax?

a. P297,550 c. P270,000

b. P272,450 d. P250,645

*. What would be the net present value of the investment? (rounded to the nearest peso)

a. P2,734 c. P3,220

b. P3,660 d. P(40,146)

Numbers 10, 11 and 12 are based on the following data. RPCPA 1088

The management of PAMA, INC. is planning to replace an old machinery which has a net book value of P15,000 and a

resale value of P20,000. The new machinery will cost P200,000 with an estimated useful life of 10 years and salvage

value of P5,000. The expected increase in efficiency will result in annual cash savings of P55,000 before tax. The

company is using the straight-line method of depreciation and income tax rate is 35%. The minimum desired rate of

return on this investment is 18%.

Present value of ordinary annuity of P1.00 in arrears for 10 years at 18% is 4.494.

Present value of P1.00 for 10 years at 18% is 0.191.

*. The net investment after income tax is

a. P180,000 c. P196,750

b. P185,000 d. P181,750

*. The annual cash flow net of tax is

a. P35,750 c. P35,500

b. P42,750 d. P42,575

*. The net present value of the investment is

a. (P7,712.95) c. P10,537.05

b. P9,582.05 d. P12,287.05

Net Investment, Payback Period, NPV & IRR

Questions 17 through 20 are based on the following information. RPCPA 1084

Sta. Lucia Company is considering the purchase of a new equipment at a price of P400,000. If the new equipment is

acquired, an old machine that is fully depreciated will be disposed for P50,000.

The new equipment is expected to provide annual savings in operating costs of P150,000 before deducting depreciation

or income tax. The new equipment has an estimated life of 5 years and will have no salvage value at the end of 5 years.

Income tax is at the rate of 35% for both the ordinary income and on any gain from the sale of equipment. For similar

type of investment, the company expects a minimum rate of 20%.

The appropriate present value table that you may use in this problem is as follows:

Present value

of P1

Present value of P1 received per period

Perio

d

20% 22% 20% 22%

1 0.833 0.820 0.833 0.820

2 0.694 0.672 1.528 1.492

3 0.579 0.551 2.106 2.042

4 0.482 0.451 2.589 2.494

5 0.402 0.370 2.991 2.864

*. The amount of net investment in the new equipment is

a. P350,000 c. P400,000

b. P367,500 d. P450,000

*. The payback period using returns before depreciation and taxes is

a. 2.45 years. c. 3.0 years.

b. 2.67 years. d. 4.0 years.

*. The net present value of the investment of the new equipment is

a. zero c. P25,870.00

b. P7,870.50 d. P(24,630)

*. The discounted rate of return on the new equipment is

a. 20% d. 22%

b. less than 20% e. Answer not given

c. more than 20% but less than 22%

Annual Net Cash Inflow & Payback

Questions 1 & 2 are based on the following information. H & M

Finch Company is considering an investment in equipment for $30,000. Finch uses the straight-line method of

depreciation with no mid-year convention. In addition, their tax rate is 40 percent and the life of the equipment is five

years with no salvage value. The expected income before depreciation and taxes is projected to be $15,000 per year.

159

. What is the payback period in years approximated to two decimal points?

a. 1.00 d. 4.00

b. 2.00 e. 0.38

c. 2.63

160

. What is the annual net cash inflow for year 1?

a. $15,000 c. $11,400

b. $9,000 d. $6,000

Annual Cash Flow, NPV & IRR

Questions 75 thru 77 are based on the following information. G & N 9e

(Ignore income taxes in this problem.) Bugle’s Bagel Bakery is investigating the purchase of a new bagel making

machine. This machine would provide an annual operating cost savings of $3,650 for each of the next 4 years. In

addition, this new machine would allow the production of one new type of bagel that would result in selling 1,500 dozen

more bagels each year. The company earns a contribution margin of $0.90 on each dozen bagels sold. The purchase

price of this machine is $13,450 and it will have a 4-year useful life. Bugle’s discount rate is 14%. - The total annual cash inflow from this machine for capital budgeting purposes is: (E)

a. $3,650. c. $4,750.

b. $5,150. d. $5,000. - The internal rate of return for this investment is closest to: (M)

a. 14%. c. 18%.

b. 16%. d. 20%. - The net present value of this investment is closest to: (E)

a. $1,120. c. $13,450.

b. $6,550. d. $20,000.

ARR and Payback

Questions 16 and 17 are based on the following information. RPCPA 1080

A manufacturing firm is studying the purchase of a P50,000 equipment with an estimated life of five years. The new

equipment is expected to give the company net cash income before income taxes of P15,000 a year. The equipment

shall be depreciated on a straight-line basis with no salvage value. Assume that the income tax rate is 40%.

*. The accounting (book value) rate of return on the initial increase in required investment is (E)

a. 6% c. 18%

b. 10% d. 30%

*. The payback period is (E)

a. 2 years c. 3.85 years

b. 3.33 years d. 10 years

Questions 101 and 102 are based on the following information. Barfield

Jimmy’s Retail is considering an investment in a delivery truck. Jimmy has found a used truck that he can purchase for

$8,000. He estimates the truck would last six years and increase his store’s net cash revenues by $2,000 per year. At the

end of six years, the truck would have no salvage value and would be discarded. Jimmy will depreciate the truck using

the straight-line method.

101.What is the accounting rate of return on the truck investment (based on average profit and average investment)?

a. 25.0% c. 16.7%

b. 50.0% d. 8.3%

102.What is the payback period on the investment in the new truck?

a. 12 years c. 4 years

b. 6 years d. 2 years

Questions 99 & 100 are based on the following information. G & N 9e

(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:

Sales $22,000

Expenses:

Flour, etc., required in making donuts $10,000

Salaries 6,000

Depreciation 1,600 17,600

Net income $ 4,400 - The payback period on the new machine is closest to:(E)

a. 5 years. c. 3.6 years.

b. 2.7 years. d. 1.4 years.

100.The simple rate of return for the new machine is closest to: (E)

a. 20%. c. 27.5%.

b. 37.5%. d. 80.0%.

Questions 101 & 102 are based on the following information. G & N 9e

(Ignore income taxes in this problem.) Purvell Company has just acquired a new machine. Data on the machine follow:

Purchase cost $50,000

Annual cost savings 15,000

Life of the machine 8 years

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.

101.The payback period would be closest to: (E)

a. 3.33 years. c. 8.0 years.

b. 3.0 years. d. 2.9 years.

102.The simple rate of return would be closest to: (E)

a. 30.0%. c. 18.75%.

b. 17.5%. d. 12.5%.

Questions 103 & 104 are based on the following information. AICPA adapted

(Ignore income taxes in this problem.) Hanley Company purchased a machine for $125,000 that will be depreciated on

the straight-line basis over a five-year period with no salvage value. The related cash flow from operations is expected to

be $45,000 a year. These cash flows from operations occur uniformly throughout the year.

103.What is the payback period? (E)

a. 2.1 years. c. 2.8 years.

b. 2.3 years. d. 4.2 years.

104.What is the simple rate of return on the initial investment? (E)

a. 16%. c. 28%.

b. 24%. d. 36%.

ARR & NPV

Questions 8 and 9 are based on the following information. RPCPA 0585

Information concerning two products or the Champaca Company is given below:

Catleya Company, a tax-exempt entity, is planning to purchase a new machine which it will depreciate on a straight-line

basis over a ten-year period with no salvage value. The new equipment costing P150,000 is expected to produce cash

savings of P33,000 per year in operating costs. Catleya’s cost of capital is 16%. For ten periods at 16%, the present

value of P1 is 0.227, while the present value of an annuity of P1 is P4.833.

*. Assuming that Catleya uses a discount rate of 15%, the net present value of the proposed investment is:

a. P9,489 c. P75,000

b. P34,050 d. P180,000

*. Based on the Company’s initial investment in the new equipment, the accounting rate of return is

a. 8% c. 16%

b. 12% d. 25%

Questions 1 & 2 are based on the following information. - Johnson Company invests in a new place of equipment costing $20,000. The equipment is expected to yield the

following amounts per year for the equipment’s four-year useful life:

Cash revenues $30,000

Cash expenses (16,000)

Depreciation expenses ( 5,000)

Income provided from equipment $ 9,000

Cost of capital 14 percent

There is no salvage value at the end of four years.

161

. What is the accounting rate of return on average investment for the equipment, assuming no taxes are paid?

a. 100.0% d. 90.0%

b. 6.3% e. 14.0%

c. 70.0% H & M

162

. What is the net present value of this investment in equipment assuming no taxes are paid?

a. $40,796 d. $26,226

b. $20,796 e. $17,760

c. $(2,240) H & M

ARR & IRR

Items 74 thru 76 are based on the following:

Tam Co. is negotiating for the purchase of equipment that would cost $100,000, with the expectation that $20,000 per

year could be saved in after-tax cash costs if the equipment were acquired. The equipment’s estimated useful life is 10

years, with no residual value, and would be depreciated by the straight-line method. Tam’s predetermined minimum

desired rate of return is 12%. Present value of an annuity of 1 at 12% for 10 periods is 5.65. Present value of 1 due in

10 periods at 12% is 0.322.

163

. The payback period is (E)

a. 4.0 years. c. 4.5 years.

b. 4.4 years. d. 5.0 years.

164

. In estimating the internal rate of return, the factors in the table of present values of an annuity should be taken from

the columns closest to

a. 0.65 c. 5.00

b. 1.30 d. 5.65

165

. Accrual accounting rate of return based on initial investment is

a. 30% c. 12%

b. 20% d. 10%

ARR, Payback and NPV

Questions 1 through 3 are based on the following information.

A company is planning to acquire a new machine costing $120,000. It has an economic useful life of 3 years with no

salvage value. It has a theoretical capacity of 100,000 machine hours. It can produce one unit per hour. It expects to

sell 80,000 units per year. The machine will reduce labor costs from $2.50 to $1.50 per machine hour.

166

. What is the net present value of this investment? Use the factors given below.

Years PV $1 at 10%

1 0.91

2 0.83

3 0.75

4 0.68

5 0.62

6 0.56

A. $79,200 C. $129,000

B. $120,000 D. $199,200 CIA 0589 IV-22

167

. What is the accounting (book) rate of return on the average investment for the 3-year period?

A. 10% C. 67%

B. 33% D. 80% CIA 0589 IV-23

168

. What is the payback period?

A. 1.50 years. C. 2.00 years.

B. 1.20 years. D. 3.00 years. CIA 0589 IV-24

Questions 83 through 85 are based on the following information. CMA 0696 4-23 to 25

Jorelle Company’s financial staff has been requested to review a proposed investment in new capital equipment.

Applicable financial data is presented below. There will be no salvage value at the end of the investment’s life and, due

to realistic depreciation practices, it is estimated that the salvage value and net book value are equal at the end of each

year. All cash flows are assumed to take place at the end of each year. For investment proposal, Jorelle uses a 12%

after-tax target rate of return.

Investment

Proposal

Year

Purchase Cost

and Book Value

Annual Net After-Tax

Cash Flows

Annual Net Income

0 $250,000 $ 0 . $ 0 .

1 168,000 120,000 35,000

2 100,000 108,000 39,000

3 50,000 96,000 43,000

4 18,000 84,000 47,000

5 0 72,000 51,000

Year P.V. of $1 Received

at the End of Each Period

P.V. of an Annuity of $1.00 Received

at the End of Each Period

1 0.89 0.89

2 0.80 1.69

3 0.71 2.40

4 0.64 3.04

5 0.57 3.61

6 0.51 4.12

169

. The accounting rate of return for the investment proposal is

a. 12.0% c. 28.0%

b. 17.2% d. 34.4%

170

. The net present value for the investment proposal is

a. $106,160 c. $356,160

b. $(97,970) d. $96,560

171

. The traditional payback period for the investment proposal is

a. Over 5 years. c. 1.65 years.

b. 2.23 years. d. 2.83 years

Questions 86 through 88 are based on the following information. CIA 0593 IV-22 to 24

A company purchased a new machine to stamp the company logo on its products. The cost of the machine was

$250,000, and it has an estimated useful life of 5 years with an expected salvage value at the end of its useful life of

$50,000. The company uses the straight-line depreciation method.

The new machine is expected to save $125,000 annually in operating costs. The company’s tax rate is 40%, and it uses

a 10% discount rate to evaluate capital expenditure.

Year Present Value of $1 Present Value of an Ordinary Annuity of $1

1 .909 .909

2 .826 1.736

3 .751 2.487

4 .683 3.170

5 .621 3.791

172

. What is the traditional payback period for the new stamping machine?

a. 2.00 years. c. 2.75 years.

b. 2.63 years. d. 2.94 years.

173

. What is the accounting rate of return based on the average investment in the new stamping machine?

a. 20.4% c. 40.8%

b. 34.0% d. 51.0%

174

. What is the net present value (NPV) of the new stamping machine?

a. $125,940 c. $250,000

b. $200,000 d. $375,940

Questions 122 through 125 are based on the following information. CMA 1291 4-1 to 4

Yipann Corporation is reviewing an investment proposal. The initial cost as well as other related data for each year are

presented in the schedule below. All cash flows are assumed to take place at the end of the year. The salvage value of

the investment at the end of each year is equal to its net book value, and there will be no salvage value at the end of the

investment’s life.

Investment Proposal

Year

Initial Cost

and Book Value

Annual Net AfterTax Cash Flows

Annual

Net Income

0 $105,000 $0 $0

1 70,000 50,000 15,000

2 42,000 45,000 17,000

3 21,000 40,000 19,000

4 7,000 35,000 21,000

5 0 30,000 23,000

Yipann uses a 24% after-tax target rate of return for new investment proposals. The discount figures for a 24% rate of

return are given.

Year

Present Value of $1.00

Received at the End of Period

Present Value of an Annuity of

$1.00Received at the End of Each Period

1 .81 .81

2 .65 1.46

3 .52 1.98

4 .42 2.40

5 .34 2.74

6 .28 3.02

7 .22 3.24

175

. The traditional payback period for the investment proposal is (E)

A. .875 years. C. 2.250 years.

B. 1.933 years. D. Over 5 years.

176

. The average annual cash inflow at which Yipann would be indifferent to the investment (rounded to the nearest

dollar) is (E)

A. $21,000. C. $38,321.

B. $30,000. D. $46,667.

177

. The accounting rate of return for the investment proposal over its life using the initial value of the investment is (E)

A. 36.2%. C. 28.1%.

B. 18.1%. D. 38.1%.

178

. The net present value of the investment proposal is (E)

A. $4,600. C. $(55,280).

B. $10,450. D. $115,450.

Questions 80 thru 82 are based on the following information. G & N 9e

(Ignore income taxes in this problem.) Oriental Company has gathered the following data on a proposed investment

project:

Investment in depreciable equipment ….. $200,000

Annual net cash flows ………………. $ 50,000

Life of the equipment ………………. 10 years

Salvage value ……………………… -0-

Discount rate ……………………… 10%

The company uses straight-line depreciation on all equipment. - The payback period for the investment would be: (E)

a. 2.41 years. c. 10 years.

b. 0.25 years. d. 4 years. - The simple rate of return on the investment would be: (E)

a. 10%. c. 15%.

b. 35%. d. 25%. - The net present value of this investment would be: (E)

a. ($14,350). c. $77,200.

b. $107,250. d. $200,000.

ARR, Discounted Payback & NPV

Questions 68 through 70 are based on the following information. Gleim

Rex Company is considering an investment in a new plant which will entail an immediate capital expenditure of

$4,000,000. The plant is to be depreciated on a straight-line basis over 10 years to zero salvage value. Operating

income (before depreciation and taxes) is expected to be $800,000 per year over the 10-year life of the plant. The

opportunity cost of capital is 14%. Assume that there are no taxes.

179

. What is the book (or accounting) rate of return for the investment?

A. 10% C. 28%

B. 20% D. 35%

180

. What is the discounted payback period for the investment?

A. 5.5 years. C. 9.2 years.

B. 7.1 years. D. 11.7 years.

181

. What is the NPV for the investment?

A. $172,800 C. $312,475

B. $266,667 D. $428,956

ARR, NPV & IRR

Questions 1 thru 3 are based on the following information. H & M

Orow Print Shop is considering the purchase of a used printing press costing $19,200. The printing press would

generate a net cash inflow of $8,000 per year for three years. At the end of three years, the press would have no salvage

value. The company’s cost of capital is 10 percent. The company uses straight-line depreciation with no mid-year

convention.

182

. What is the accounting rate of return on the original investment in the press to the nearest percent, assuming no

taxes are paid?

a. 41.67% d. 10.00%

b. 8.33% e. 12.00%

c. 75.00%

183

. What is the net present value for the press, assuming no taxes are paid?

a. $4,800 d. $696

b. $19,896 e. $0

c. $19,200

184

. What is the internal rate of return to the nearest percent for the press, assuming no taxes are paid?

a. 10% d. 8%

b. 12% e. 14%

c. 42%

ARR, NPV, IRR & Annual Cash Flow

Questions 1 thru 4 are based on the following information. H & M

Randall Corp is considering the purchase of a new machine for $40,000. The machine would generate a net cash inflow

before depreciation and taxes of $14,389 per year for five years. At the end of five years, the machine would have no

salvage value. The company’s cost of capital is 12 percent. The company uses straight-line method of depreciation with

no mid-year convention and has a 40 percent tax rate.

185

. What is the accounting rate of return on the original investment in the machine approximated to two decimal points?

a. 35.97% d. 9.58%

b. 19.17% e. 0.00%

c. 15.97%

186

. What is the net present value for the machine?

a. $2,659 c. $42,659

b. $0 d. $11,872

187

. What is the internal rate of return for the machine rounded to the nearest percent?

a. below 12 percent d. between 16 and 18 percent

b. between 12 and 14 percent e. above 18 percent

c. between 14 and 16 percent

188

. What is the annual net after-tax cash inflow per year (rounded off)?

a. $14,389 c. $3,200

b. $8,633 d. $11,833

Questions 1 thru 4 are based on the following information. H & M

Harrison Company is considering the purchase of a new machine for $80,000. The machine would generate net cash

inflow before depreciation and taxes of $31,294 per year for four years. At the end of four years, the machine would have

no salvage value. The company’s cost of capital is 12 percent. The company uses straight-line depreciation with no midyear convention and has a 40 percent tax rate.

189

. What is the accounting rate of return on the original investment in the machine approximated to two decimal points?

a. 14.12% c. 39.12%

b. 8.47% d. 16.92%

190

. What is the net present value for the machine?

a. $81,320 c. $15,040

b. $1,320 d. $(22,976)

191

. What is the internal rate of return for the machine rounded to the nearest percent?

a. below 12 percent d. between 16 and 18 percent

b. between 12 and 14 percent e. above 18 percent

c. between 14 and 16 percent

192

. What is the annual net after-tax cash inflow per year?

a. $31,294 d. $29,667

b. $8,000 e. $26,76

c. $18,776

ARR, Payback, NPV & IRR

Questions 118 through 121 are based on the following information. Gleim

Don Adams Breweries is considering an expansion project with an investment of $1,500,000. The equipment will be

depreciated to zero salvage value on a straight-line basis over 5 years. The expansion will produce incremental

operating revenue of $400,000 annually for 5 years. The company’s opportunity cost of capital is 12%. Ignore taxes.

193

. What is the payback period of the project?

A. 2 years. C. 3.75 years.

B. 2.14 years. D. 5 years.

194

. What is the book (accounting) rate of return of the investment?

A. 6.67% C. 16.67%

B. 13.33% D. 26.67%

195

. What is the NPV of the investment?

A. $0 C. – $116,000

B. – $58,000 D. $1,442,000

196

. What is the IRR of the investment?

A. 10.43% C. 16.32%

B. 12.68% D. 19.17%

Questions 71 thru 74 are based on the following information. G & N 9e

(Ignore income taxes in this problem.) Shields Company has gathered the following data on a proposed investment

project:

Investment required in equipment $400,000

Annual cash inflows $80,000

Salvage value $-0-

Life of the investment 10 years

Discount rate 10% - The payback period for the investment is closest to: (E)

a. 0.2 years. c. 3.0 years.

b. 1.0 years. d. 5.0 years. - The simple rate of return on the investment is closest to: (E)

a. 5%. c. 15%.

b. 10%. d. 20%. - The net present value on this investment is closest to: (E)

a. $400,000. c. $91,600.

b. $80,000. d. $76,750. - The internal rate of return on the investment is closest to: (M)

a. 11%. c. 15%.

b. 13%. d. 17%.

ARR, Payback, NPV, PI & IRR

Questions 106 through 110 are based on the following information. Gleim

A proposed investment is not expected to have any salvage value at the end of its 5-year life. For present value

purposes, cash flows are assumed to occur at the end of each year. The company uses a 12% after-tax target rate of

return.

Year

Purchase Cost

and Book Value

Annual Net AfterTax Cash Flows

Annual

Net Income

0 $500,000 $ 0 $ 0

1 336,000 240,000 70,000

2 200,000 216,000 78,000

3 100,000 192,000 86,000

4 36,000 168,000 94,000

5 0 144,000 102,000

Discount Factors for a 12% Rate of Return

Year

Present Value of $1 at

The End of Each Period

Present Value of an Annuity of

$1 at the End of Each Period

1 .89 .89

2 .80 1.69

3 .71 2.40

4 .64 3.04

5 .57 3.61

6 .51 4.12

197

. The accounting rate of return based on the average investment is (E)

a. 84.9% c. 40.8%

b. 34.4% d. 12%

198

. The net present value is (E)

a. $304,060 c. $(70,000)

b. $212,320 d. $712,320

199

. The traditional payback period is (E)

a. Over 5 years. c. 1.65 years.

b. 2.23 years. d. 2.83 years.

200

. The profitability index is (E)

a. 0.61 c. 0.86

b. 0.42 d. 1.425

201

. Which statement about the internal rate of return of the investment is true? (E)

a. The IRR is exactly 12%.

b. The IRR is over 12%.

c. The IRR is under 12%.

d. No information about the IRR can be determined

Discount Rate, Profitability Index, IRR

Questions 88 through 90 are based on the following information. Barfield

R Co. is involved in the evaluation of a new computer-integrated manufacturing system. The system has a projected

initial cost of $1,000,000. It has an expected life of six years, with no salvage value, and is expected to generate annual

cost savings of $250,000. Based on R Co.’s analysis, the project has a net present value of $57,625. - (Present value tables needed to answer this question.) What discount rate did the company use to compute the net

present value?

a. 10% c. 12%

b. 11% d. 13% - What is the project’s profitability index?

a. 1.058 c. .945

b. .058 d. 1.000 - (Present value tables needed to answer this question.) What is the project’s internal rate of return?

a. between 12.5 and 13.0 percent c. between 11.5 and 12.0 percent

b. between 11.0 and 11.5 percent d. between 13.0 and 13.5 percent

Payback Period and NPV

Questions 13 and 14 are based on the following information. RPCPA 1082

The Sta. Clara Company is planning to replace one of its machines. The annual operating cost of the machine is

P150,000, excluding depreciation, while that of the new machine is estimated at P90,000. The new machine will cost

P180,000 net of trade-in allowance with a useful life of 10 years, without salvage value. Assume cost of capital to be

12% and a straight-line depreciation charge. The old machine is fully depreciated. The present value of an annuity of

P1.00 for 10 years at 12% is 5.6502. Ignore income tax implications.

*. The payback period will be (E)

a. 2.5 years c. 4.29 years

b. 3 years d. 4.5 years

*. The net present value is (E)

a. P57,308.40 d. P237,308.40

b. P90,000 e. None of the these

c. P180,000

Questions 66 and 67 are based on the following information. CMA 1293 4-18 & 19

The Keego Company is planning a $200,000 equipment investment which has an estimated 5-year life with no estimated

salvage value. The company has projected the following annual cash flows for the investment.

Year Projected Cash Inflows Present Value of $1

1 $120,000 .91

2 60,000 .76

3 40,000 .63

4 40,000 .53

5 40,000 .44

Totals $300,000 3.27

202

. Assuming that the estimated cash inflows occur evenly during each year, the payback period for the investment is

a. 1.67 years. c. 2.50 years.

b. 4.91 years. d. 1.96 years.

203

. The net present value for the investment is

A. $18,800. C. $196,200.

B. $218,800. D. $91,743.

Questions 76 and 77 are based on the following information. CMA 695 4-5 & 6

McLean Inc. is considering the purchase of a new machine that will cost $160,000. The machine has an estimated

useful life of 3 years. Assume that 30% of the depreciable value base will be depreciated in the first year, 40% in the

second year, and 30% in the third year. The new machine will have a $10,000 resale value at the end of its estimated

useful life. The machine is expected to save the company $85,000 per year in operating expenses. McLean uses a

40% estimated income tax rate and a 16% hurdle rate to evaluate capital projects.

Discount rates for a 16% rate are as follows:

Present Value of $1 Present Value of an Ordinary Annuity of $1

Year 1 .862 .862

Year 2 .743 1.605

Year 3 .641 2.246

204

. What is the net present value of this project?

a. $3,278 c. $(568)

b. $5,842 d. $30,910

205

. The payback period for this investment would be

a. 1.88 years. d. 2.23 years.

b. 3.00 years. e. 1.62 years.

c. 2.23 years.

Questions 78 and 79 are based on the following information. CMA 1295 4-12 & 13

Willis Inc. has a cost of capital of 15% and is considering the acquisition of a new machine which costs $400,000 and

has a useful life of 5 years. Willis projects that earnings and cash flow will increase as follows:

Year Net Earnings After-Tax Cash Flow

1 $100,000 $160,000

2 100,000 140,000

3 100,000 100,000

4 100,000 100,000

5 200,000 100,000

15% Interest Rate Factors

Period Present Value of $1 Present Value of an Annuity of $1

1 0.87 0.87

2 0.76 1.63

3 0.66 2.29

4 0.57 2.86

5 0.50 3.36

206

. The net present value of this investment is

a. Negative, $64,000 c. Positive, $18,600

b. Negative, $14,000 d. Positive, $200,000

207

. What is the payback period of this investment?

a. 1.50 years. c. 3.33 years.

b. 3.00 years. d. 4.00 years.

Questions 83 & 84 are based on the following information. AICPA adapted

(Ignore income taxes in this problem.) Apex Corp. is planning to buy production machinery costing $100,000. This

machinery’s expected useful life is five years, with no residual value. Apex uses a discount rate of 10% and has

calculated the following data pertaining to the purchase and operation of this machinery:

Year Estimated annual net cash inflow

1 $ 60,000

2 30,000

3 20,000

4 20,000

5 20,000 - The payback period is: (E)

a. 2.50 years. c. 3.00 years.

b. 2.75 years. d. 5.00 years. - The net present value is closest to: (E)

a. $20,400. c. $80,000.

b. $28,400. d. $50,000.

Payback, Present Value of Cash Flow, Profitability Index

Questions 8 through 10 are based on the following information. RPCPA 1079

Caloocan Manufacturing Co. which has a 14% cost of capital, is planning a project that will cost P80,000. The annual

cash inflow, net of income taxes, together with the present value factors (14%) are as follows:

Year Cash Flow Present Value of P1 at 14%

1 P16,000 0.877

2 P32,000 0.769

3 P32,000 0.675

4 P48,000 0.592

*. The present value of the cash flow generated by the project is (E)

a. P88,656 c. P91,456

b. P90,056 d. P92,856

*. The profitability index of the project (rounded to the nearest hundredth) is (E)

a. 1.02 c. 1.10

b. 1.07 d. 1.15

*. Payback period for the project is (E)

a. 2.75 years c. 3.5 years

b. 3 years d. 4 years.

Payback, NPV & Annual Cash Inflow

Questions 1 thru 3 are based on the following information.

James Corporation is considering an investment in equipment for $50,000. Data related to the investment are as follows:

Year Income Before Depreciation and Taxes

1 $25,000

2 25,000

3 25,000

4 25,000

James uses the straight-line method of depreciation with no mid-year convention. In addition, their tax rate is 40 percent

and the life of the equipment is four years with no salvage value. Cost of capital is 12 percent.

208

. What is the payback period in years approximated to two decimal points?

a. 2.00 d. 2.50

b. 0.40 e. 0.50

c. 3.33 H & M

209

. What is the net present value of the investment?

a. $60,740 c. $25,925

b. $(4,445) d. $10,740 H & M

210

. What is the annual net cash inflow for year 1?

a. $20,000 c. $25,000

b. $15,000 d. $5,000 H & M

Payback, NPV & PI

Questions 80 through 82 are based on the following information. Gleim

Tonya, Inc. has a cost of capital of 15% and is considering the acquisition of a new machine that costs $800,000 and has

a useful life of 5 years. Tonya projects that earnings and cash flow will increase as follows:

Year Net Earnings After-Tax Cash Flow

1 $200,000 $320,000

2 200,000 280,000

3 200,000 200,000

4 200,000 200,000

5 200,000 200,000

Interest rate factors at 15% are as follows:

Period Present Value of $1 Present Value of an Annuity

1 0.87 0.87

2 0.76 1.63

3 0.66 2.29

4 0.57 2.86

5 0.50 3.36

211

. The net present value of this investment is

a. $(128,000) c. $37,200

b. $200,000 d. $400,000

212

. What is the profitability index for the investment?

a. 0.05 c. 1.05

b. 0.96 d. 1.25

213

. What is the payback period of this investment?

a. 1.5 years. c. 3.3 years.

b. 3.0 years. d. 4.0 years.

Questions 102 through 105 are based on the following information. Gleim

MS Trucking is considering the purchase of a new piece of equipment that has a net initial investment with a present vale

of $300,000. The equipment has an estimated useful life of 3 years. For tax purposes, the equipment will be fully

depreciated at rates of 30%, 40%, and 30%, in years one, two, and three, respectively. The new machine is expected to

have a $20,000 salvage value. The machine is expected to save the company $170,000 per year in operating

expenses. MS Trucking has a 40% marginal income tax rate and a 1^% cost of capital. Discount rates for a 16% rate

are:

Present Value of an Ordinary Annuity of $1 Present Value of $1

Year 1 0.862 0.862

Year 2 1.605 0.743

Year 3 2.246 0.641

214

. What is the net present value of this project?

a. $31,684 c. $94,640

b. $26,556 d. $18,864

215

. What is the profitability index for the project?

a. 1.089 c. 1.315

b. 1.106 d. 1.063

216

. The payback period for this investment is

a. 2.84 years. c. 2.08 years.

b. 1.76 years. d. 3.00 years

217

. Assume the same facts as above, except that the salvage value at the end of the investment’s useful life is zero.

What is the new payback period?

a. 2.84 years. c. 2.08 years.

b. 1.76 years. d. 2.09 years.

Expected Annual Cost Savings & IRR

Questions 86 and 87 are based on the following information. Barfield

The Allendale Co. has recently evaluated a proposal to invest in cost-reducing production technology. According to the

evaluation, the project would require an initial investment of $17,166 and would provide equal annual cost savings for

five years. Based on a 10 percent discount rate, the project generates a net present value of $1,788. The project is not

expected to have any salvage value at the end of its five-year life. - (Present value tables needed to answer this question.) What are the expected annual cost savings of the project?

a. $3,500 c. $4,500

b. $4,000 d. $5,000 - (Present value tables needed to answer this question.) What is the project’s expected internal rate of return?

a. 10% c. 13%

b. 11% d. 14%

Payback Period, NPV & IRR

Questions 14 through 16 are based on the following information. RPCPA 1085

Bernie Co. evaluates 2 alternative investment opportunities. All capital investment in this company are expected to yield

a discount rate of return of less than 12%. The following data on the 2 investment proposals are:

Proposal M Proposal N

Required investment P 440,000 P 480,000

Estimated service life 5 years 6 years

Estimated salvage value P 20,000 –

Estimated annual cash flow 170,000 P 120,000

Depreciation straight-line 84,000 80,000

Estimated annual income 36,000 40,000

*. Rate of all investment computed for Proposal M and Proposal N, respectively:

a. 8.2% and 8.3% c. 16.4% and 17.4%

b. 15.7% and 16.7% d. 18.6% and 18.6%

*. Payback period

a. 3.0 for M and 3.5 for N c. 5.0 for M and 6.0 for N

b. 3.7 for M and 4.0 for N d. 12.2 for M and 12.0 for N

*. Net present value discounted at an annual rate of 12% of proposal N if the present value to be received for 5

periods is 3.605 and for 6 periods 4.111.

a. P3,940 c. P13,320

b. P7,880 d. P26,640

Questions 81 through 83 are based on the following information. Barfield

Hefty Investment Co. is considering an investment in a labor-saving machine. Information on this machine follows:

Cost $30,000

Salvage value in five years $0

Estimated life 5 years

Annual depreciation $6,000

Annual reduction in existing costs $8,000 - (Present value tables needed to answer this question.) What is the internal rate of return on this project (round to

the nearest 1/2%)?

a. 37.5% c. 10.5%

b. 25.0% d. 13.5% - (Present value tables needed to answer this question.) Assume for this question only that Hefty Co. uses a discount

rate of 16 percent to evaluate projects of this type. What is the project’s net present value?

a. $(6,283) c. $(23,451)

b. $(3,806) d. $(22,000) - What is the payback period on this investment?

a. 4 years c. 3.75 years

b. 2.14 years d. 5 years

Payback, NPV, IRR & Cash Flows

Questions 1 thru 3 are based on the following information. H & M - Frank Drewer is considering the purchase of a computer-aided manufacturing system. The after-tax cash

benefits/savings associated with the system are as follows:

Decreased waste $150,000

Increased quality 200,000

Decrease in operating costs 300,000

Increase in on-time deliveries 100,000

The system will cost $4,500,000 and will last ten years. The company’s cost of capital is 12 percent.

218

. What is the payback period for the computer-aided manufacturing system?

a. 10.00 years d. 6.92 years

b. 15.00 years e. 6.00 years

c. 11.25 years

219

. What is the NPV for the computer-aided manufacturing system?

a. $4,500,000 d. $4,237,500

b. $(262,500) e. $3,000,000

c. $(2,805,000)

220

. Which of the following best describes the IRR for this project?

a. between 8 and 10 percent d. between 14 and 16 percent

b. between 10 and 12 percent e. above 16 percent.

c. between 12 and 14 percent

Questions 114 through 117 are based on the following information. CIA 1195 IV-38 to 41

An organization has four investment proposals with the following costs and expected cash inflows:

Expected Cash Inflows

Project Cost End of Year 1 End of Year 2 End of Year 3

A Unknown $10,000 $10,000 $10,000

B $20,000 $ 5,000 $10,000 $15,000

C $25,000 $15,000 $10,000 $ 5,000

D $30,000 $20,000 Unknown $20,000

Additional information:

Discount

Rate

Number of

Periods

Present Value of $1 Due

at the End of n Periods

(PVIP)

Present Value of an Annuity of

$1 per Period for n Periods

(PVIFA)

5% 1 0.9524 0.9524

5% 2 0.9070 1.8594

5% 3 0.8638 2.7232

10% 1 0.9091 0.9091

10% 2 0.8264 1.7355

10% 3 0.7513 2.4869

15% 1 0.8696 0.8696

15% 2 0.7561 1.6257

15% 3 0.6575 2.2832

221

. If Project A has an internal rate of return (IRR) of 15%, it has a cost of

a. $8,696 c. $24,869

b. $22,832 d. $27,232

222

. If the discount rate is 10%, the net present value (NPV) of Project B is

a. $4,079 c. $9,869

b. $6,789 d. $39,204

223

. The payback period of Project C is

a. 0 years c. 2 years.

b. 1 year. d. 3 years.

224

. If the discount rate is 5% and the discounted payback period of Project D is exactly 2 years, then the year 2 cash

inflow for Project D is

a. $5,890 c. $12,075

b. $10,000 d. $14,301

Questions 113 through 116 are based on the following information. CIA 0595 IV-41 to 44

A company is evaluating three investment projects.

Project A costs $100,000, has a 10% cost of capital, and has equal end-of-period cash inflows each year for five years.

Project B costs $50,000 and has equal end-of-period cash inflows of $40,000 per year for two years.

Project C costs $60,000 and has cash inflows of $20,000 at the end of year one, $35,000 at the end of year two, and an

unknown cash inflow at the end of year three.

Number of

Years

Discount Rate

(Percent)

Present Value of $1 Due at the

end of n Periods (PVIF)

Present Value of $1 per Period

for n Periods (PVIFA)

1 10 0.9091 0.9091

1 12 0.8929 0.8929

2 10 0.8264 1.7355

2 12 0.7972 1.6901

3 10 0.7513 2.4869

3 12 0.7118 2.4018

4 10 0.683 3.1699

4 12 0.6355 3.0373

5 10 0.6209 3.7908

5 12 0.5674 3.6048

225

. If the net present value of Project A is $12,405, then the size of each equal, end-of-period cash inflow, to the nearest

dollar, is

A. $19,979 C. $29,652

B. $21,863 D. $31,182

226

. If the cost of capital is 12%, the net present value of Project B, to the nearest dollar, is

A. ($18,112) C. $17,604

B. ($16,944) D. $19,420

227

. If Project C has an internal rate of return of 12%, then the cash inflow at the end of year three, to the nearest dollar,

is

A. $17,162 C. $24,126

B. $20,006 D. $24,981

228

. If the year three cash inflow for Project C is $46,000, then the payback period for is year(s).

A. B. C. D.

List A Project B Project B Project C Project C

List B One Two One Two

Questions 24 thru 29 are based on the following information. Gitman

Nuff Folding Box Company, Inc. is considering purchasing a new gluing machine. The gluing 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 under MACRS using a fiveyear

recovery schedule 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 fiveyear life, the new machine should

reduce operating costs (excluding depreciation) by $17,000 per year. Training costs of employees who will operate the

new machine will be a onetime cost of $5,000 which should be included in the initial outlay. The new machine will be

depreciated under MACRS using a fiveyear recovery period. 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

A. 2 years. C. between 3 and 4 years.

B. 3 years. D. between 4 and 5 years. - The tax effect of the sale of the existing asset is

A. a tax liability of $2,340. C. a tax liability of $3,320.

B. a tax benefit of $1,500. D. a tax liability of $5,320. - The initial outlay for this project is

A. $42,820. C. $47,820.

B. $40,320. D. $35,140. - The present value of the project’s annual cash flows is

A. $ 47,820. C. $ 51,694.

B. $ 42,820. D. $100,563. - The net present value of the project is

A. $3,874. C. $5,614.

B. $2,445. D. $7,500. - The internal rate of return for the project is

A. between 7 and 8 percent. C. greater than 12 percent.

B. between 9 and 10 percent. D. between 10 and 11 percent.

Payback, NPV, IRR & Investment Decision

Questions 109 through 112 are based on the following information. CIA 1194 IV-31 to 33

A company is evaluating two investment proposals. Project A costs $700,000 and Project B costs $500,000.

Expected cash inflows for the two projects are as follows:

Year Cash Inflow at End of Year for Project A Cash Inflow at End of Year for Project B

1 $400,000 $250,000

2 $300,000 $250,000

3 $600,000 $250,000

Both projects are assessed as being equally risky and having an appropriate cost of capital of 10%.

For a 10% cost of capital, the following present value factors apply:

Number of

Years

Present Value of $1 Received

at End of Year n [PVIF]

Present Value of an Annuity of $1 Received at

End of Each Year for n Years [PVIFA]

1 .9091 .9091

2 .8264 1.7355

3 .7513 2.4873

For a 3-year annuity, the following present value factors apply:

Discount Rate Present Value of a 3-Year Annuity of $1 (PVIFA)

16 percent 2.2459

20 percent 2.1065

24 percent 1.9813

28 percent 1.8684

229

. Project A has a payback period of

A. 0 years. C. 2 years.

B. 1 year. D. 3 years. CIA 1194 IV-31

230

. Project A has a net present value (to the nearest dollar) of

A. $362,340 C. $1,676,670

B. $1,062,340 D. $2,376,670 CIA 1194 IV-32

231

. Which of the following most closely approximates the internal rate of return of Project B?

A. 16% C. 24%

B. 20% D. 28% CIA 1194 IV-33

232

. If projects A and B are independent, the company will undertake

A. Both projects. C. Only Project B.

B. Only Project A. D. Neither project. CIA 1194 IV-34

NPV & IRR

Questions 78 & 79 are based on the following information. G & N 9e

(Ignore income taxes in this problem.) Treads Corporation is considering the replacement of an old machine that is

currently being used. The old machine is fully depreciated but can be used by the corporation for five more years. If

Treads decides to replace the old machine, Picco Company has offered to purchase the old machine for $60,000. The

old machine would have no salvage value in five years.

The new machine would be acquired from Hillcrest Industries for $1,000,000 in cash. The new machine has an expected

useful life of five years with no salvage value. Due to the increased efficiency of the new machine, estimated annual

cash savings of $300,000 would be generated.

Treads Corporation uses a discount rate of 12%. - The net present value of the project is closest to: (M)

a. $171,000. c. $141,500.

b. $136,400. d. $560,000. - The internal rate of return of the project is closest to: (M)

a. 14%. c. 18%.

b. 16%. d. 20%.

Questions 89 and 90 are based on the following information. CIA 0597 IV-40 & 41

A firm with an 18% cost of capital is considering the following projects (on January 1, year 1):

January 1, Year 1

Cash Outflow

(000’s Omitted)

December 31, Year 5

Cash Inflow

(000’s Omitted)

Project Internal

Rate of Return

Project A $3,500 $7,400 16%

Project B 4,000 9,950 ?

Present Value of $1 due at the End of “N” Periods

N 12% 14% 15% 16% 18% 20% 22%

4 .6355 .5921 .5718 .5523 .5153 .4823 .4230

5 .5674 .5194 .4972 .4761 .4371 .4019 .3411

6 .5066 .4556 .4323 .4104 .3704 .3349 .2751

233

. Using the net-present-value (NPV) method, project A’s net present value is

a. $316,920 c. $(265,460)

b. $23,140 d. $(316,920)

234

. Project B’s internal rate of return is closed to

a. 15% c. 18%

b. 16% d. 20%

Questions 14 and 15 are based on the following information. RPCPA 0581

V. Ortega, Inc. is evaluating two alternative investment proposals, X & Y. Each project has estimated life of ten years.

All capital investments in this company are expected to yield a discounted rate of return of not less than 15%. Additional

information on the two projects and a present value (Present Value table are shown below.)

Project X Project Y

Net investment P60,000 P135,000

Annual return for each of 10 years P16,295 P 32,204

Present Value of P1 Received Annually for 10 years

Int. Rate Present Value Int. Rate Present Value

12% 5.650 20% 4.192

14% 5.216 22% 3.923

15% 5.019 24% 3.682

16% 4.833 25% 3.571

18% 4.494 26% 3.465

*. The discounted rate of return for each of the two projects are: (M)

a. b. c. d.

Project X 14% 22% 24% 24%

Project Y 18% 25% 20% 24%

*. Based on the minimum rate of return requirement of 15%, the net or excess present value of returns for each of the

two projects are (E)

a. b. c. d.

Project X P16,295 P21,785 P 81,785 P102,950

Project Y P32,204 P26,632 P161,632 P187,040

Questions 111 through 113 are based on the following information. CIA 0594 IV-40 to 42

A company that annually reviews its investment opportunities and selects appropriate capital expenditures for the

coming year is presented with two projects, called Project A and Project B. Best estimates indicate that the investment

outlay for Project A is $30,000 and for Project B is $1 million. The projects are considered to be equally risky. Project A

is expected to generate cash inflows of $40,000 at the end of each year for 2 years. Project B is expected to generate

cash inflows of $700,000 at the end of the first year and $500,000 at the end of the second year. The company has a

cost of capital of 8%.

235

. What is the net present value (NPV) of each project when the cost of capital is zero?

a. b. c. d.

Project A $30,000 $50,000 $80,000 $110,000

Project B $1,000,000 $200,000 $1,200,000 $2,200,000

236

. The internal rate of return of Project A, to the nearest full percentage point is

a. 10% c. 25%

b. 15% d. 100%

237

. Net present value (NPV) and internal rate of return (IRR) differ in that

a. NPV assumes reinvestment of project cash flows at the cost of capital, whereas IRR assumes reinvestment of

project cash flows at the internal rate of return.

b. NPV and IRR make different accept or reject decisions for independent projects.

c. IRR can be used to rank mutually exclusive investment projects, but NPV cannot.

d. NPV is expressed as a percentage, while IRR is expressed as a dollar amount.

Net Income, Incremental Cash Inflow, Payback Period & Discounted Rate of Return

*. The composite life of the company’s fixed assets was determined to be nine years at the end of 1993. One-tenth of

the 1993 balance is the net book value of an equipment line used for bottling operations. An investment opportunity

to replace this line was presented in the beginning of 1994 with the following additional data:

Disposal value of old line is equal to its net book value.

Cost of new line inclusive of civil works, installation and commissioning costs, P35,000. Estimated useful life is 15

years.

Immediate repairs needed on old line is P1,000

Income tax rate is 35%

Annual out-of-pocket operating costs: old line, P9,000; new line, P3,000

The table of present values include the following:

14% 16% 18% 20%

Present Value of P1 due 15 years 0.140 0.108 0.084 0.065

Present Value of P1 received annually for

15 years 6.142 5.575 5.092 4.675

Determine the net investment (NI), incremental cash inflow (CI), payback period (PP), and the discounted rate of

return (DRR) of the new investment. (D)

a. b. c. d.

NI P25,114,40 P25,764.40 P24,764.40 P25,414.40

CI P4,343.89 P3,075.63 P4,343.89 P4,343.89

PP 4.5 years 8.4 years 5.7 years 5.9 years

DRR 22.22% 11.91% 15.56% 16.95%

Investment Decisions

Questions 1 through 5 are based on the following information. RPCPA 1076

YOU are the management adviser of Masugid Company, a management company. It is presently considering the putting

in of certain concessions in the main lobby of an office building which it manages. Your study brought out the following

estimates on an average annual basis.

Salaries P 7,000

Licences and taxes 200

Cost of merchandise sold 40,000

Share of air conditioning and light 500

Pro rata building depreciation 1,000

Concession advertising 100

Share of company administrative costs 400

Sale of merchandise 49,000

The investment in equipment, which would last 10 years (no salvage value) would be P5,000. As an alternative, a

catering company has offered to lease for P750 per year, for 10 years, and to put in and operate by the office building at

no additional charge. In formulating your advice to the management of the company, you determine that:

*. The annual cash flow which you consider the incremental advantage in the ownership alternative is

a. P1,700 c. P1,900

b. P750 d. P9,000

*. Using the Present Value Table for 10 years (the period of the lease offer) and 10%, the yield of alternative

opportunities for this project (given that PV factors for 1 to 10 are 1.00; 0.909; 0.751; 0.683; 0.621, 0.564; 0.513;

0.467; 0.424; and 0.386) the present value of the lease alternatives is

a. P4,609 c. P750

b. P5,445 d. P1,700

*. The total of the costs irrelevant to the decision is

a. P9,000 d. P800

b. P1,000 e. none of these

c. P900

*. The net present value of the ownership alternative is

a. P9,000 c. P5,445

b. P1,000 d. P4,609

*. The total of the pertinent costs that entered your cash flow considerations is

a. P4,609 c. P47,300

b. P49,200 d. P9,200

Optimal Project Selection

238

. Jackson Corporation is evaluating the following four independent, investment opportunities:

Project Cost Rate of Return

A $300,000 14%

B 150,000 10

C 200,000 13

D 400,000 11

Jackson’s target capital structure is 60 percent debt and 40 percent equity. The yield to maturity on the company’s

debt is 10 percent. Jackson will incur flotation costs for a new equity issuance of 12 percent. The growth rate is a

constant 6 percent. The stock price is currently $35 per share for each of the 10,000 shares outstanding. Jackson

expects to earn net income of $100,000 this coming year and the dividend payout ratio will be 50 percent. If the

company’s tax rate is 30 percent, which of the projects will be accepted? (M)

a. Project A

b. Projects A and C

c. Projects A, C, and D

d. All of the investment projects will be taken.

e. None of the investment projects will be taken. Brigham

Optimal Capital Budget

239

. Gibson Inc. is considering the following five independent projects:

Project Cost IRR

A $200,000 20%

B 600,000 15

C 400,000 12

D 400,000 11

E 400,000 10

The company has a target capital structure that consists of 40 percent debt and 60 percent equity. The company

can issue bonds with a yield to maturity of 11 percent. The company has $600,000 in retained earnings, and the

current stock price is $42 per share. The flotation costs associated with issuing new equity are $2 per share.

Gibson’s earnings are expected to continue to grow at 6 percent per year. Next year’s dividend (D1) is forecasted to

be $4.00. The firm faces a 40 percent tax rate. What is the size of Gibson’s capital budget? (D)

a. $ 200,000 d. $1,600,000

b. $ 800,000 e. $2,000,000

c. $1,200,000 Brigham

240

. Photon Corporation has a target capital structure that consists of 60 percent equity and 40 percent debt. The firm

can raise an unlimited amount of debt at a before-tax cost of 9 percent. The company expects to retain earnings of

$300,000 in the coming year and to face a tax rate of 35 percent. The last dividend (D0) was $2 per share and the

growth rate of the company is constant at 6 percent. If the company needs to issue new equity, then the flotation

cost will be $5 per share. The current stock price (P0) is $30.Photon has the following investment opportunities:

Project Cost IRR

1 $100,000 10.5%

2 200,000 13.0

3 100,000 12.0

4 150,000 14.0

5 75,000 9.0

What is the company’s optimal capital budget? (D)

a. $625,000 d. $550,000

b. $450,000 e. $150,000

c. $350,000 Brigham

241

. Atlee Associates has a capital structure that consists of 40 percent debt and 60 percent common stock. The yield to

maturity on the company’s debt is 8 percent, the cost of retained earnings is 12 percent, and the cost of issuing new

equity is 13 percent. The company expects its net income to be $500,000, the dividend payout is expected to be 40

percent, and its tax rate is 40 percent. The company is considering five projects, all with the same risk. The size and

estimated returns of the proposed projects are listed below:

Project Cost IRR

A $200,000 11.00%

B 100,000 10.00

C 100,000 9.95

D 200,000 9.85

E 200,000 9.25

On the basis of this information,what is Atlee’s optimal capital budget? (D)

a. $800,000 d. $300,000

b. $600,000 e. $200,000

c. $400,000 Brigham

Questions 79 through 82 are based on the following information. (06-13-61 to 64)

A company has the following three investment projects available:

Project Cost Internal Rate of Return

A $ 50 million 14%

B $ 75 million 12%

C $125 million 8%

The company has a 40% debt and 60% equity capital structure. Each dollar of investment funds will be raised in these

proportions (40 cents of debt and 60 cents of equity.)

The marginal cost of financing increases with the amount of new funds raised, as follows:

Interval Amount Raised Weighted-Average Cost of Capital

1 First $ 75 million 6%

2 Next $100 million 10%

3 Over $175 million 12%

These investment opportunities and financing costs are shown in the graph below:

Percent

15 A

14

13 B 3

12 MCC

11 2

10

9 C

8 IOS

7 1

6

5

4

3

2

1

0 | | | | | | | | |

25 50 75 100 125 150 175 200 225

$ Million

MCC – Margin cost of capital

IOS – Investment opportunity schedule

242

. The investment opportunity schedule (IOS) shows, in rank order, how much money the company would invest at

different rates of return. Such schedules can be drawn only for a set of projects that

a. Have the same investment cost. c. Have the same net present value.

b. Are mutually exclusive. d. Are independent.

243

. The company should invest in Project(s) and has an optimal capital budget of million dollars.

a. b. c. d.

List A B only A and B only A and C only C only

List B 75 125 175 125

244

. Without prejudice to your answer to question 68, assume that the optimal capital budget for the company is $150

million. The marginal cost of capital and the appropriate discount rate to use in evaluating investment proposals for

this company would be

a. 6% c. 10%

b. 8% d. 12%

245

. The marginal cost of capital (MCC) curve for this company rises twice, first when the company has raised $75

million and again when $175 million of new funds has been raised. These increases in the MCC caused by the

a. Increases in the returns on the additional investments undertaken.

b. Decreases in the returns on the additional investments undertaken.

c. Decreases in the cost of at least one of the financing sources.

d. Increases in the cost of at least one of the financing sources.

Capital Lease

Questions 92 thru 94 are based on the following information. Pol Bobadilla

A firm must choose between leasing a new asset or purchasing it with funds from a term loan. Under the purchase

option, the firm will pay five equal principal payments of P1,000 each and 6% interest on the unpaid balance. Principal

and interest are due at the end of each year for five years. Alternatively, the firm can lease the asset for five years at an

annual rental cost of P1,400 with payments due at the beginning of each year. The corporate tax rate is 35% and the

appropriate after-tax cost of capital is 12%. - Which of the following is closes to the PV of the after-tax interest payment?

A. P360 C. P640

B. P453 D. P726 - Which of the following is closest to the present value of cost if leasing the asset?

A. P3,674 C. P3,849

B. P3,779 D. P3,992 - Which of the following is closest to the PV of cost of purchasing the new asset with a term loan?

A. 3,777 C. 4,058

B. 3,952 D. 4,153

Comprehensive

Questions 99 thru 101 are based on the following information. Pol Bobadilla

Logo Co. is planning to buy a coin-operated machine costing P40,000. For book and tax purposes, this machine will be

depreciated P8,000 each year for five years. Logo estimates that this machine will yield an annual cash inflow, net of

depreciation and income taxes, of P12,000. Logo’s desired rate of return on its investment is 12%. At the following

discount rates, the NPVs of the investment in this machine are:

Discount rate 12% 14% 16% 18%

NPV +P3,258 +P1,197 – P708 – P2,474 - Logo’s accounting rate of return on its initial investment in this machine is expected to be

A. 30% C. 12%

B. 15% D. 10%

100.Logo’s expected payback period for its investment in this machine is

A. 2.0 years. C. 3.3 years.

B. 3.0 years. D. 5.0 years

101.Logo’s expected IRR on its investment in this machine is

A. 3.3% C. 12.0%

B. 10.0% D. 15.3%

Questions 95 through 101 are based on the following information. CMA 1285 5-1 to 7

At the beginning of 1996, Garrison Corporation is considering the replacement of an old machine that is currently being

used. The old machine is fully depreciated but can be used by the corporation for an additional 5 years, that is, through - If Garrison decides to replace the old machine, Picco Company has offered to purchase it for $60,000 on the

replacement date. The old machine would have no salvage value in 2000.

If the replacement occurs, a new machine will be acquired from Hillcrest Industries on January 2, 1996. The purchase

price of $1,000,000 for the new machine will be paid in cash at the time of replacement. Because of the increased

efficiency of the new machine, estimated annual cash savings of $300,000 will be generated through 2000, the end of its

expected useful life. The new machine is not expected to have any salvage value at the end of 2000.

All operating cash receipts, operating cash expenditures, and applicable tax payments and credits are assumed to occur

at the end of the year. Garrison employs the calendar year for reporting purposes.

Discount tables for several different interest rates that are to be used in any discounting calculations are given below.

Present Value of $1.00 Received at End of Period

Period 9% 12% 15% 18% 21%

1 .92 .89 .87 .85 .83

2 .84 .80 .76 .72 .68

3 .77 .71 .65 .61 .56

4 .71 .64 .57 .51 .47

5 .65 .57 .50 .44 .39

Present Value of an Annuity of $1.00 Received at the End of Each Period

Period 9% 12% 15% 18% 21%

1 .92 .89 .87 .85 .83

2 1.76 1.69 1.63 1.57 1.51

3 2.53 2.40 2.28 2.18 2.07

4 3.24 3.04 2.85 2.69 2.54

5 3.89 3.61 3.35 3.13 2.93

For questions 96 through 98 only, assume that Garrison is not subject to income taxes.

246

. If Garrison requires investments to earn 12% return, the NPV for replacing the old machine with the new machine is

a. $171,000 c. $143,000

b. $136,400 d. $83,000 CMA 1285 5-1

247

. The IRR, to the nearest percent, to replace the old machine is

a. 9% c. 17%

b. 15% d. 18% CMA 1285 5-2

248

. The payback period to replace the old machine with the new machine is

a. 1.14 years. c. 3.13 years.

b. 2.78 years. d. 3.33 years. CMA 1285 5-3

Questions 98 through 101 are based on the following additional information.

The assumptions are

Garrison requires all investments to earn a 12% after-tax rate of return to be accepted.

Garrison is subject to a marginal income tax rate of 40% on all income and gains (losses).

The new machine will have depreciation as follows:

Year Depreciation

1996 $ 250,000

1997 380,000

1998 370,000

$1,000,000

249

. The present value of the depreciation tax shield for 1997 is

a. $182,400 c. $109,440

b. $121,600 d. $114,304 CMA 1285 5-7

250

. The present value of the after-tax cash flow associated with the salvage of the old machine is (M)

a. $38,640 c. $32,040

b. $36,000 d. $27,960 CMA 1285 5-5

251

. The present value of the annual after-tax cash savings that arise from the increased efficiency of the new machine

throughout its life (calculated before consideration of any depreciation tax shield) is

a. $563,400 c. $433,200

b. $375,600 d. $649,800 CMA 1285 5-6

252

. If the new machine is expected to be sold for $80,000 on December 31, 2000, the present value of the additional

after-tax cash flow is

a. $18,240 c. $45,600

b. $27,360 d. $46,000 CMA 1285 5-8

Questions 3 through 11 are based on the following information. RPCPA 0579

The Burgos Corporation is considering investing in a project. It requires an immediate cash outlay of P100,000. It has a

life of four years and will be depreciated on a straight-line basis (no salvage value). The firm’s tax rate is 25% and

requires a return of 10%. Income before depreciation is projected to be:

YEAR 1 2 3 4

Income before depreciation P30,000 P30,000 P40,000 P40,000

The present value factors for P1 at 10% is

Year 1 2 3 4

Present Value Factor 0.909 0.826 0.751 0.683

*. The net cash flow for year 1 is (M)

a. P25,850 c. P31,250

b. P28,750 d. P34,450

*. The net cash flow for year 4 is (M)

a. P35,850 c. P30,150

b. P35,950 d. P36,250

*. The payback period for the project is (M)

a. 3 years c. 3.5 years

b. 3.17 years d. 4 years.

*. The accounting rate of return of the project is253 (M)

a. 7% c. 12%

b. 9% d. 15% (?)

*. The present value of year two’s cash flow is (M)

a. P23,747.50 c. P26,100.75

b. P25,856.25 d. P29,750.75

*. The present value of the project’s net cash flow is (M)

a. P95,650.15 c. P101,863.75

b. P98,151.25 d. P104,750.25

*. The profitability index of the project (rounded to the nearest hundredth) is (M)

a. 0.96 c. 1.02

b. 0.98 d. 1.05

*. The project would be accepted on the basis of the (M)

a. Payback and present value results.

b. Accounting rate of return and profitability index results.

c. Payback results only

d. a and b combined

*. The project would be rejected on the basis of the (M)

a. Payback and present value results.

b. Accounting rate of return and profitability index results.

c. Payback results only

d. a and b combined

e. None of the above.