Ch20 Guan CM Aise TB

Chapter 20—Capital Investment
MULTIPLE CHOICE
1. _______________ decisions are concerned with the process of planning, setting goals and priorities,
arranging financing, and using certain criteria to select long-term assets.
a. Limited resources
b. Sell now or process further
c. Capital investment
d. Make-or-buy
ANS: C PTS: 1 OBJ: 20-1
2. Which of the following is an example of an independent project?

a. A manufacturing plant considering a major overhaul of an existing machine or replacing
the existing machine with a new model
b. A hospital considering the purchase of a new MRI machine and a new cardiac monitoring
system.
c. A bank deciding between keeping a manual check sorting process or an automated sort
process.
d. A retailer deciding between an inventory management system offered by two different
vendors.
ANS: B PTS: 1 OBJ: 20-1
3. _______________ are projects that, if accepted, preclude the acceptance of all other competing pro-
jects.
a. Independent projects
b. Mutually exclusive projects
c. Dependent projects
d. Both b and c
4. Which of the following is NOT an example of information the payback period can provide to manage-
ment?
a. Minimize the impact of an investment on a firm’s liquidity performance
b. Help control the risks associated with the uncertainty of future cash flows
c. Help control the risk of obsolescence
d. Helps determine the project’s total profitability
ANS: D PTS: 1 OBJ: 20-2
5. Maple Management Services is considering an investment of $60,000. Data related to the investment
are as follows:
Year Cash Flow
1 $20,000
2 24,000
3 30,000
4 40,000
5 20,000
This edition is intended for use outside of the U.S. only, with content that may be different from the U.S. Edition. This may not be resold,
copied, or distributed without the prior consent of the publisher.
Cost of capital is 18 percent.
What is the payback period in years approximated to two decimal points, assuming no taxes are paid?
a. 3.00
b. 2.00
c. 2.53
d. 2.22
ANS: C
SUPPORTING CALCULATIONS:
2 + ($16,000/$30,000) = 2.53
PTS: 1 OBJ: 20-2
6. Mitchell Services is considering an investment of $25,000. Data related to the investment are as fol-
lows:
Year Cash Flow
1 $10,000
2 11,000
3 8,000
4 15,000
5 15,000
What is the payback period in years approximated to two decimal points, assuming no taxes are paid?
a. 2.12
b. 4.00
c. 2.50
d. 3.00
ANS: C
2 + ($4,000/$8,000) = 2.50
PTS: 1 OBJ: 20-2
7. Harrison Company was considering the purchase of equipment. Details on the equipment are as fol-
lows:
Year Original Investment Cash Flow
0 $200,000
1 $40,000
2 40,000
3 60,000
4 40,000
5 60,000
6 30,000
What is the payback period in years, assuming no taxes are paid?

a. 4.00
b. 4.33
c. 5.00
d. 3.85
ANS: B
4 + ($20,000/$60,000) = 4.33
PTS: 1 OBJ: 20-2
8. Julius Company is considering the purchase of a new machine for $100,000. The machine generates
annual revenues of $62,500 and annual expenses of $37,500, which includes $7,500 of depreciation.
What is the payback period in years on the machine approximated to one decimal point?
a. 1.6
b. 3.1
c. 4.0
d. 1.7
ANS: B
$100,000/($62,500 - $37,500 + $7,500) = 3.1
PTS: 1 OBJ: 20-2
9. Flynn Company is considering an investment in equipment for $60,000. Flynn uses the straight-line
method of depreciation with no mid-year convention. In addition, its 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 $30,000 per year.
What is the payback period in years approximated to two decimal points?

a. 1.00
b. 2.00
c. 2.63
d. 4.00
ANS: C
Cash flow = ($30,000 × 0.60) + ($60,000/5 × 0.40) = $22,800
$60,000/$22,800 = 2.63
PTS: 1 OBJ: 20-2
10. Russell Corp. is considering the purchase of a new machine for $76,000. The machine would generate
an annual cash flow of $23,214 for five years. At the end of five years, the machine would have no sal-
vage value. The company's cost of capital is 12 percent. The company uses straight-line depreciation
with no mid-year convention.
What is the payback period in years for the machine approximated to two decimal points, assuming no
taxes are paid?
a. 3.00
b. 9.48
c. 3.27
d. 4.00
ANS: C
$76,000/$23,214 = 3.27
PTS: 1 OBJ: 20-2
11. Houston Corporation is considering an investment in equipment for $45,000. Data related to the in-
vestment are as follows:
Cash Flow before
Year Depreciation and Taxes
1 $30,000
2 30,000
3 30,000
4 30,000
5 30,000
Houston uses the straight-line method of depreciation with no mid-year convention. In addition, its tax
rate is 40 percent, and the life of the equipment is five years with no salvage value.

a. 1.00
b. 0.67
c. 2.08
d. 1.50
ANS: C
Cash flow = ($30,000 × 0.60) + ($45,000/5 × 0.40) = $21,600
$45,000/$21,600 = 2.08
PTS: 1 OBJ: 20-2
12. Jolly Corporation is considering an investment in equipment for $25,000. Data related to the invest-
ment are as follows:
Cash Flow before
1 $12,500
2 12,500
3 12,500
4 12,500
Jolly uses the straight-line method of depreciation with no mid-year convention. In addition, its tax
rate is 40 percent and the life of the equipment is four years with no salvage value. Cost of capital is 12
percent.

a. 2.00
b. 0.40
c. 3.33
d. 2.50
ANS: D
Cash flow = ($12,500 × 0.60) + ($25,000/4 × 0.40) = $10,000
$25,000/$10,000 = 2.50
PTS: 1 OBJ: 20-2
13. Meulo Company is considering the purchase of production equipment that costs $800,000. The equip-
ment is expected to generate an annual cash flow of $250,000 and have a useful life of five 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.
The payback period in years for the project is

a. 2.90 years.
b. 3.20 years.
c. 3.25 years.
d. 4.20 years.
ANS: B
$800,000/$250,000 = 3.2 years
PTS: 1 OBJ: 20-2
14. Dunkin, Inc., is considering the purchase of production equipment that costs $300,000. The equipment
is expected to generate an annual cash flow of $100,000 and have a useful life of five years with no
salvage value. The firm's cost of capital is 14 percent. The company uses the straight-line method of
depreciation with no mid-year convention. Ignore income taxes.
Payback for the project is

a. 5.00 years.
b. 3.50 years.
c. 3.00 years.
d. 2.38 years.
ANS: C
$300,000/$100,000 = 3 years
PTS: 1 OBJ: 20-2
15. Jackson Company invests in a new piece of equipment costing $40,000. The equipment is expected to
yield the following amounts per year for the equipment's four-year useful life:
Cash revenues $ 60,000
Cash expenses (32,000)
Depreciation expenses (straight-line) (10,000)
Income provided from equipment $ 18,000
Cost of capital 14%
There is no salvage value at the end of four years.
What is the accounting rate of return on average investment for the equipment, assuming no taxes are
paid?
a. 100.0%
b. 06.3%
c. 45.0%
d. 90.0%
ANS: D
$18,000/(0.50 × $40,000) = 90.0%
PTS: 1 OBJ: 20-2
16. Hunziker Company is considering the purchase of wood cutting equipment. Data on the equipment are
as follows:
Original investment $45,000
Net annual cash inflow $18,000
Expected economic life in years 5
Salvage value at the end of five years $4,500
The company uses the straight-line method of depreciation with no mid-year convention.
What is the accounting rate of return on original investment rounded to the nearest percent, assuming
no taxes are paid?
a. 40%
b. 73%
c. 22%
d. 24%
ANS: C
{$18,000 - [($45,000 - $4,500)/5)]} /$45,000 = 22%
PTS: 1 OBJ: 20-2
17. A project requires an investment of $40,000 in equipment. Annual cash flows of $8,000 are expected
to occur for the next eight years. No salvage value is expected. The company uses the straight-line
method of depreciation with no mid-year convention. Ignore income taxes.
The accounting rate of return on the original investment for the project is
a. 6.25%.
b. 7.50%.
c. 16.00%.
d. 20.00%.
ANS: B
[$8,000 - ($40,000/8)]/$40,000 = 7.5%
PTS: 1 OBJ: 20-2
18. Springer Company is considering the purchase of a new machine for $80,000. The machine would
generate an annual cash flow before depreciation and taxes of $28,778 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 depreciation with no mid-year convention and has a 40 percent tax rate.
What is the accounting rate of return on the original investment in the machine approximated to two
decimal points?
a. 35.97%
b. 19.17%
c. 15.97%
d. 9.58%
ANS: D
Net income = ($28,778 - $16,000) × 0.60 = $7,666.80
$7,666.80/$80,000 = 9.58%
PTS: 1 OBJ: 20-2
19. Holloway Company is considering the purchase of a new machine for $40,000. The machine would
generate an annual cash flow before depreciation and taxes of $15,647 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
What is the accounting rate of return on the original investment in the machine approximated to two
decimal points?
a. 14.12%
b. 8.47%
c. 39.12%
d. 16.92%
ANS: B
NI = ($15,647 - $10,000) × 0.60 = $3,388.20
$3,388.20/$40,000 = 8.47%
PTS: 1 OBJ: 20-2
20. When comparing the payback method and the accounting rate of return methods, which of the follow-
ing is true?
Profitability Time Value of Money
i Ignored by both methods Ignored by both methods
ii Ignored by both methods Used in accounting rate of return,
ignored by payback method
iii Considered by accounting method, Ignored by both methods
not by payback
iv Considered by accounting method, Considered by both methods
not by payback
a. i
b. ii
c. iii
d. iv
21. The accounting rate of return on original investment is calculated as follows:

a. Original investment/Net income
b. Net income/Debt
c. Average income/Original investment
d. Assets/Debt
22. Oakland Shop is considering the purchase of a used printing press costing $9,600. The printing press
would generate a net cash inflow of $4,000 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.
What is the accounting rate of return on the original investment in the press to the nearest percent, as-
suming no taxes are paid?
a. 41.67%
b. 8.33%
c. 75.00%
d. 10.00%
ANS: B
[$4,000 - ($9,600/3)]/$9,600 = 8.33%
PTS: 1 OBJ: 20-2
23. If the net present value is positive, it could signal:

a. a return in excess of the initial investment or required rate of return has been received
b. the required rate of return has not been achieved
c. the initial investment has not been recovered
d. a decrease in wealth for the firm
ANS: A PTS: 1 OBJ: 20-3
24. A firm is evaluating a project that has a net present value of $0 when a discount rate of 8 percent is
used. A discount rate of 6 percent will result in a
a. negative net present value.
b. positive net present value.
c. net present value of $0.
d. The question cannot be answered based upon the information provided.
25. Jackson Company invests in a new piece of equipment costing $40,000. The equipment is expected to
yield the following amounts per year for the equipment's four-year useful life:
Cash revenues $ 60,000
Cash expenses (32,000)
Depreciation expenses (straight-line) (10,000)
Income provided from equipment $ 18,000
Cost of capital 14%
What is the net present value of this investment in equipment, assuming no taxes are paid?
a. $81,592
b. $41,592
c. $(4,480)
d. $52,452
ANS: B
NPV = ($60,000 - $32,000) × 2.914 - $40,000 = $41,592 (PVAF n=4, 14%)
PTS: 1 OBJ: 20-3
26. Russell Corp. is considering the purchase of a new machine for $76,000. The machine would generate
an annual cash flow of $23,214 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 de-
preciation with no mid-year convention.
What is the net present value for the machine, assuming no taxes are paid?
a. $7,686
b. $-0-
c. $76,000
d. $(185,500)
ANS: A
NPV = (3.605 × $23,214) - $76,000 = $7,686 (PVAF n=4, 14%)
PTS: 1 OBJ: 20-3
27. Mitchell Services is considering an investment of $25,000. Data related to the investment are as fol-
lows:
Year Cash Flow
1 $10,000
2 11,000
3 8,000
4 15,000
5 15,000
What is the net present value of the investment, assuming no taxes are paid?
a. $14,825
b. $39,294
c. $25,000
d. $14,294
ANS: D
($10,000 × 0.877) + ($11,000 × 0.769) + ($8,000 × 0.675) +
($15,000 × 0.592) + ($15,000 × 0.519) - $25,000 = $14,294
PTS: 1 OBJ: 20-3
28. Oakland Shop is considering the purchase of a used printing press costing $9,600. The printing press
would generate an annual cash flow of $4,000 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.
What is the net present value for the press, assuming no taxes are paid?
a. $2,400
b. $9,948
c. $9,600
d. $348
ANS: D
NPV = ($4,000 × 2.487) - $9,600 = $348 (PVAF n=4, 14%)
PTS: 1 OBJ: 20-3
29. Reece Manufacturing Company is considering the following investment proposal:
Operations (per year for four years):

Cash receipts $10,000
Cash expenditures 5,500
Salvage value of equipment after four years $1,000
Discount rate 10%
The firm uses the straight-line method of depreciation with no mid-year convention.
What is the net present value for the investment, assuming no taxes are paid?
a. $(500)
b. $15,000
c. $14,948
d. $(52)
ANS: D
NPV = [3.170 (PVAF n=4, 10%) × $4,500] + [0.683 (PV n=4, 10%) × $1,000] - $15,000 = $(52)
PTS: 1 OBJ: 20-3
30. The present value of $10,000 to be received ten years from now and earning a 12 percent return (roun-
ded) is
a. $2,200.
b. $2,484.
c. $3,160.
d. $3,220.
ANS: D
$10,000 × 0.322 (PVIF, n = 10, 12%) = $3,220
PTS: 1 OBJ: 20-3
31. Grand Company is considering an investment of $45,000. Data related to the investment are as fol-
lows:
Year Cash Flow

1 $15,000
2 18,000
3 22,500
4 30,000
5 15,000
What is the net present value of the investment, assuming no taxes are paid?
a. $10,500
b. $16,366
c. $61,366
d. $55,500
ANS: B
($15,000 × 0.847) + ($18,000 × 0.718) + ($22,500 × 0.609) +
($30,000 × 0.516) + ($15,000 × 0.437) - $45,000 = $16,366
PTS: 1 OBJ: 20-3
32. Sargent Corporation is considering an investment in equipment for $20,000. Sargent uses the straight-
line method of depreciation with no mid-year convention. In addition, its 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 $10,000 per year. The cost of capital is 18 percent.
What is the net present value of the investment?

a. $3,765
b. $(1,238)
c. $23,765
d. $18,762
ANS: A
Cash flow = ($10,000 × 0.60) + ($20,000/5 × 0.40) = $7,600
NPV = ($7,600 × 3.127) - $20,000 = $3,765 (PVAF n=5, 18%)
PTS: 1 OBJ: 20-3
33. The present value of $10,000 to be received each year for ten years and earning a 14 percent return
(rounded) is
a. $11,600.
b. $26,000.
c. $52,160.
d. $52,436.
ANS: C
$10,000 × 5.216 (PVAF, n = 10, 14%) = $52,160
PTS: 1 OBJ: 20-3
34. Houston Corporation is considering an investment in equipment for $45,000. Data related to the in-
vestment are as follows:
Cash Flow before
1 $30,000
2 30,000
3 30,000
4 30,000
5 30,000
Houston 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.

a. $67,543
b. $22,543
c. $48,810
d. $11,286
ANS: B
Cash flow = ($30,000 × 0.60) + ($45,000/5 × 0.40) = $21,600
NPV = ($21,600 × 3.127) - $45,000 = $22,543 (PVAF n=5, 18%)
PTS: 1 OBJ: 20-3
35. The present value of $5,000 to be received each year for five years and earning an 8 percent return
(rounded) is
a. $19,965.
b. $20,098.
c. $22,270.
d. $31,080.
ANS: A
$5,000 × 3.993 (PVAF, n = 5, 8%) = $19,965
PTS: 1 OBJ: 20-3
36. Jolly Corporation is considering an investment in equipment for $25,000. Data related to the invest-
ment are as follows:
Cash Flow before
1 $12,500
2 12,500
3 12,500
4 12,500
Jolly uses the straight-line method of depreciation with no mid-year convention. In addition, its tax
rate is 40 percent, and the life of the equipment is four years with no salvage value. Cost of capital is
12 percent.

a. $30,370
b. $(2,222)
c. $12,962
d. $5,370
ANS: D
Cash flow = ($12,500 × .60) + ($25,000/4 × .40) = $10,000
$10,000 × 3.037 - $25,000 = $5,370 (PVAF n=4, 12%)

PTS: 1 OBJ: 20-3
What is the net present value for the machine?

a. $5,318
b. $-0-
c. $85,318
d. $23,744
ANS: A
Cash flow = ($28,778 × 0.60) + ($80,000/5 × 0.40) = $23,666.80
NPV = ($23,666.80 × 3.605) - $80,000 = $5,318 (PVAF n=5, 12%)

PTS: 1 OBJ: 20-3
38. Clemens Company is considering the purchase of a new machine for $160,000. The machine would
What is the net present value for the machine?

a. $162,640
b. $2,640
c. $30,080
d. ($45,952)
ANS: B
Cash flow = ($62,588 × 0.60) + ($160,000/4 × 0.40) = $53,552.80
NPV = ($53,552.80 × 3.037) - $160,000 = $2,640 (PVAF n=4, 12%)

PTS: 1 OBJ: 20-3
39. The following information pertains to an investment:

Investment $140,000
Annual revenues $96,000
Annual variable costs $32,000
Annual fixed out-of-pocket costs $20,000
Salvage value $12,000
Discount rate 12%
Expected life of project 8 years
Ignore income taxes. The present value of the salvage value (rounded) is
a. $4,848.
b. $5,738.
c. $6,228.
d. $6,448.
ANS: A
$12,000 × 0.404 (PVIF, n = 8, 12%) = $4,848
PTS: 1 OBJ: 20-3
40. The present value of $20,000 to be received five years from now and earning a 6 percent return (roun-
ded) is
a. $14,000.
b. $14,940.
c. $15,784.
d. $16,420.
ANS: B
$20,000 × 0.747 (PVIF, n = 5, 6%) = $14,940
PTS: 1 OBJ: 20-3
Investment $140,000
Discount rate 12%
Ignore income taxes. The present value of the annual cash flow (rounded) is
a. $136,822.
b. $152,538.
c. $204,884.
d. $218,592.
ANS: D
Revenues $ 96,000
Less: Variable costs (32,000)
Fixed out-of-pocket costs (20,000)
Annual cash flow $ 44,000
PVAF, n = 8, 12% 4.968
Present value $218,592
PTS: 1 OBJ: 20-3
42. The present value of $4,000 to be received three years from now and earning a 12 percent return (roun-
ded) is
a. $2,848.
b. $2,520.
c. $4,880.
d. $5,440.
ANS: A
$4,000 × 0.712 (PVIF, n = 3, 12%) = $2,848
PTS: 1 OBJ: 20-3
43. A firm is considering a project with an annual cash flow of $200,000. The project would have a 7-year
life, and the company uses a discount rate of 10 percent. Ignoring income taxes, what is the maximum
amount the company could invest in the project and have the project still be acceptable?
a. $718,200
b. $1,400,000
c. $973,600
d. $200,000
ANS: C
$200,000 × 4.868 (PVAF, n = 7, 10%) = $973,600
PTS: 1 OBJ: 20-3
Investment $240,000
Discount rate 16%
Ignoring income taxes, the present value of the salvage value (rounded) is
a. $31,346.
b. $35,500.
c. $34,614.
d. $46,440.
ANS: C
$54,000 × 0.641 (PVIF, n = 3, 16%) = $34,614
PTS: 1 OBJ: 20-3
45. The present value of $4,000 to be received each year for three years and earning a 10 percent return
(rounded) is
a. $11,120.
b. $9,948.
c. $9,822.
d. $9,200.
ANS: B
$4,000 × 2.487 (PVAF, n = 3, 10%) = $9,948
PTS: 1 OBJ: 20-3
46. A firm is considering a project with an annual cash flow of $80,000. The project would have a 10-year
life, and the company uses a discount rate of 8 percent. Ignoring income taxes, what is the maximum
amount the company could invest in the project and have the project still be acceptable (rounded)?
a. $800,000
b. $536,800
c. $406,420
d. $727,208
ANS: B
$80,000 × 6.710 (PVAF, n = 10, 8%) = $536,800
PTS: 1 OBJ: 20-3
47. A capital investment project requires an investment of $100,000 and has an expected life of four years.
Annual cash flows at the end of each year are expected to be as follows:
Year Amount
1 $40,000
2 $48,000
3 $76,000
4 $56,000
Ignoring income taxes, the net present value of the project using a 6 percent discount rate is
a. $88,632.
b. $24,792.
c. $68,296.
d. $(28,296).
ANS: A
Investment $(100,000)
Present value of cash flow:
Year 1 ($40,000 × 0.943) 37,720
Year 2 ($48,000 × 0.890) 42,720
Year 3 ($76,000 × 0.840) 63,840
Year 4 ($56,000 × 0.792) 44,352
Net present value $ 88,632
PTS: 1 OBJ: 20-3
48. A firm is considering a project with an annual cash flow of $240,000. The project would have an 8-
year life, and the company uses a discount rate of 12 percent. Ignoring income taxes, what is the max-
imum amount the company could invest in the project and have the project still be acceptable (roun-
ded)?
a. $977,480
b. $1,125,228
c. $1,160,582
d. $1,192,320
ANS: D
$240,000 × 4.968 (PVAF, n = 8, 12%) = $1,192,320
PTS: 1 OBJ: 20-3
49. Valley Company is considering the purchase of production equipment that costs $800,000. The equip-
ment is expected to generate an annual cash flow of $250,000 and have a useful life of five years with
no salvage value. The firm's cost of capital is 12 percent. The straight-line method with no mid-year
convention is used.
Ignoring income taxes, the net present value of the project is

a. $80,960.
b. $97,250.
c. $101,250.
d. $108,900.
ANS: C
Present value of cash flow ($250,000 × 3.605) (PVAF n=5, 12%) 901,250
Net present value $ 101,250
PTS: 1 OBJ: 20-3
50. Which of the following methods consider the time value of money?
a. payback and accounting rate of return
b. payback and internal rate of return
c. internal rate of return and accounting rate of return
d. internal rate of return and net present value
51. The internal rate of return is defined as:

a. a blend of the costs of capital from all sources.
b. the minimal acceptable interest rate on investments
c. the difference between the present value of the cash inflows and outflows associated with
a project
d. the interest rate that sets the present value of a project’s cash inflows equal to the present
value of a project’s cost
52. Jones Company is considering the purchase of a new machine for $57,000. The machine would gener-
ate an annual cash flow of $17,411 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 depreci-
ation with no mid-year convention.
What is the internal rate of return for the machine rounded to the nearest percent, assuming no taxes
are paid?
a. 12%
b. 18%
c. 14%
d. 16%
ANS: D
$57,000/$17,411 = 3.274, which is the pv factor for n = 5, i = 16%
PTS: 1 OBJ: 20-4
What is the internal rate of return for the machine rounded to the nearest percent?
a. below 12%
b. between 12 and 14%
c. between 14 and 16%
d. between 16 and 18%
ANS: C
Cash flow = ($28,778 × 0.60) + ($80,000/5 × 0.40) = $23,666.80
$80,000/$23,666.80 = 3.380, which is the pv factor for n = 5 and i between 14 and 16%
PTS: 1 OBJ: 20-4
What is the internal rate of return for the machine rounded to the nearest percent?
a. below 12%
ANS: B
Cash flow = ($62,588 × 0.60) + ($160,000/4 × 0.40) = $53,552.80
$160,000/$53,552.80 = 2.988, which is the pv factor for n = 4 and i between 12 and 14%
PTS: 1 OBJ: 20-4
55. A firm is considering a project requiring an investment of $27,000. The project would generate an an-
nual cash flow of $6,296 for the next seven years. The company uses the straight-line method of depre-
ciation with no mid-year convention. Ignore income taxes. The approximate internal rate of return for
the project is
a. 6%.
b. 8%.
c. 12%.
d. 14%.
ANS: D
$27,000/$6,296 = 4.288
PVAF of 4.288, n = 7, corresponds to 14%
PTS: 1 OBJ: 20-4
56. A firm is considering a project requiring an investment of $200,000. The project would generate an an-
nual cash flow of $55,478 for the next five years. The company uses the straight-line method of depre-
ciation with no mid-year convention. Ignore income taxes. The approximate internal rate of return for
the project is
a. 9%.
b. 10%.
c. 12%.
d. 16%.
ANS: C
$200,000/$55,478 = 3.605
PVAF of 3.605, n = 5, corresponds to 12%
PTS: 1 OBJ: 20-4
57. Cooper Industries is considering a project that would require an initial investment of $101,000. The
project would result in cost savings of $62,000 in year 1 and $70,000 in year two. The internal rate of
return is:
a. between 16% and 17%
b. between 18% and 20%
c. under 15%
d. none of the above
ANS: B
Support:
At 18%, the two discount factors would be .847 and .718; ($62,000 * .847) + ($70,000 * .718) =
$102,774
At 20% the two discount factors would be .833 and .694; ($62,000 * .833) + ($70,000 * .694) =
$100,226
PTS: 1 OBJ: 20-4
58. Which of the following capital investment models would be preferred when choosing among mutually
exclusive alternatives?
a. payback period
b. accounting rate of return
c. IRR
d. NPV
59. NPV differs from IRR:

a. NPV measures profitability in absolute terms, whereas the IRR method measures profitab-
ility in relative terms
b. IRR should be used for choosing among competing, mutually exclusive projects
c. NPV considers the time value of money and IRR does not
d. Both NPV and IRR will generate the same decisions
ANS: A PTS: 1 OBJ: 20-5
60. Five mutually exclusive projects had the following information:
V W X Y Z
NPV $(6,000) $40,000 $30,000 $10,000 $20,000
IRR 8% 11% 13% 10% 12%
Which project is preferred?

a. Project V
b. Project W
c. Project X
d. Project Y
ANS: B
Project W, because it has the highest NPV.
PTS: 1 OBJ: 20-5
61. Chocolate Company is considering an investment in equipment for $60,000. Chocolate uses the
straight-line method of depreciation with no mid-year convention. In addition, its tax rate is 40 per-
cent, and the life of the equipment is five years with no salvage value. The expected income before de-
preciation and taxes is projected to be $30,000 per year.
What is the annual cash flow for Year 1?

a. $30,000
b. $18,000
c. $22,800
d. $12,000
ANS: C
($30,000 × 0.60) + ($60,000/5 × 0.40) = $22,800
PTS: 1 OBJ: 20-6
62. A firm is considering two mutually exclusive projects with the following cash flows:
Project X Project Y
Year 1 $ 40,000 $120,000
Year 2 80,000 80,000
Year 3 120,000 40,000
Each project requires an investment of $100,000. The cost of capital is 10 percent.
Which project will have the higher net present value?

a. Project X
b. Project Y
c. Project X and Project Y will have the same net present value.
d. It is not possible to answer the question based upon the information provided.
ANS: B
Project Y will have the greater net present value because it will receive a larger amount, $120,000, in
year one whereas Project X will not receive the $120,000 until year 3.
PTS: 1 OBJ: 20-5
63. If the tax rate is 40 percent and a company has $800,000 of income, a depreciation deduction of
$100,000 would result in a tax savings of
a. $34,000.
b. $40,000.
c. $30,000.
d. $66,000.
ANS: B
$100,000 × 40% = $40,000
PTS: 1 OBJ: 20-6
64. If the tax rate is 40 percent and a company has $800,000 of income, a depreciation deduction of
$160,000 would result in a tax savings of
a. $105,600.
b. $96,000.
c. $64,000.
d. $54,400.
ANS: C
$160,000 × 40% = $64,000
PTS: 1 OBJ: 20-6
65. A machine with a book value of $60,000 could be sold for $80,000. The corporation that owns the ma-
chine has taxable income of $670,000 and a 40 percent tax rate. What would be the tax on the sale of
the machine?
a. $-0-
b. $20,000
c. $12,000
d. $8,000
ANS: D
($80,000 - $60,000) × 0.40 = $8,000
PTS: 1 OBJ: 20-6
66. A corporation with taxable income of $400,000 and a 40 percent tax rate is considering the sale of an
asset. The original cost of the asset is $20,000, with $12,000 of it depreciated. How much total after-
-tax cash will be produced from the sale of the asset for $24,000?
a. $17,600
b. $24,000
c. $22,400
d. ($6,400)
ANS: A
Taxes = ($24,000 - $8,000) × 0.40 = $6,400
Cash flow = $24,000 - $6,400 = $17,600

PTS: 1 OBJ: 20-6
67. Menace Corporation is considering an investment in equipment for $50,000. Data related to the invest-
ment is as follows:
Cash Flow before
1 $25,000
2 25,000
3 25,000
4 25,000
Menace uses the straight-line method of depreciation with no mid-year convention. In addition, its tax
rate is 40 percent and the life of the equipment is four years with no salvage value. Cost of capital is 12
percent.
What is the annual cash flow for Year 1?

a. $20,000
b. $15,000
c. $25,000
d. $5,000
ANS: A
Cash flow = ($25,000 × 0.60) + [($50,000/4) × 0.40] = $20,000
PTS: 1 OBJ: 20-6
What is the annual net after-tax cash flow (rounded)?

a. $28,778
b. $8,633
c. $6,400
d. $23,667
ANS: D
($28,778 × 0.60) +[($80,000/5) × 0.40] = $23,667
PTS: 1 OBJ: 20-6
What is the annual net after-tax cash flow per year?

a. $62,588
b. $16,000
c. $37,552
d. $53,553
ANS: D
($62,588 × 0.60) + [($160,000/4) × 0.40] = $53,553
PTS: 1 OBJ: 20-6
Van Meter Company is considering the purchase of the following computer equipment, which is con-
sidered 5-year property for tax purposes:
Acquisition cost $500,000

Annual cash flow $180,000
Annual operating costs $30,000
Expected salvage value $-0-
Cost of capital 12%
Tax rate 40%
Van Meter plans to use MACRS and keep the production equipment for seven years. (Round amounts
to dollars.)
70. The MACRS deduction in Year 2 would be

a. $172,000.
b. $170,000.
c. $160,000.
d. $140,000.
ANS: C
$500,000 × 32% = $160,000
PTS: 1 OBJ: 20-6
71. The tax savings from depreciation in Year 3 would be

a. $28,570.
b. $38,400.
c. $71,428.
d. $96,000.
ANS: B
$500,000 × 19.20% × 40% = $38,400
PTS: 1 OBJ: 20-6
72. Information about a project Wagner Company is considering is as follows:
Investment $600,000
Revenues $380,000
Variable costs $100,000
Fixed out-of-pocket costs $50,000
Cost of capital 8%
Tax rate 40%
The property is considered 5-year property for tax purposes. The company plans to use MACRS and
dispose of the property at the end of the sixth year; no salvage value is expected. Assume all cash
flows occur at the end of the year. Round amounts to dollars.
The tax savings from depreciation in Year 2 would be

a. $48,000.
b. $64,800.
c. $76,800.
d. $82,400.
ANS: C
$600,000 × 32% × 40% = $76,800
PTS: 1 OBJ: 20-6
73. Under the current tax law, an asset that is classified as 5-year property and has a cost of $100,000
would result in a depreciation deduction in Year 2 of
a. $32,000.
b. $25,000.
c. $20,000.
d. $19,200.
ANS: A
$100,000 × 32% = $32,000
PTS: 1 OBJ: 20-6
74. Under the current tax law, an asset that is classified as 7-year property and has a cost of $400,000
would result in a depreciation deduction in Year 3 of
a. $97,920.
b. $69,960.
c. $66,667.
d. $57,140.
ANS: B
$400,000 × 17.49% = $69,960
PTS: 1 OBJ: 20-6
75. Brown Company is considering the purchase of the following computer equipment, which is con-
sidered 5-year property for tax purposes:
Acquisition cost $400,000

Annual cash flow $140,000
Expected salvage value 0
Cost of capital 10%
Tax rate 40%
Brown Company plans to use MACRS and keep the production equipment for seven years. (Round
amounts to dollars.)
Tax savings from depreciation in Year 3 would be

a. $54,400.
b. $35,360.
c. $22,856.
d. $30,720.
ANS: D
$400,000 × 19.2% × 40% = $30,720
PTS: 1 OBJ: 20-6
76. Information about a project Darcy Company is considering is as follows:
Investment $1,000,000
Revenues $700,000
Variable costs $140,000
Fixed out-of-pocket costs $80,000
Cost of capital 12%
Tax rate 40%
The property is considered 5-year property for tax purposes. The company plans to use MACRS and
dispose of the property at the end of the sixth year. No salvage value is expected. Assume all cash
flows occur at the end of the year. Round amounts to dollars.
The tax savings from depreciation in Year 2 would be

a. $80,000.
b. $128,000.
c. $145,200.
d. $192,000.
ANS: B
$1,000,000 × 32% × 40% = $128,000
PTS: 1 OBJ: 20-6
77. Which of the following statements is(are) true about automation?

a. Automation is inexpensive.
b. Automation should be adopted as soon as new technology is available.
c. Automation should be adopted after a company makes the most efficient use of existing
technology.
d. All of the above are true.
78. A postaudit compares

a. estimated benefits and costs with budgeted benefits and cost.
b. estimated benefits with estimated costs.
c. actual benefits with actual costs.
d. actual benefits and costs with estimated benefits and costs.
Blanshan Company 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 $300,000

Increased quality 400,000
Decrease in operating costs 600,000
Increase in on-time deliveries 200,000
The system will cost $9,000,000 and will last ten years. The company's cost of capital is 12 percent.
79. What is the payback period for the computer-aided manufacturing system?
a. 10.00 years
b. 15.00 years
c. 11.25 years
d. 6.00 years
ANS: D
Payback period = $9,000,000/$1,500,000 = 6.00 years
PTS: 1 OBJ: 20-7
80. What is the NPV for the computer-aided manufacturing system?

a. $9,000,000
b. $(525,000)
c. $(5,610,000)
d. $8,475,000
ANS: B
(5.650 × $1,500,000) - $9,000,000 = $(525,000) (PVAF n=10, 12%)
PTS: 1 OBJ: 20-7
81. Which of the following best describes the IRR for this project?
a. between 8 and 10%
ANS: B
$9,000,000/$1,500,000 = 6.000, which is the pv factor for n = 10, and is greater than 10%, but less
than 12%.
PTS: 1 OBJ: 20-7
PROBLEM
1. Explain what a capital investment decision is. In your answer, distinguish between independent and
mutually exclusive capital investment decisions.
ANS:
Capital investment decisions are concerned with the process of planning, setting goals and priorities,
arranging financing, and using certain criteria to select long-term assets.
Independent projects are projects that, if accepted or rejected, do not affect the cash flows of other pro-
jects.
Mutually exclusive projects are those projects that, if accepted, preclude the acceptance of all other
competing projects.
PTS: 1 OBJ: 20-1
2. A capital investment project requires an investment of $450,000. It has an expected life of six years
with an annual cash flow of $90,000 received at the end of each year. The company uses the straight-
line method of depreciation with no mid-year convention. Ignore income taxes.
Required:
a. Compute payback for the project.
b. Compute the net present value of the project using a 12 percent discount rate.
c. Would you recommend this project be accepted? Why or why not?
ANS:
a. 5 years = $450,000/$90,000
b. NPV using a 12 percent discount rate:
Present value of cash flow ($90,000 × 4.111) 369,990
Net present value $ (80,010)
c. No, the project should not be accepted. Although the payback period of five years is less
than the expected life of the project, the NPV is negative, indicating the project's return is
less than 12 percent. The IRR is approximately 5.5 percent, which is much lower than the
desired return of 12 percent; therefore, the project should be rejected.
PTS: 1 OBJ: 20-2 | 20-3
3. Fill in the lettered blanks in the following table:
Investment A Investment B Investment C

Amount of investment $40,000 (a) $20,000
Economic life in years 10 5 8
Annual cash flow $ 5,000 (b) $ 2,500
Payback period in years (c) 4 (d)
Present value of cash flows (e) $33,000 (f)
Net present value $ 5,500 $ 3,000 ($1,000)
ANS:
a. $33,000 - $3,000 = $30,000
b. $30,000/4 = $7,500
c. $40,000/$5,000 = 8
d. $20,000/$2,500 = 8
e. $40,000 + $5,500 = $45,500
f. $20,000 - $1,000 = $19,000
PTS: 1 OBJ: 20-2 | 20-3
4. Van Dyke Company is evaluating a capital expenditure proposal that has the following predicted cash
flows:
Cash flow:
Year 1 $17,500
Year 2 25,000
Year 3 15,000
Salvage value -0-
Discount rate 14%
Required:
Determine the following values:
a. Net present value of the investment
b. Proposal's internal rate of return
c. Payback period
ANS:
a. Period Cash Flow Present Value Factor Present Value
1 $17,500 0.877 $15,347.50
2 25,000 0.769 19,255.00
3 15,000 0.675 10,125.00
Total present value $44,697.50
Less original investment 45,000.00
Net present value $ (302.50)
b. Approximately 14%
c. 2 + $2,500/$15,000 = 2.167 years
PTS: 1 OBJ: 20-2-4
5. Barker Production Company is considering the purchase of a flexible manufacturing system. The after-
tax cash benefits/savings associated with the system are as follows:
Decreased waste $ 75,000

Increased quality 100,000
Decrease in operating costs 62,500
Increase in on-time deliveries 12,500
The system will cost $750,000 and will last ten years. The company's cost of capital is 10 percent.
Required:
a. What is the payback period for the flexible manufacturing system?

b. What is the NPV for the flexible manufacturing system?
c. What is the IRR for the flexible manufacturing system?
ANS:
a. $750,000/$250,000 = 3 years
b. 6.145 × $250,000 - $750,000 = $786,250 (PVAF n=10, 10%)
c. $750,000/$250,000 = 3.000, which is the present value factor for n = 10, and the interest rate
is slightly greater than 30%.
PTS: 1 OBJ: 20-2-4 | 20-7
6. Bert Corporation is considering an investment in equipment for $150,000.

Data related to the investment are as follows:
Income before
1 $60,000
2 60,000
3 60,000
4 60,000
5 60,000
Bert uses the straight-line method of depreciation with mid-year convention for tax purposes. In addi-
tion, its tax rate is 40 percent and the depreciable life of the equipment is four years with no salvage
value. The equipment is sold at the end of the fifth year.
Required:
Determine the following amounts using after-tax cash flows:
a. Payback period
b. Accounting rate of return on original investments for each year
c. Net present value
ANS:
Years
1 2 3 4 5
Income before
deprec. and taxes $60,000 $60,000 $60,000 $60,000 $60,000
Less: Depreciation 18,750 37,500 37,500 37,500 18,750
Pretax income $41,250 $22,500 $22,500 $22,500 $41,250
Income taxes 16,500 9,000 9,000 9,000 16,500
Net income $24,750 $13,500 $13,500 $13,500 $24,750
Add: Depreciation 18,750 37,500 37,500 37,500 18,750
Cash flow $43,500 $51,000 $51,000 $51,000 $43,500
a. Cumulative Investment
Year Cash Flow Cash Flow Yet to Recover
1 $43,500 $ 43,500 $106,500
2 51,000 94,500 55,500
3 51,000 145,500 4,500
4 51,000
Payback period = 3 + ($4,500/$51,000) = 3.09 years
b. Years 1 and 5: $24,750/$150,000 = 16.5%
Years 2, 3 and 4: $13,500/$150,000 = 9.0%
c. Period Cash Flow PV Factor Present Value

0 $(150,000) 1.000 $(150,000.00)
1 43,500 0.909 39,541.50
2 51,000 0.826 42,126.00
3 51,000 0.751 38,301.00
4 51,000 0.683 34,833.00
5 43,500 0.621 27,013.50
Net present value $ 31,815.00
PTS: 1 OBJ: 20-2 | 20-3 | 20-6
7. Jackson Company is considering a project that requires an investment of $700,000. The project is ex-
pected to generate an annual cash flow of $280,000 for six years. The cash flow would be received at
the end of each year.
The asset is considered 5-year property for depreciation purposes and would be disposed of at the end
of the sixth year, at which time it is expected to have no salvage value. The company plans to use
MACRS.
Assume the cost of capital is 12 percent and the income tax rate is 40 percent.
Required:
a. Determine the net present value of the asset. (Round amounts to dollars.)
b. State your recommendation to the management of the company.
ANS:
a. 0 1 2 3 4 >
Investment $(700,000) >
>
Cash flow >
after taxes >
($280,000 × 60%) $168,000 $168,000 $168,000 $168,000 >
>
Tax savings- >
depreciation * 56,000 89,600 53,760 32,256 >
Net cash flow >
after taxes $224,000 $257,600 $221,760 $200,256 >
>
PV factors, 12% x__0.893 0.797 0.712 0.636 >
Present values 897,493 $200,032 $205,307 $157,893 $127,363 >
NPV $197,493 >
< 5 6
<
<
<
<
< $168,000 $168,000
<
<
< 32,256 16,128
<
< $200,256 $184,128
<
< 0.567 0.507
< $113,545 $ 93,353
*
Tax savings from depreciation:
Year 1: $700,000 × 20.00% = $140,000 × 40% = $56,000

Year 2: $700,000 × 32.00% = $224,000 × 40% = $89,600
Year 3: $700,000 × 19.20% = $134,400 × 40% = $53,760
Year 4: $700,000 × 11.52% = $80,640 × 40% = $32,256
Year 5: $700,000 × 11.52% = $80,640 × 40% = $32,256
Year 6: $700,000 × 5.76% = $40,320 × 40% = $16,128
b. Recommendation: Accept
PTS: 1 OBJ: 20-3
8. Billings Office Services is considering the purchase of a new computer system to replace the one in
operation. Data on the new computer system are as follows:
Cost $12,000
Salvage value at the end of five years $1,000
Useful life, in years 5
Annual operating cost $4,000
If the existing computer system is kept and used, it would require the purchase of additional hardware
a year from now costing $2,000. After the use of the system for five years, the salvage value would be
$300. Additional information on the existing system is as follows:
Additional years of use 5

Remaining book value $12,000
Current salvage value $3,000
Cost of capital 12%
The company uses the straight-line method of depreciation with no mid-year convention.
Required:
Should the new system be purchased? Why or why not?
ANS:
Present New Computer
Period Cash Flow Value Factor System Comment
0 $(12,000) 1.000 $(12,000) Outlay cost
0 3,000 1.000 3,000 Salvage of old
1 2,000 0.893 1,786 Purchase of
hardware avoided
1-5 5,000 3.605 18,025 Lower operating
costs
5 700 0.567 397 Difference in
salvage value
Net present value of
new computer system $ 11,208
Positive net present value indicates that the new computer system returns are greater than the com-
pany's cost of capital. Buy the new computer system.
PTS: 1 OBJ: 20-3
9. Dale Davis Company is evaluating a proposal to purchase a new machine that would cost $100,000
and have a salvage value of $10,000 in four years. It would provide annual operating cash savings of
$10,000, as follows:
Old Machine New Machine
Salaries $40,000 $36,000
Supplies 7,000 5,000
Maintenance 9,000 5,000
Total $56,000 $46,000
If the new machine is purchased, the old machine will be sold for its current salvage value of $20,000.
If the new machine is not purchased, the old machine will be disposed of in four years at a predicted
salvage value of $2,000. The old machine's present book value is $40,000. If kept, in one year the old
machine will require repairs predicted to cost $35,000.
Dale Davis's cost of capital is 14 percent.

Required:
Should the new machine be purchased? Why or why not?
ANS:
Present
Period Cash Flow Value Factor New Machine Comment
0 ($100,000) 1.000 $(100,000) Outlay cost
0 20,000 1.000 20,000 Salvage of old
1 35,000 0.877 30,695 Repairs avoided
1-4 10,000 2.914 29,140 Lower operating
costs
4 8,000 0.592 4,736 Difference in
salvage value
Net present value of
new machine $ (15,429)
Negative net present value indicates that the new machine returns are less than the company's cost of
capital. Do not buy the new machine.
PTS: 1 OBJ: 20-3
10. Local Construction Company is considering the purchase of a backhoe for $300,000. The expected life
is four years. The company is comparing the depreciation tax shield using MACRS versus the straight-
line method. If MACRS is used, the MACRS life is three years with a depreciation rate of 200 percent
annually. Regardless of the method of depreciation used, the mid-year convention will be observed.
The company's tax rate is 40 percent. The straight-line method assumes mid-year convention, and the
cost of capital is 16 percent.
Required: (Round all calculations to the nearest dollar.)

a. Calculate the tax savings from depreciation for each year using both the MACRS and straight-
line methods.
b. Calculate the present value of the tax savings for both depreciation methods.
c. Which method should be used to minimize the firm's tax liability? Why?
ANS:
a. MACRS:
Depreciation Depreciation Annual Tax Tax
Year Base Rate Depreciation Rate Saving
1 $300,000 0.3333 $ 99,990 0.40 $ 39,996
2 300,000 0.4445 133,350 0.40 53,340
3 300,000 0.1481 44,430 0.40 17,772
4 300,000 0.0741 22,230 0.40 ___8,892
$300,000 $120,000
Straight-line:
Depreciation Depreciation Annual Tax Tax
Year Base Rate Depreciation Rate Saving
1 $300,000 0.125 $ 37,500 0.40 $ 15,000
2 300,000 0.250 75,000 0.40 30,000
3 300,000 0.250 75,000 0.40 30,000
4 300,000 0.250 75,000 0.40 30,000
5 300,000 0.125 37,500 0.40 15,000
$300,000 $120,000
b. MACRS Rates Straight-Line Rates
Present Present Present
Value Tax Value of Tax Value of
Year Factor Savings Tax Svgs. Savings Tax
Svgs.
1 0.862 $ 39,996 $34,477 $ 15,000 $12,930
2 0.743 53,340 39,632 30,000 22,290
3 0.641 17,772 11,392 30,000 19,230
4 0.552 8,892 4,908 30,000 16,560
5 0.476 -0- -0- 15,000 7,140
$120,000 $90,409 $120,000 $78,150
c. The present value of tax savings using MACRS rates is greater than the present value of tax
savings for the straight-line rates. Therefore, the company should use MACRS rates in order to
minimize taxes.
PTS: 1 OBJ: 20-6
11. What are the differences that affect capital investment decisions regarding advanced technology and
environmental considerations.
ANS:
Although discounted cash flow analysis remains necessary in capital investment decisions involving
advance technology or P2 opportunities, more attention must be paid to the inputs used in discounted
cash flow models. How investment is defined, how operating cash flows are estimated, how salvage
value is treated and how the discount rate is chosen are all different than a traditional approach. For
automated manufacturing, a more predominant portion of the initial investment relates to peripheral
costs such as software programs, engineering, training and implementation. These peripherals can be
more difficult to estimate and easy to overlook. Estimates are operating cash flows is a more complex
situation because the saving are not as readily available. Many times costs are hidden in other costs or
buried in overhead. Salvage value and discount rates also changes between a traditional capital invest-
ment analysis and capital analysis for advanced technology or environmental considerations. Salvage
value estimates are important and could spell the difference between investing or not investing in a
particular project. Being over-conservative with discount rates is also damaging. Excessively high dis-
count rates bias decisions towards short-term investments.
PTS: 1 OBJ: 20-7

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Ch20 Guan CM Aise TB

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Chapter 20—Capital Investment

2. Which of the following is an example of an independent project?

PTS: 1 OBJ: 20-2

Cost of capital is 14 percent.

PTS: 1 OBJ: 20-2

What is the payback period in years, assuming no taxes are paid?

PTS: 1 OBJ: 20-2

PTS: 1 OBJ: 20-2

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

PTS: 1 OBJ: 20-2

PTS: 1 OBJ: 20-2

Cost of capital is 18 percent.

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

PTS: 1 OBJ: 20-2

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

PTS: 1 OBJ: 20-2

The payback period in years for the project is

PTS: 1 OBJ: 20-2

Payback for the project is

PTS: 1 OBJ: 20-2

Cost of capital 14%

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

PTS: 1 OBJ: 20-2

PTS: 1 OBJ: 20-2

PTS: 1 OBJ: 20-2

PTS: 1 OBJ: 20-2

PTS: 1 OBJ: 20-2

21. The accounting rate of return on original investment is calculated as follows:

PTS: 1 OBJ: 20-2

23. If the net present value is positive, it could signal:

Cost of capital 14%

PTS: 1 OBJ: 20-3

PTS: 1 OBJ: 20-3

Cost of capital is 14 percent.

PTS: 1 OBJ: 20-3

PTS: 1 OBJ: 20-3

29. Reece Manufacturing Company is considering the following investment proposal:

Original investment $15,000

Operations (per year for four years):

Salvage value of equipment after four years $1,000

Discount rate 10%

PTS: 1 OBJ: 20-3

PTS: 1 OBJ: 20-3

Year Cash Flow

Cost of capital is 18 percent.

PTS: 1 OBJ: 20-3

What is the net present value of the investment?

NPV = ($7,600 × 3.127) - $20,000 = $3,765 (PVAF n=5, 18%)

PTS: 1 OBJ: 20-3

PTS: 1 OBJ: 20-3

Cost of capital is 18 percent.

What is the net present value of the investment?

NPV = ($21,600 × 3.127) - $45,000 = $22,543 (PVAF n=5, 18%)

PTS: 1 OBJ: 20-3

What is the net present value of the investment?

$10,000 × 3.037 - $25,000 = $5,370 (PVAF n=4, 12%)

What is the net present value for the machine?