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Exam 11: Capital Budgeting

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Question 1

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Byron Corp is considering the purchase of a new piece of equipment.The cost savings from the equipment would result in an annual increase in cash flow of $100,000.The equipment will have an initial cost of $400,000 and have a 5 year life.The salvage value of the equipment is estimated to be $75,000.If the hurdle rate is 10%,what is the internal rate of return?

A) between 6% and 8%
B) between 8% and 10%
C) between 10% and 12%
D) between 12% and 14%

E) B) and D)
F) All of the above

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Question 2

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The profitability index is calculated as the present value of future cash flows divided by the initial investment.This is the formula for the profitability index.

A) True
B) False

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Question 3

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A decision that requires managers to choose from among a set of alternative capital investment opportunities is a(n)

Byron Corp is considering the purchase of a new piece of equipment.The cost savings from the equipment would result in an annual increase in cash flow of $100,000.The equipment will have an initial cost of $400,000 and have a 5 year life.The salvage value of the equipment is estimated to be $75,000.If the hurdle rate is 15%,what is the approximate net present value? Ignore income taxes.

The internal rate of return is a measure of

Independent projects should be prioritized according to their

Which of the following capital budgeting methods focuses on net income rather than cash flows?

Randall Corp is trying to decide whether to lease or purchase a piece of equipment needed for the next five years.The equipment would cost $100,000 to purchase,and maintenance costs would be $10,000 per year.After five years,Randall estimates it could sell the equipment for $30,000.If Randall leases the equipment,it would pay $30,000 each year,which would include all maintenance costs.If the hurdle rate for Randall is 12%,Randall should

A problem in which you must calculate the worth to you today of receiving a certain amount at some time in the future is a

How much will you have in a savings account in ten years,if you deposit $1000 in the account at the end of each year and the account earns 6% interest,compounded annually?

The accounting rate of return is calculated as initial investment divided by annual net income.Accounting rate of return is calculated as annual net income divided by initial investment.

If you invest $10,000 today in a savings account that earns 5% interest,compounded annually,how much would be in the account at the end of ten years?

The accounting rate of return is the only method that focuses on net income rather than cash flow.The accounting rate of return is net income as a percentage of investment,while payback period,net present value,and internal rate of return focus on cash flows.

The net present value method is a discounted cash flow method.The net present value method incorporates the time value of money.

When managers must choose among independent projects,they should prioritize projects according to their net present value.The net present value is ill-suited to compare projects of different size.Independent projects should be prioritized according to their profitability index.

The payback method

You are saving for a car that you plan to purchase in five years.You plan to put $3,000 in savings (which earns 8%,compounded annually) at the end of each year until then.How much will you have saved for the car at the end of the five years?

Preference decisions compare an investment with some minimum criteria.Preference decisions require managers to choose among a set of alternative capital investment opportunities.Screening decisions compare an investment with some minimum criteria.

If the hurdle rate is greater than the internal rate of return,the net present value will be negative.The internal rate of return is the rate at which net present value is zero,so if internal rate of return is less than the hurdle rate,net present value will be negative.

Which of the following statement regarding the payback method is incorrect?