Chapter 14

The simple rate of return equals the ______.

annual incremental net operating income ÷ initial investment

Suppose that a project's net present value is negative, but the project would provide intangible benefits that have not yet been estimated. To estimate the annual value of intangible benefits needed to accept the project, ______ the negative net present value excluding intangible benefits by the ______.

divide, present value factor for an annuity

To determine if a project is acceptable compare the internal rate of return to the company's ______.

hurdle rate

Select all that apply Capital budgeting decisions ______.

require a great deal of analysis prior to acceptance involve an immediate cash outlay in order to obtain a future return

Select all that apply Typical capital budgeting decisions include ______ decisions.

lease or buy cost reduction equipment selection

When a capital budgeting decision does not involve any revenues, the most desirable alternative is the one with the ______.

least total cost from a present value perspective

The term capital budgeting is used to describe how managers plan significant investments in projects that have ______ implications.

long-term

Select all that apply When using net present value to compare projects, the total cost approach ______.

includes all cash inflows and outflows under each alternative is the most flexible method available to compare projects

The internal rate of return is ______.

the rate of return of an investment project over its useful life

Calderon Kitchen Supplies is planning to invest $210,000 in a new product. If the present value of the cash inflows is $266,700, the project profitability index is ______. Multiple choice question.

1.27

True or false: When a capital investment decision is being made between two or more alternatives, the project with the shortest payback period is always the most desirable investment.

False

When computing the payback period for a new piece of equipment, the salvage value of the equipment being replaced is ______.

deducted from the cost of the new equipment

Choose whether each of the following would be acceptable or unacceptable: A project with a positive net present value is (1) and a project with a negative net present value is (2). (Enter the word acceptable or unacceptable in each blank.)

1. acceptable 2. unacceptable

State Bank is implementing a new marketing campaign that requires an initial investment of $35,000. If the project profitability index is 1.2, the present value of the campaign's future cash flows is $(1). (Enter your answer as a whole number.)

1. 42,000

The simple rate of return is also referred to as the (1) or (2) rate of return. (Enter only one word per blank.)

1. accounting 2. unadjusted

Select all that apply Which of the following statements are true?

A project with a positive NPV will recover the original cost of the investment plus sufficient cash inflows to compensate for tying up funds. The net present value method automatically provides for return of the original investment. The cost of capital may be used to screen out undesirable projects. When using the internal rate of return method, the cost of capital is used as the hurdle rate. When the net present value method is used, the discount rate equals the hurdle rate.

Select all that apply Capital budgeting decisions include ______.

acquiring a new facility to increase capacity purchasing new equipment to reduce cost choosing to lease or buy new equipment determining which equipment to purchase among available alternatives deciding to replace old equipment

When a project with a negative NPV has significant intangible benefits, the ______.

annual intangible benefit necessary to make the investment worthwhile should be calculated

To screen out undesirable investments, ______ use(s) the cost of capital.

both the net present value and internal rate of return methods

Select all that apply The payback method ______.

is not a true measure of investment profitability ignores all cash flows that occur after the payback period does not consider the time value of money

When analyzing an investment project, uncertain future cash flows ______.

may be estimated using computer simulations

If the original investment in a capital project has been recovered, the net present value will be ______.

positive or zero

Select all that apply Conducting a postaudit ______.

provides an opportunity to reinforce and possibly expand successful projects flags any manager's attempts to inflate benefits or downplay costs in a project proposal provides an opportunity to cut losses on floundering projects

Working capital ______.

often increases when a company takes on a new project

Little Tots Gym has a required rate of return of 13%. The gym is considering the purchase of $12,500 of new equipment. The internal rate of return on the project has been calculated to be 11%. This project ______.

should be rejected

Sandy's Soda Co. is planning an investment in new cooling equipment that would cost $56,000. The new equipment would save on operating costs over the next 5 years as follows: $21,500 in year 1; $23,100 in year 2; $19,000 in year 3; $13,900 in year 4; and $15,200 in year 5.The payback period for the cooling equipment is ______ years.

2.6

One dollar earned today is worth ______.

More than one dollar earned at a future point in time

How managers plan significant investments in projects that have long term implications such as purchasing new equipment or introducing new products is called (1) (2). (Enter only one word per blank.)

1. capital 2. budgeting

A net present value decision that does not involve any revenues is known as a(n) (1) - (2) decision. (Enter only one word per blank.)

1. least 2. cost

The concept of the time value of money is based on the notion that a dollar today is worth (more/less) (1) than a dollar a year from now. (Enter only one word per blank.)

1. more

Instead of focusing on a project's profitability, the (1) period focuses on the time it takes for an investment to pay for itself. (Enter only one word per blank.)

1. payback

Match each capital investment term with its meaning.

Cost of capital: Average rate of return that must be paid to long-term creditors and shareholders for use of their funds Working capital: Current assets minus current liabilities Initial investment: Funds needed to purchase a capital asset or begin a capital investment project Salvage value: Funds gained from the sale of a capital asset

When computing the simple rate of return, the annual incremental net operating income in the numerator should ______ the investment's depreciation charges.

be reduced by

When the cash flows associated with an investment project change from year to year, the payback period must be calculated ______.

by tracking the unrecovered investment year by year

In an equipment capital budgeting decision, recovering the original investment means that the ______.

investment has generated enough cash inflows to completely cover the cost of the equipment

The simple rate of return method focuses on ______, rather than ______.

net operating income, cash flows

Reggie's Refrigerators is considering the purchase of some new equipment. The company has limited its purchase options to two alternatives. Option A has an internal rate of return of 10%, and option B has an internal rate of return of 13%. If the required rate of return on the project is 9.5%, ______.

option B is the preferred choice

Select all that apply Preference decisions are also called ______ decisions.

rationing ranking

The internal rate of return ______.

the discount rate that makes the NPV of an investment zero

When using the internal rate of return method to rank competing investment projects ______.

the higher the internal rate of return, the more desirable the project

A capital investment project's payback period is the ______.

length of time it takes for the project to recover its initial cost from the net cash inflows generated

Another term for the minimum required rate of return is the cost of (1). (Enter only one word per blank.)

1. capital

The length of time that it takes for a project to recover its initial cost from the net cash inflows that it generates is the (1) (2). (Enter only one word per blank.)

1. payback 2. period

Preference decisions are also called (1) or (2) decisions. (Enter only one word per blank.)

1. rationing 2. ranking

The internal rate of return is compared against the minimum (1) rate of return when analyzing the acceptability of an investment project. (Enter only one word per blank.)

1. required

When using the simple rate of return, the initial investment should be reduced by the (1) value of old equipment. (Enter only one word per blank.)

1. salvage

All cash flows are included, and a net present value is computed for each alternative when using the (1) - (2) approach. (Enter only one word per blank.)

1. total 2. cost

Current assets minus current liabilities is called (1) (2). (Enter only one word per blank.)

1. working 2. capital

The internal rate of return is the discount rate that results in a net present value of (1) for the investment. (Enter only one word per blank.)

1. zero

Calderon Kitchen Supplies is planning to invest $210,000 in a new product. If the present value of the cash inflows is $266,700, the project profitability index is ______.

1.27

Identify each working capital situation with the appropriate treatment.

Cash inflow: Working capital is released for use elsewhere within the company Cash outflow: Working capital is tied up for project needs

Match the following net present value ranges with the acceptability of the proposed project.

Positive or zero: Acceptable Negative: Unacceptable

Which of the following capital budgeting decision tools focuses on net operating income rather than cash flows?

Simple rate of return

True or false: When calculating the payback period, the depreciation on the investment is excluded in the calculation of net cash flow.

True

Synonyms for the simple rate of return are the ______ rate of return and the ______ rate of return.

accounting, unadjusted

A postaudit is a valuable process because ______.

actual values can be used to determine if the project is performing as expected

The cost of capital is the ______.

average rate of return a company must pay its long-term creditors and shareholders for the use of their funds

Future cash flows expected from investment projects ______.

can be difficult to estimate

A postaudit involves ______.

checking whether expected results are actually realized

Net present value is the ______.

difference between the present value of a project's cash inflows and the present value of the project's cash outflows

Select all that apply Working capital is ______.

treated as a cash inflow when released at the end of a project. treated as a cash outflow when required at the beginning of a project.

Select all that apply The net present value of a project is ______.

used in determining whether or not a project is an acceptable capital investment the difference between the present value of cash inflows and present value of cash outflows for a project