ACCT Test 3 - CH 24

...

...

Analyze the following statements regarding capital budgeting decisions and determine which is correct. a. The net present value of decision making and capital budgeting is superior to the payback method in that it considers the time value of money. b. Assuming a 6% interest rate, the factor 0.94340 would be taken from a compound interest (future value) table of factors. c. The internal rate of return capital budgeting technique does not consider the time value of money. d. All capital budgeting techniques will produce the same decision in selecting among alternatives.

A)

Capital expenditure decision

Also known as capital budgeting; planning and decision making related to longer term projects and expenditures

For a retail outlet chain with multiple stores, which of the following statements would be correct? a. Stores which have a net loss should be discontinued. b. Stores with a negative contribution margin should be discontinued. c. Stores with a negative contribution margin should be discontinued provided such discontinuation will not cause an increase in sales at other stores. d. Stores with a negative contribution margin should not be discontinued if such discontinuation will cause profitable stores to bear a portion of the unprofitable store's overhead.

B) Any store with a negative contribution margin should be discontinued, as it cannot even cover variable costs with the sales revenue it is generating. That is to say, increasing sales losses.

Deep Channel Ferry Company is evaluating whether to purchase a more fuel-efficient boat or continue to use the boat they currently own. Both boats are identical except for the engine. The fuel-efficient boat costs $620,000, has an estimated service life of five years, has no salvage value, and will have variable operating costs of $100,000 per year. The boat currently owned had an original cost of $320,000, has an existing book value of $160,000, has an estimated remaining service life of five years, has no salvage value at the end of its service life, has a current disposal value (now) of $120,000, and has variable operating costs of $200,000 per year. Ignoring present value and tax considerations, what should Deep Channel do? a. Buy the fuel-efficient boat. b. Keep the existing boat. c. Be indifferent between the fuel-efficient boat and the existing boat. d. Cannot be determined.

C) The Relevant cost associated with the purchase decision would include a $620,000 cash out flow for the purchase price, plus $500,000 of operating expense ($100,000 times 5 years), minus $120,000 which would be netted from the sale of the old boat. The total relevant cost are $1,000,000. The Operating costs associated with retaining the old boat also amount to $1,000,000 ($200,000 time 5 years).

Which of the following statements regarding capital budgeting decisions is incorrect? a. Capital budgeting analysis techniques are applicable to equipment replacement decisions. b. The amount and timing of cash flows is critical to the calculation of the net present value of an investment. c. The cost of capital is equal to a company's maximum desired rate of return. d. In a capital budgeting decision, the amount of the initial investment required is critical to the analysis; it is not treated as a sunk cost.

C) The cost of capital is the collective cost of funds, is subject to a fair amount of judgement in determination and is not synonymous with the maximum desired rate of return.

The effect on a company's operating income of discontinuing a department with a contribution margin of $8,000 and allocated overhead of $16,000 (of which $7,000 cannot be eliminated) would be to: a. Decrease operating income by $1,000. b. Decrease operating income by $9,000. c. Increase operating income by $1,000. d. Increase operating income by $8,000.

C) While the company would forego $8,000 of contribution margin, they would also eliminate $9,000 of overhead ($16,000 minus $7,000). The net effect would cause an increase in income of $1,000

Expenditures related to programs and projects that influence financial performance of multiple accounting periods are termed ____________ expenditures.

Capital

The selling price minus all variable costs is termed the ____________.

Contribution Margin

-----------------A---------B---------- C Sales -----------5,000 10,000 12,500 Variable Costs-2,500 8,500 13,500 Fixed Costs----1,000 1,000 2,000 (UnAvoid) Fixed Costs----1,000 2,000 500 (Avoid)

D) C - Variable costs exceed sales B - Sales - Variable Costs - Both Fixed Costs, would exceed sales A - If you close C and B, A would not be able to cover the remaining fixed costs

Which of the following statements regarding relevant costs and sunk costs is incorrect? a. A serious drawback associated with the incremental approach of relevant cost study is that the incremental approach is cumbersome if more than two alternatives are considered. b. The type of cost presented to management for an equipment replacement decision should be limited to relevant costs. c. A sunk cost is a cost which cannot be avoided because it has already been incurred. d. Relevant costs can be studied using an incremental approach but should not be considered with a full project approach.

D) Relevant costs can be studied by using either a full project or incremental approach.

(T/F) In a outsourcing decisions only relevant variable costs should be taken into account in the analysis.

FALSE

(T/F) In deciding whether to delete a particular department, the most important element is an analysis of the contribution margin. If the contribution margin for a particular department is positive, the unit should not be discontinued.

FALSE

(T/F) With special order pricing, the goal is to produce items with the highest contribution margin per sales dollar.

FALSE

In evaluating a capital expenditure proposal, management should identify and evaluate the amount of an investment, the periodic returns from an investment, and which rate of return?

Lowest rate of return acceptable to the company

The cost of a foregone alternative is termed ____________. may include lost revenue

Opportunity Cost

Utilization of independent parties to manufacture products (sometimes known as make-or-buy) or manage data processing, tech support, payroll services, etc.

Outsourcing

____________ means that a company has decided to acquire its goods from outside vendors rather than produce the same goods or services in-house.

Outsourcing

Future costs that differ among alternative courses of action are known as ____________ costs.

Relevant

____________ costs are irrelevant in decision making.

Sunk

(T/F) In selecting among alternative courses of action, historical costs are generally not considered.

TRUE

The evaluation of programs and projects that influence the financial performance of more than a single accounting period is called:

capital budgeting

The contribution margin must be analyzed in terms of factors that limit its:

generation

Which of the following is virtually impossible to measure in dollars?

qualitative factors

A customer order that is outside of the normal pricing and terms:

special order