CHAPTER 9
Capital Budgeting Decisions
Summary of Questions by Objectives and Bloom’s Taxonomy
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True-False Statements
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Multiple Choice Questions
35.
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Matching
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Exercises
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Challenge Exercises
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Test Bank to accompany Jiambalvo Managerial Accounting, 6th Edition
9-2
Short-Answer Essays
TRUE-FALSE STATEMENTS
1. One possible capital budgeting decision is the potential acquisition of a patent from a
competitor.
2. The time value of money concept recognizes that a dollar received today is worth more
than a dollar received in the future.
3. Present value techniques are developed to equate future dollars to current dollars.
4. In evaluating an investment opportunity, a company must know how much cash it
receives from or pays for an investment and the timing of the cash flows because
receipts and payments that occur in the future are worth more than those that occur
earlier.
5. If your required rate of return is 6%, the present value of $1,000 to be received three
years from today is $839.60.
6. The process of determining present value removes the cost of interest from future cash
flows to determine the value of the amount today.
7. Both the payback period and the net present value methods take into account the timing
of future cash flows.
8. The net present value method equates cash inflows to revenues, and cash outflows to
expenses, as if occurring in the same accounting period.
9. If the net present value is equal to zero, the project should be accepted.
10. In net present value analysis, the purchase of equipment today results in a cash outflow
that is not discounted.
11. The future value of all cash inflows minus the cash outflows equals the net present value
of the investment.
12. The only cash outflow that may exist in a net present value analysis is the initial
investment.
13. If the required rate of return is greater than the internal rate of return of a potential
investment, the company should deem the investment acceptable.
14. If the internal rate of return is used to calculate the net present value of a project, the net
present value will be zero.
15. The internal rate of return method ignores the time value of money.
Chapter 9 Capital Budgeting Decisions
9-3
16. The internal rate of return is the rate of return that management desires to earn on its
investments.
17. If the internal rate of return is greater than the required rate of return, the project should
be accepted.
18. The cost of capital is the weighted average of the costs of debt and equity financing
used to generate capital for investments.
19. Riskier investments demand lower rates of return.
20. Soft benefits are those that often have a significant nonfinancial impact on an investment
decision and as such, should be included in the decision analysis.
21. The more risky a potential investment is, the lower the company’s required rate of return
will be.
22. If an investment project generates tax-deductible expenses, cash inflows from the
project will be reduced by the taxes resulting from the increase in income taxes payable.
23. Depreciation itself is not a cash outflow, though it reduces the amount of income taxes
that a company must pay.
24. Cash flows used in calculating the net present value need not be adjusted for inflation
because the interest rate used to discount the cash flows has already considered
inflation.
25. The depreciation tax shield is the amount of income taxes that the company avoids as a
result of reporting depreciation expense.
26. The net present value method can be used to determine the effect of discontinuing one
of a company’s products.
27. Neither the accounting rate of return method nor the payback period method consider
the timing of all future cash flows related to a potential investment.
28. The internal rate of return method and the payback period method will always give the
same decision as to whether to accept a project, if the same inputs are used.
29. All else being equal, a company prefers projects with long payback periods, as these
benefit the company for longer time periods.
30. The payback period method ignores cash flows that occur after the end of the payback
period.
31. A project with positive cash flows will always generate an acceptable accounting rate of
return.
32. Managers may be discouraged from using present value techniques for evaluating
investments because of the way in which their own performance is evaluated.
Test Bank to accompany Jiambalvo Managerial Accounting, 6th Edition
9-4
*33. When using the NPV function in Microsoft© Excel, the initial cash flow at time zero is
omitted from the range selected for the function.
*34. When using the internal rate of return function in Microsoft© Excel to calculate the
internal rate of return, the initial cash flow at time zero is omitted from the range selected
for the function because it is not discounted.
Material from the appendix to the chapter is marked with an asterisk (*).
Answers to True-False
Chapter 9 Capital Budgeting Decisions
9-5
MULTIPLE CHOICE
35. Which of the following is not considered a capital budgeting project?
A. Purchase of a new packaging machine
B. Purchase of land on which to build a new factory
C. Purchase of a new delivery truck to replace an old truck
D. Purchase of inventory to be sold in the future
36. Capital expenditure decisions
A. are useful for estimating inventory acquisition costs.
B. always involve the acquisition of long-lived assets.
C. consist of a final list of approved projects.
D. All of these answer choices are correct.
37. Which of the following is not a component of a time value of money calculation?
A. The amount of cash to be received
B. The time until the cash will be received
C. The opportunity costs of the alternative actions
D. The required rate of return
38. The basic concept involved in time value of money calculations is that
A. it is better to receive a dollar today than to receive a dollar in the future.
B. incremental revenues must exceed incremental costs.
C. you get what you measure.
D. revenue must be earned in order for net income to be generated
39. Present value techniques
A. determine the effects of time value of money on future net income that will be
generated.
B. are a way of converting future dollars into their equivalent current dollars.
C. provide more conservative results than similar time value of money
computations.
D. treat a dollar received today to be worth the value of a dollar to be received a
year from today.
40. Which of the following pairs of techniques use the time value of money concept?
A. Payback period method and the internal rate of return method
B. Internal rate of return method and the accounting rate of return method
C. Accounting rate of return method and the payback period method
D. Internal rate of return method and the net present value method
41. Your required rate of return is greater than zero. How much is a payment of $3,000 to be
received a year from today worth?
A. Less than $3,000 today
B. Exactly $3,000 today
C. More than $3,000 today
D. Not enough information is provided to determine the answer.
Test Bank to accompany Jiambalvo Managerial Accounting, 6th Edition
9-6
42. Which of the following would most likely be the present value of a 4-year annuity of
$2,000 per year, assuming a positive discount rate?
A. $8,000
B. $7,000
C. $9,500
D. $2,000
43. Assuming a 6% rate of return, how does the present value of an amount to be received
two years from today compare to the present value of the same amount to be received
three years from today?
A. The present value of the amount to be received in two years is greater than the
present value of amount to be received three years from today.
B. The present value of the amount to be received in two years is lesser than the
present value of amount to be received three years from today.
C. The present values of the two amounts are equal.
D. It is impossible to tell unless the actual amount to be received is known.
44. Suppose you face the prospect of receiving $800 per year for the next five years and a
$200 payment at the end of six years. How much is this prospect worth today if the
required rate of return is 9%?
A. $4,200
B. $3,112
C. $3,242
D. $3,231
45. In which of the following situations will an annuity table be useful?
I. Calculating the net present value of an investment with equal cash flows for
the first nine years, but a different flow in year 10
II. Calculating the internal rate of return of an investment with unequal cash
flows each year
III. Calculating the net present value of an investment with an equal cash flow in
years one through four, and a different equal cash flow in years 5 through 10
A. I, II, and III
B. II and III
C. I and III
D. I and II
46. What is the present value factor for a $4,000 cash outflow that is made today?
A. 0.00
B. Some value greater than 1.00
C. 1.00
D. It depends on the rate of return that is required.
47. If the time value of money techniques are used correctly, the present value of cash flows
far in the future will be
A. lesser than the present value of the same amount of cash flows in the present.
B. greater than the present value of the same amount of cash flows in the present.
C. same as the future value of the same amount of cash flows in the present.
D. greater than the future value of the same amount of cash flows in the present.
Chapter 9 Capital Budgeting Decisions
9-7
48. An annuity is
A. the time period in which the cash flows paid out for an investment will be
recovered.
B. a series of equal payments.
C. necessary in order to calculate the net present value.
D. used to calculate depreciation in order to provide a tax shield.
49. If a 14% rate of return can be achieved, how much will need to be invested today in
order to receive $12,000 at the end of 3 years plus $10,000 at the end of 5 years?
Round to the nearest whole number.
A. $33,053
B. $5,194
C. $11,426
D. $13,294
50. To achieve exactly a 13% rate of return, how much would need to be invested today in
an investment that returns $12,000 at the end of 3 years and $10,000 at the end of 5
years? Round to the nearest whole number.
A. $8,239
B. $13,745
C. $12,862
D. $60,920
51. Which of the following is not one of the steps in the net present value method?
A. Identify the amount and timing of the cash flows.
B. Discount the cash flows.
C. Calculate the number of years required to recover the initial investment.
D. Compare the discounted net cash flows to zero.
52. What is the sum of the present values of all cash flows (inflows and outflows) called?
A. Cost of capital
B. Internal rate of return
C. Net present value
D. Required rate of return
53. Projects A and B both have an initial outflow of $100,000. Project A will return a cash
flow of $30,000 each year for the next 5 years. Project B will return $40,000 in year 1,
$30,000 in year 2, $30,000 in year 3, $30,000 in year 4, and $20,000 in year 5. Which
project will have the higher net present value?
A. Project A
B. Project B
C. The answer cannot be determined without knowing the required rate of return.
D. The answer cannot be determined without knowing the initial investment.
54. Projects with a negative net present value will always have a(n)
A. payback period longer than the useful life of the investment.
B. internal rate of return that is less than the required rate of return.
C. accounting rate of return that is negative.
D. series of cash outflows that is greater than the initial cost of the project.
Test Bank to accompany Jiambalvo Managerial Accounting, 6th Edition
9-8
55. Projects with a negative net present value will always have a(n)
A. payback period shorter than the life of the project.
B. accounting rate of return that is greater than zero.
C. an internal rate of return greater than the cost of capital.
D. None of these answer choices are correct.
56. The required rate of return used to calculate an investment’s net present value is related
to the firm’s
A. contribution margin.
B. cost of capital.
C. depreciation methods.
D. fixed costs.
57. Maude Company’s required rate of return on capital budgeting projects is 9%. The
company is considering an investment that would yield a cash flow of $12,000 per year
for five years. Ignoring taxes, what is the most that the company will be willing to invest
in this project?
A. $46,676
B. $38,994
C. $60,000
D. $55,046
58. An investment that costs $50,000 will return $15,000 operating cash flows per year for
five years. Determine the net present value of the investment if the required rate of
return is 14 percent. Should the investment be undertaken?
A. Yes, the profit is $25,000.
B. No, the accounting return is less than 14%.
C. No, the net present value is negative at $11,045.
D. Yes, the net present value is positive at $1,496.50.
59. Santo Automotive is considering producing a new automobile product, No Text, which
disengages the ability to text while driving. Marketing data indicate that the company will
be able to sell 40,000 units per year at $16 each. The product will be produced in a
section of an existing factory that is currently not in use. To produce No Text, Santo
must buy a machine that costs $820,000. The machine has an expected life of five years
and will have an ending residual value of $50,000. Santo will depreciate the machine
over five years using the straight-line method. In addition to the cost of the machine, the
company will incur incremental annual manufacturing costs of $390,000. The income tax
rate is 30% and the company’s required rate of return is 10%. How much is net
operating cash flow each year?
A. $67,200
B. $221,200
C. $175,000
D. $250,000
Chapter 9 Capital Budgeting Decisions
9-9
60. Santo Automotive is considering producing a new automobile product, No Text, which
disengages the ability to text while driving. Marketing data indicate that the company will
be able to sell 39,000 units per year at $16 each. The product will be produced in a
section of an existing factory that is currently not in use. To produce No Text, Santo
must buy a machine that costs $820,000. The machine has an expected life of five years
and will have an ending residual value of $50,000. Santo expects to generate net
income of $56,000 per year. The income tax rate is 30% and the company’s required
rate of return is 10%. How much is the net present value?
A. ($23,932)
B. $7,113
C. $52,498
D. None of these answer choices are correct.
61. What does the cost of capital represent?
A. The weighted average of fixed and variable costs
B. The weighted average of the incremental cash inflows and outflows
C. The weighted average of debt and equity financing
D. The weighted average of the cost of borrowing on a long and short-term basis
62. The return demanded by shareholders for the risk that they bear in supplying capital to
the firm is
A. less for riskier firms.
B. only considered when a corporation has no debt.
C. measured by the internal rate of return.
D. called the cost of equity.
63. Since present value analysis is concerned with cash flows, which of the following is not
true?
A. Depreciation is always an incremental cash inflow.
B. Revenues are inflows in the period when the cash is received.
C. Expenses are outflows in the period when they are paid.
D. The salvage value of equipment is considered in the analysis.
64. Natchez, Inc. is considering the purchase of a new machine costing $200,000. The
company will incur $5,000 per year in cash operating expenses but it will allow the
company to earn an additional $100,000 per year in revenues. Natchez expects the
machine to provide future benefits for 3 years and salvage value at the end of the 3-year
period to be $10,000. The company uses straight-line depreciation method. The income
tax rate is 30%. If the required rate of return is 10%, how much is the net present value
of this project?
A. $20,143
B. $12,629
C. $43,769
D. None of these answer choices are correct.
Test Bank to accompany Jiambalvo Managerial Accounting, 6th Edition
9-10
65. Discount Dollar Store is considering the purchase of a new machine costing $220,000.
This machine is estimated to generate an additional $88,000 per year in revenues. The
machine will be depreciated using the straight-line method over its 4-year life. There is
no expected salvage value at the end of its life. Expected annual net cash flows are
$67,240 and expected annual net income from the new machine total $12,240. The
required rate of return is 8% and the income tax rate is 28%. How much is the net
present value of this project?
A. $2,706
B. ($179,460)
C. $71,465
D. $153,390
66. Live Nutrition is considering the purchase of a new computer system for diagnosing
health problems. The company estimates that the system will result in increased
operating cash flows of $5,800 in year 1, $6,500 in year 2, and $11,400 in year 3. The
company’s required rate of return is 8%. What is the maximum cost the company will be
willing to pay for the computer system?
A. $14,947
B. $23,700
C. $19,992
D. $43,692
67. The following data pertain to an investment proposal:
Required investment $75,000
Annual cash savings $18,000
Projected life of investment 8 years
Projected salvage value $4,000
Required rate of return 16%
Ignoring income taxes, how much is the net present value of the proposed investment?
A. $13,527
B. $3,185
C. $14,747
D. $4,405
68. Objective Products’ required rate of return on capital budgeting projects is 9%. The
company is considering an investment that would yield net annual operating cash flows
of $30,000 for 3 years. What is the maximum amount that the company will be willing to
invest in this project?
A. $75,939
B. $69,498
C. $90,000
D. $98,100
69. Which of the following is the rate of return that equates the present value of future cash
flows to the investment outlay?
A. Hurdle rate
B. Internal rate of return
C. Payback return
D. Accounting rate of return
Chapter 9 Capital Budgeting Decisions
9-11
70. Which statement(s) is/are true concerning the internal rate of return?
I. It takes into account the time value of money.
II. It is the rate of return that equates the present value of future cash flows to
the investment outlay.
A I only
B. II only
C. Neither I nor II
D. Both I and II
71. Under which one of the following situations should a project be accepted?
A. The internal rate of return is less than the cost of capital.
B. The hurdle rate is greater than the required rate of return.
C. The return on the project is equal to the required rate of return.
D. The internal rate of return is less than the cost of capital.
72. The cash inflows expected during a project’s life are equal in amount. In determining the
internal rate of return, how is the present value factor calculated?
A. By dividing the initial outlay by the annuity amount
B. By multiplying the annuity amount by the number of years it occurs
C. By looking in the present value of an annuity table for the number of years and
the respective discount rate
D. By dividing the present value of the annuity by the initial outlay
73. Mexicali Foods determined the net operating cash inflows during a project’s life would
not be equal in amount. How can the internal rate of return be found?
A. By averaging the cash flows and treating them as if they are equal
B. By determining the accounting rate of return
C. By determining the cost of equity
D. By trial and error using present value tables, a spreadsheet program, or a
financial calculator
74. The projected rate of return on a particular project is equal to the hurdle rate. Which
statement is true?
A. The payback period will be longer than the period over which the return is
expected to occur.
B. The project should be rejected.
C. A lower discount rate should be used.
D. The project should be accepted.
75. Which of the following two methods are most likely give the same decision of accepting
or rejecting a particular project?
A. Net present value and internal rate of return
B. Accounting rate of return and payback period
C. Accounting rate of return and internal rate of return
D. Net present value and accounting rate of return
Test Bank to accompany Jiambalvo Managerial Accounting, 6th Edition
9-12
76. Halloran, Inc. is planning a capital investment. The company has a 7.8% required rate of
return and a 6.3% cost of capital. Results of its budgeting calculations for three possible
investments, each with a 7-year expected useful life and no salvage value, follow:
Payback Period Method
Net Present Value
Cost
Project 22
5.2
$2,000
$125,000
Project 33
6.9
($2,000)
62,000
Project 77
7.5
$0
71,000
Which of the reasons below is true concerning the acceptability of a particular project?
A. Project 33 incurs a net loss.
B. Project 33 generates a return that is less than the required rate of return.
C. The cash invested in Project 77 requires an additional half year to recover when
compared to Project 22.
D. Project 77 will operate at breakeven.
77. What are soft benefits?
A. The reverse side of opportunity costs
B. Benefits those are hard to quantify
C. Projected cash flows that are expected to change
D. Considerations needed when a project has a negative internal rate of return
78. Which one of the following is a soft benefit?
A. Decreased time to receive and process customers’ payments
B. Enhanced reputation of the company
C. Depreciation tax shield
D. Reduction in the number of items spoiled during processing
79. A project under consideration currently has a negative net present value of $11,600
using a 6% rate of return and an estimated 4-year life. What must be the minimum
present value of the soft benefits of this project in order to make it acceptable? (Round
the answer to nearest whole dollar.)
A. $12,296
B. $40,195
C. $9,188
D. $3,348
80. The following data pertain to an investment proposal:
Required equipment investment $124,000
Annual cash savings $52,000
Projected life of investment 4 years
Projected salvage value $0
Required rate of return 8%
The income tax rate is 28%. To which amount is the internal rate of return on this
investment closest?
A. 12.5%
B. Less than 6%
C. 25%
D. 2.38%
Chapter 9 Capital Budgeting Decisions
9-13
81. The following data pertain to an investment proposal:
Required equipment investment $120,200
Annual cost savings $31,700
Projected life of investment 5 years
Projected salvage value $0
Required rate of return 9%
The income tax rate is 30%. To which amount is the internal rate of return on this
investment closest?
A. 3.8%
B. 10.0%
C. 9.0%
D. 38.1%
82. An investment that costs $82,000 is expected to reduce cash operating costs by $27,000
per year for 4 years. Based on the internal rate of return of the investment, should the
investment be undertaken if the required rate of return is 9 percent?
A. No, the actual return of 3.04% is less than the required rate of return
B. Yes, because the return of 12% is more than the hurdle rate
C. Yes, because the IRR is more than 30%
D. Yes, because the NPV exceeds the cost by $26,000
83. An investment that costs $120,000 is estimated to reduce cash operating costs by
$40,000 per year for 4 years. The required rate of return is 10 percent. Determine the
payback period assuming an inflation rate of 8 percent on the operating costs saved.
A. About 2.79 years
B. About 2.92 years
C. About 2.66 years
D. About 3 years
84. A company is contemplating an investment of $650,000 that is expected to yield a net
present value of zero. Which of the following statements is true?
A. The internal rate of return of the investment is zero.
B. The investment will yield an internal rate of return equal to the required rate of
return.
C. The investment will yield an accounting rate of return equal to the required rate of
return.
D. The investment will result in zero profit.
85. Event Supplies is evaluating a renovation of its retail store. The cost of the renovation is
estimated to be $290,000 and will be depreciated over 8 years using the straight–line
method. The renovation is expected to generate additional annual revenue of $86,500,
annual operating cash flows are expected to increase by $50,775, and net income is
expected to increase by $14,525 per year. The company’s income tax rate is 30% and
its minimum required rate of return is 9%. To which of the following amounts is the
internal rate of return of the renovation closest?
A. 5.7%
B. 8.2%
C. 25%
D. 16%
Test Bank to accompany Jiambalvo Managerial Accounting, 6th Edition
9-14
86. Why does depreciation have an indirect effect on cash flows?
A. It reduces the amount of income taxes a company must pay.
B. It reduces the original cash outflow associated with the asset.
C. It reduces the annual operating cash flows.
D. It causes net income to be less than operating cash flows.
87. Maxson, Inc.’s revenues are collected when they are earned and its operating expenses
are paid when they are incurred. Which of the following summarizes the calculation of
operating cash flows if the income tax rate is 30%?
A. Revenues – operating expenses + income taxes = Operating cash flows
B. Net income – income taxes + depreciation = Operating cash flows
C. Net income – depreciation = Operating cash flows
D. Revenues – operating expenses – income taxes + depreciation = Operating cash
flows
88. Why may worthwhile investment opportunities be rejected if inflation is ignored?
A. Inflation effects generally increase estimated future cash flows, which increases
the NPV and the likelihood of acceptance.
B. The payback period for projects will be shorter than it would be if the future cash
flow amounts were adjusted for inflation, which decreases the likelihood of
acceptance.
C. Inflation effects generally reduce future profits and operating cash flows making
the NPV smaller than if inflation is ignored, which in turn decreases the likelihood
of acceptance.
D. Estimated future cash flows adjusted for inflation have larger NPVs, which
increases the likelihood of rejection.
89. Which one of the following is a long-run decision that is not a capital budgeting decision,
for which time value of money analyses are appropriate?
A. Decision to drop a product line
B. Decision to repave a parking lot
C. Decision to acquire a patent from a competitor
D. Decision to hire additional workers
90. Celebration Cruises wants to acquire a new tender at a cost $425,000. The tender will
have an estimated salvage value at the end of its 8-year life of $50,000. It is expected
that annual incremental income before taxes will be $36,000. Celebration Cruises plans
to make the purchase on January 1, 2017. The company’s cost of capital is 9% and the
required rate of return is 10%. The income tax rate is 32%. How much is the
depreciation tax shield for 2017?
A. $17,000
B. $46,875
C. $53,125
D. $15,000
Chapter 9 Capital Budgeting Decisions
9-15
91. A company is considering investing in a piece of machinery that will cost $550,000. It will
provide an additional $160,000 in sales each year and its annual cash operating
expenses are expected to be $52,000. Management plans to depreciate the machine on
a straight-line basis over a 10-year life with no estimated salvage value. The company
has a 40% tax rate. How much is net annual operating cash flow expected if the
machinery is acquired?
A. $64,800
B. $96,000
C. $86,800
D. $118,000
92. Sunny Farms is considering investing in a chicken plucker machine that will cost
$300,000. The investment will provide an additional $90,000 in sales annually. Sunny
Farms’ annual cash operating expenses are expected to be $22,000. The machine will
be depreciated on a straight-line basis over a 10-year life with a $12,000 estimated
salvage value. The company has a 30% tax rate and its required rate of return is 10%.
How much is the annual depreciation tax shield?
A. $9,600
B. $8,640
C. $28,800
D. $30,000
93. A company is considering investing in a piece of machinery costing $400,000. The
investment will provide an additional $142,000 in additional sales each year and its
annual cash operating expenses are expected to be $51,000. The machine will be
depreciated on a straight-line basis over an 8-year life with no estimated salvage value.
The company has a 40% tax rate. How much are annual operating cash flows?
A. $54,600
B. $24,600
C. $4,600
D. $74,600
94. Testor Labs determined it would recover its investment of a new laboratory at 12.5
years. What did Testor Labs calculate?
A. The breakeven point
B. The payback period
C. The net present value
D. The accounting return period
95. Why is the payback period often criticized?
A. It requires trial and error to determine the quantitative amount on which to make
a decision.
B. It ignores the cash flows after the end of the payback period.
C. It requires the estimate of a hurdle rate that is subject to uncertain economic
effects.
D. It is based on accounting income, which most likely differs from the actual cash
flows.
Test Bank to accompany Jiambalvo Managerial Accounting, 6th Edition
9-16
96. Which of the following statements about the payback period method is true?
A. All other things being equal, a company would prefer a project with a longer
payback period.
B. The payback period method ignores the time value of money.
C. The payback period method is more sophisticated and yields better decisions
than the internal rate of return method.
D. The payback period method takes into account the total stream of cash flows,
which are difficult to predict.
97. Hammer Saw Tools is considering a $7,000 investment. Which of the following
alternative cash inflows has the shortest payback period?
A. $8,000 in Year 5
B. $0 in Year 1, $8,000 in Year 2
C. $1,500 per year for Years 1 through 5
D. $3,000 in year 1, $2,500 per year for Years 3 and 4
98. JT Corp. has a cost of capital of 6.2% and a required rate of return of 7.9%. The
company evaluated an investment and determined the IRR to be zero. Should JT accept
or reject the investment and why?
A. Accept, because the investment will generate the minimum required return
B. Reject, because the investment will not generate any cash flows.
C. Accept, because the required rate of return is greater than the cost of capital
D. Reject, because investment will generate a return that is less than the minimum
required rate of return
99. An investment project has an accounting rate of return of 10.8%. The initial outlay for the
investment is $91,000. The hurdle rate is 10.2%. Which of the following indicates a
proper interpretation?
A. The investment earns a net income of 10.8 cents on each dollar invested.
B. The investment earns a cash return of 10.8 cents on each dollar invested.
C. The investment earns a net income of 10.8 cents on each dollar of sales
generated.
D. The investment earns a cash return of 10.8 cents on each dollar of sales
generated
100. Why might the accounting rate of return be low in the initial years of an investment?
A. Because the depreciation tax shield is negative
B. Because customers are not willing to spend money in the initial years
C. Because the investment base will be higher in the initial years
D. Because the company must pay for the investment at the beginning of the first
year
101. A company with $800,000 in operating assets is considering purchasing a machine that
costs $300,000 with an estimated salvage value of $40,000. The acquisition is expected
to reduce operating costs by $55,000 in year 1, with a $5,000 increase in cost savings
per year for each of the remaining years of its 6-year life. How long is the payback
period?
A. 4.7 years
B. 5.7 years
C. 5.5 years
D. 4.4 years
Chapter 9 Capital Budgeting Decisions
9-17
*102. Oakridge Appliances is deciding whether to purchase a machine for $84,000 that is
expected to yield the following net cash flow savings:
Year 1 $25,000
Year 2 $40,000
Year 3 $45,000
What is the internal rate of return on this project?
A. 43.7%
B. 13.4%
C. 29.8%
D. 23.6%
103. Redrum Hotel is considering a project with a 5-year life and which would require a
$325,000 investment in equipment with no salvage value. The project would provide
income each year as follows for the life of the project:
Sales $225,000
Variable costs $80,000
Fixed costs 95,000 175,000
Income before taxes $ 50,000
The income tax rate is 30%. Depreciation is included in the fixed costs amount. The
company’s required rate of return is 8%. Calculate the payback period for this project.
A. 3.25 years
B. 6.50 years
C. 2.83 years
D. 9.29 years
104. Hurlizter Pianos has just purchased a piece of equipment at a cost of $345,000. This
equipment will reduce cash operating costs by $65,000 each year for the next 5 years.
This equipment has a salvage value of $20,000. Ignoring income taxes, how long will it
take for the company to recover its entire cash investment?
A. 5.31 years
B. 5.00 years
C. 4.92 years
D. The company will never recover its entire investment.
*105. When using Microsoft© Excel to calculate the internal rate of return, which item can you
safely omit from the function wizard and still calculate the internal rate of return?
A. The initial cash flow
B. The annual cash flows
C. A guess at the internal rate of return
D. None of these answer choices are correct
*106. When using Microsoft© Excel to calculate the net present value, what should you do with
the initial cash outflow?
A. Include it in the range of cells in the function
B. Add it to the results of the net present value function
C. Subtract it from the results of the net present value function
D. Discount it at the required rate of return
Test Bank to accompany Jiambalvo Managerial Accounting, 6th Edition
9-18
107. A proposed acquisition of a forklift on January 1, 2017 will cost $86,000. The company
has estimated the forklift’s salvage value at the end of its estimated 5-year life to be
$21,000. The following amounts have been provided by the management:
2017
2018
2019
2020
2021
Net income
$7,300
$8,700
$8,000
$5,100
$1,400
Operating cash flows
$20,300
$21,700
$21,000
$18,100
$14,400
The company’s required rate of return is 7.6% and its cost of capital is 5.4%. The income
tax rate is 32%. Calculate the payback period.
A. 4.34 years
B. 2.82 years
C. 14.10 years
D. 4.50 years
*108. In using Microsoft© Excel to calculate NPV of a capital investment, the following data
was input:
A
B
C
D
E
F
1
1-1-10
2010
2011
2012
2013
2
Cash
flows
−46,000
12.600
18,500
21,500
10,500
Which choice is a correct format in which to enter into the NPV wizard if the discount
rate is 9.72%?
Rate
Value1
Value2
Value3
Value4
Value5
A.
9.72
12,600
18,500
21,500
10,500
0
B.
0.972
12,600
18,500
21,500
10,500
0
C.
9.72
−46,000
12,600
18,500
21,500
10,500
D.
0.0972
12,600
18,500
21,500
10,500
0
109. How much will you need to invest today at 10% to have a total of $10,000 accumulated
six years from today?
A. $7,050
B. $17,715
C. $5,645
D. $5,584
Chapter 9 Capital Budgeting Decisions
9-19
110. Donaldson, Inc. analyzed an investment and determined that the proposed investment
will earn a return of 9.9%. Donaldson’s cost of capital is 6.5% and required rate of return
is 9%. Currently, Donaldson’s other investments are earning 11%. Will Donaldson be
motivated to accept the investment?
A. Yes, because the expected return is greater than the cost of capital
B. No, because it will cause its current return to decline
C. Yes, because the expected return is less than the required rate of return
D. No, because the expected return is less than the required rate of return
111. An investment was analyzed and its NPV was determined to be $2,000. The company’s
expected rate of return was 12%. The manager of the division is currently earning 12%
on its other investments. This investment will generate losses for the first two years.
Which of the following statements best describes what the manager will likely be
motivated to do if he is evaluated based on profits?
A. Accept the proposal since the rate of return expected is equal to the rate used for
the analysis
B. Accept the proposal since the rate of return on the investment is equal to the
required rate of return
C. Do not accept the proposal since the rate of return expected is less than the rate
used for the analysis
D. Do not accept the proposal since losses are expected for the first two years
112. Which of the following is a partial solution to motivate managers to accept proposed
investments that are projected to generate net losses for the initial years, in spite of the
internal rate of return expected to be greater than the required rate of return?
A. Evaluate managers based on long-term profitability
B. Evaluate managers on the short-run expectations of investments
C. Do not evaluate managers based on investments
D. Do not allow managers to make decisions on which investments to accept
113. How much would you have to deposit in the bank today so that you could withdraw
$2,000 per year for 4 years earning 8%?
A. $1,470
B. $10,560
C. $5,880
D. $6,624
114. An investment promises a return of $8,000 per year at the end of each of the next six
years. How much will you be willing to invest today to receive the $8,000 payments and
earn a return of 7%?
A. $31,982
B. $3,360
C. $48,000
D. $38,132
115. You will need $12,000 at the end of each of the next four years. If an interest rate of 6%
is appropriate, how much must you deposit today to receive these payments?
A. $41,581
B. $2,880
C. $50,880
D. $38,021
Test Bank to accompany Jiambalvo Managerial Accounting, 6th Edition
9-20
116. Calculate the present value of an annuity of $42,000 per year for each of the next 15
years. Use a required rate of return of 6%.
A. $262,899
B. $163,449
C. $166,468
D. $407,914
117. Sanders Company has a 15% minimum required rate of return. What is the present
value of the expected operating cash flows of $300,000 per year for each of the next ten
years?
A. $2,608,000
B. $741,600
C. $2,281,830
D. $1,505,631
118. On January 1, 2017, Sanford, Inc. plans to purchase a machine for $68,000 that has an
estimated salvage value of $12,000, and an estimated life of 4 years. The machine is
expected to generate the following cash flows and income over the next 4 years:
2017 2018 2019 2020_
Net income $12,500 $10,300 $13,000 $ 2,000
Operating cash flows 26,500 24,300 27,000 16,000
Sanford’s required rate of return is 9.5%, and the cost of capital is 7.5%. How much is
the accounting rate of return?
A. 94.50%
B. 33.75%
C. 23.63%
D. 58.63%
119. A project with an initial cost of $314,000 will generate no returns in the first two years of
operations, and operating cash flows of $150,000 per year in Years 3, 4, and 5. The
required rate of return is 7%. To which amount is the net present value of the project
closest?
A. $29,830
B. $343,830
C. $61,900
D. $393,645
120. Which amount is never used as part of the calculation of the annual operating cash flows
in a capital budgeting decision?
A. Cost savings due to reduced labor with the new asset
B. The salvage value of the new asset
C. Additional variable overhead costs expected for the new machine
D. Additional revenue due to an increased selling price
121. What is IRR?
A. The rate of return that causes the investment to exactly breakeven
B. The rate of return that is the minimum acceptable by the company
C. The rate of return that is equal to the company’s hurdle rate
D. The rate of return that would result in zero net present value of the investment