Exam
Name___________________________________
TRUE/FALSE. Write ‘T’ if the statement is true and ‘F’ if the statement is false.
1)
Capital budgeting is the method we use to justify the acquisition of those items that have a useful
life in excess of one year.
1)
2)
Capital budgeting is the method we use to justify the acquisition of those items that have a useful
life of less than one year.
2)
3)
Capital budgeting investments are based on the assumption that rates of return on investments as
well as current inflation rates will remain the same during the useful life of the investment.
3)
4)
Capital budgeting investments are based on the assumption that rates of return on investments as
well as current inflation rates will vary during the useful life of the investment.
4)
5)
Capital budgeting investments are based on the assumption that rates of return on investments will
vary, but current inflation rates will remain the same during the useful life of the investment.
5)
6)
If the present value of the benefits received outweighs the present value of the costs incurred, then
a company should make the decision to invest in the project.
6)
7)
If the present value of the benefits received is less than the present value of the costs incurred, then
a company should make the decision to invest in the project.
7)
8)
Future moneys or benefits should be measured in before–tax dollars.
8)
9)
Future moneys or benefits should be measured in after–tax dollars.
9)
10)
The first step involved in the capital budgeting decision is formulating the proposal.
10)
11)
The last step involved in capital budgeting is taking corrective action.
11)
12)
Start–up costs are all the dollars spent to get the project under way.
12)
13)
Working capital consists of the cost of cash only.
13)
14)
Working capital consists of cash, marketable securities, accounts receivable, and inventory.
14)
15)
A benefit resulting from reducing taxable income is equal to the amount of taxes paid.
15)
16)
A benefit resulting from reducing taxable income is equal to the amount of taxes saved.
16)
17)
Payback does not consider the time value of money.
17)
18)
Payback normally considers the time value of money.
18)
19)
When making a capital budgeting decision, we must arrive at a forecast of future interest rates.
19)
20)
The cost of capital to the borrower consists of the opportunity cost on the amount of equity invested
in the business.
20)
21)
The cost of capital to the lender consists of the opportunity cost on the amount of equity invested in
the business.
21)
22)
The weighted average cost of capital is the interest rate that is used in calculating the net present
value for capital budgeting.
22)
23)
The profitability index is the ratio of the present value of the cost to the present value of the
benefits.
23)
24)
The profitability index is the ratio of the present value of the benefits to the present value of the
costs.
24)
25)
The IRR is the actual rate of return on an investment.
25)
26)
The accounting rate of return uses cash flow.
26)
27)
A mutually exclusive investment is one where one investment is chosen and the others are
ultimately sacrificed or excluded.
27)
28)
Capital rationing is a constraint placed on the amount of funds that can be invested in a given time
period.
28)
29)
Capital rationing is a constraint placed on the number of investments that can be made in a given
time period.
29)
30)
A mutually exclusive investment is one where several investments are chosen and one is ultimately
sacrificed or excluded.
30)
31)
Capital Budgeting decisions pertain to domestic decisions only.
31)
32)
Setting up a communication center in India requires a capital budgeting decision.
32)
33)
Job shifts occurred in the early twenty–first century because of the decreased price of
communication and transportation.
33)
34)
The IRR is the rate that allows the present value of the benefits to exactly equal the present value of
the costs.
34)
35)
We can compute the IRR by using a calculator and the input of two variables.
35)
36)
If you do not have a business or programmable calculator you can still find the IRR through the
process of interpolation.
36)
37)
The net present value is zero at the IRR.
37)
38)
If the NPV is positive when using a specific interest rate, the IRR will be greater than that interest
rate used.
38)
39)
The accounting rate of return is always the rate to use when finding the profitability of a project.
39)
MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question.
40)
The acquisition of all the following assets are considered in capital budgeting EXCEPT
40)
A)
purchase of office equipment.
B)
purchase of inventory.
C)
purchase of trucks.
D)
bringing a new product to market.
41)
Which of the following assets is considered in capital budgeting?
41)
A)
purchase of stocks
B)
purchase of inventory
C)
purchase of trucks
D)
purchase of bonds
42)
Capital budgeting investments are feasible if after capital budgeting analysis the
42)
A)
present value of the benefits > the present value of the costs.
B)
present value of the costs > the present value of the benefits.
C)
present value of the costs < the present value of the benefits.
D)
Both A and C above.
E)
Both A and B above.
43)
In capital budgeting, the future moneys or benefits should be measured in
43)
A)
the sum of after–tax cash flows and accounting income.
B)
after–tax cash flows.
C)
before–tax cash flows.
D)
the cash balance in our checking account before taxes.
44)
Which of the following government actions would require a capital budgeting decision?
44)
A)
an increase in factoring requirements imposed by our bank
B)
an increase in collection service fees imposed by our collection agency
C)
an increase in sales taxes on all items sold after the first of next year
D)
an increase in the number of wheelchair ramps available for customers entering our business
45)
Which of the following is NOT a step in the capital budgeting decision?
45)
A)
corrective action
B)
making a decision to minimize the greatest future benefit
C)
post audit
D)
evaluating the data
E)
formulating a proposal
46)
Start–up costs include all of the following EXCEPT
46)
A)
training costs of employees.
B)
investment costs in accounts receivable.
C)
service agreement costs.
D)
changes in inventory storage space.
47)
Which of the following is a start–up cost?
47)
A)
utility costs
B)
recruiting employees
C)
sales taxes
D)
tax factor costs
48)
Which of the following costs must be considered in evaluating a capital budgeting decision?
48)
A)
tax factor costs
B)
working capital commitment costs
C)
start–up costs
D)
all of the above
49)
The local printing company purchases a new copy machine that reduces the cost of making a color
copy by ten cents a copy. It normally makes 50,000 color copies a year and is in the 28 percent
income tax bracket. The total benefits that this company will expect to realize is
49)
A)
$1,400.
B)
$6,400.
C)
$5,000.
D)
$3,600.
50)
The local printing company purchases a new copy machine that reduces the cost of making a color
copy by ten cents a copy. It normally makes 50,000 color copies a year and is in the 28 percent
income tax bracket. The annual taxes on this purchase will be
50)
A)
$3,600.
B)
$5,000.
C)
$6,400.
D)
$1,400.
51)
The local printing company purchases a new copy machine that reduces the cost of making a color
copy by ten cents a copy. It normally makes 50,000 color copies a year and is in the 28 percent
income tax bracket. The tax consequence of this investment will be
51)
A)
no difference in income tax paid.
B)
an increase in income tax paid.
C)
a decrease in income tax paid.
D)
cannot tell with the information provided.
52)
You own a restaurant and just negotiated a decrease in the cost of steaks by 25 cents a steak. You
normally sell 300,000 steak dinners a year. Your business pays an average of 30 percent in income
taxes. What is the annual benefit of this increased efficiency?
52)
A)
$52,500
B)
$210,000
C)
$22,500
D)
$75,000
53)
You own a restaurant and just negotiated a decrease in the cost of steaks by 25 cents a steak. You
normally sell 300,000 steak dinners a year. Your business pays an average of 30 percent in income
taxes. What is the annual tax cost of this increased efficiency?
53)
A)
$52,500
B)
$75,000
C)
$210,000
D)
$22,500
54)
The local printing company purchases a new copy machine for $150,000 that reduces the cost of
making a color copy by ten cents a copy. The copy machine can be depreciated straight line for
seven years and the company is in the 28 percent income tax bracket. The owner believes the
machine can be sold for $10,000 at the end of seven years. Approximately how much will this
company save on an annual basis in income taxes?
54)
A)
$5,600
B)
$42,000
C)
$39,200
D)
$2,800
55)
The local printing company purchases a new copy machine for $150,000 that reduces the cost of
making a color copy by ten cents a copy. The copy machine can be depreciated straight line for
seven years and the company is in the 28 percent income tax bracket. The owner believes the
machine can be sold for $10,000 at the end of seven years. What is this company’s total tax savings
due to depreciation?
55)
A)
$2,800
B)
$39,200
C)
$42,000
D)
$5,600
56)
George William buys a machine for his business. The machine costs $150,000. George estimates that
the machine can produce $40,000 cash inflow per year for the next five years. George’s cost of
capital is 10 percent. What is the approximate present value of the future cash flow for George?
56)
A)
$166,796
B)
$174,212
C)
$191,632
D)
$151,632
57)
George William buys a machine for his business. The machine costs $150,000. George estimates that
the machine can produce $40,000 cash inflow per year for the next five years. George’s cost of
capital is 10 percent. What is the approximate net present value?
57)
A)
$31,632
B)
$16,796
C)
$1,632
D)
$24,212
58)
George William buys a machine for his business. The machine costs $150,000. George estimates that
the machine can produce $40,000 cash inflow per year for the next five years. George’s cost of
capital is 10 percent. What is the approximate profitability index for this investment?
58)
A)
1.11
B)
1.01
C)
0.91
D)
1.16
59)
George William buys a machine for his business. The machine costs $150,000. George estimates that
the machine can produce $40,000 cash inflow per year for the next five years. George’s cost of
capital is 10 percent. What is the approximate internal rate of return?
59)
A)
8.95%
B)
9.43%
C)
11.59%
D)
10.43%
60)
Anna Taylor buys a machine for her business. The machine costs $150,000. Anna estimates that the
machine can produce $40,000 cash inflow per year for the next five years. Her cost of capital is 12
percent. What is the approximate present value of the future cash flow for Anna?
60)
A)
$164,456
B)
$144,192
C)
$184,192
D)
$161,492
61)
Anna Taylor buys a machine for her business. The machine costs $150,000. Anna estimates that the
machine can produce $40,000 cash inflow per year for the next five years. Her cost of capital is 12
percent. What is the approximate net present value?
61)
A)
$(5,808)
B)
$34,192
C)
$14,456
D)
$11,492
62)
Anna Taylor buys a machine for her business. The machine costs $150,000. Anna estimates that the
machine can produce $40,000 cash inflow per year for the next five years. Her cost of capital is 12
percent. Based upon the net present value of this investment, Anna should
62)
A)
invest in the machine if she can get a higher cost of capital.
B)
not invest in the machine.
C)
invest in the machine.
D)
Cannot tell without additional information.
63)
Anna Taylor buys a machine for her business. The machine costs $150,000. Anna estimates that the
machine can produce $40,000 cash inflow per year for the next five years. Her cost of capital is 12
percent. What is the approximate profitability index of this investment?
63)
A)
1.08
B)
0.96
C)
1.10
D)
1.22
64)
George William buys a machine for his business. The machine costs $150,000. George estimates that
the machine can produce $40,000 cash inflow per year for the next five years. George’s cost of
capital is 12 percent. What is the approximate internal rate of return?
64)
A)
11.59%
B)
10.43%
C)
9.43%
D)
8.95%
65)
George William buys a machine for his business. The machine costs $150,000. George estimates that
the machine can produce $40,000 cash inflow per year for the next five years. George’s cost of
capital is 10 percent. What is the accounting rate of return?
65)
A)
133%
B)
75%
C)
26.67%
D)
375%
66)
George William buys a machine for his business. The machine costs $150,000. George estimates that
the machine can produce $40,000 cash inflow per year for the next five years. George’s cost of
capital is 10 percent. What is the payback for this investment?
66)
A)
5 years
B)
1.25 years
C)
3.75 years
D)
9.43 years
67)
Cheryl Peck purchased a computer network for her classroom. The computer network cost
$100,000. She estimates that she can charge $500 for one session in the classroom. Cheryl knows
that enrollment will increase over time. She estimates 50 students the first year, 75 students the
second year, 100 students the third year, and 150 students the fourth year. If her cost of capital is 12
percent, what is the approximate present value of the benefits?
67)
A)
$119,156
B)
$187,500
C)
$135,471
D)
Cannot tell without more information.
68)
Cheryl Peck purchased a computer network for her classroom. The computer network cost
$100,000. She estimates that she can charge $500 for one session in the classroom. Cheryl knows
that enrollment will increase over time. She estimates 50 students the first year, 75 students the
second year, 100 students the third year, and 150 students the fourth year. If her cost of capital is 12
percent, what is the approximate profitability index?
68)
A)
1.19
B)
1.88
C)
1.35
D)
1.05
69)
Cheryl Peck purchased a computer network for her classroom. The computer network cost
$100,000. She estimates that she can charge $500 for one session in the classroom. Cheryl knows
that enrollment will increase over time. She estimates 50 students the first year, 75 students the
second year, 100 students the third year, and 150 students the fourth year. If her cost of capital is 12
percent, what is the approximate net present value of her investment?
69)
A)
$35,471
B)
$19,156
C)
$87,500
D)
Cannot tell without more information.
70)
Cheryl Peck purchased a computer network for her classroom. The computer network cost
$100,000. She estimates that she can charge $500 for one session in the classroom. Cheryl knows
that enrollment will increase over time. She estimates 50 students the first year, 75 students the
second year, 100 students the third year, and 150 students the fourth year. If her cost of capital is 12
percent, what is her accounting rate of return?
70)
A)
33.87%
B)
78.33%
C)
64.87%
D)
46.88%
71)
Cheryl Peck purchased a computer network for her classroom. The computer network cost
$100,000. She estimates that she can charge $500 for one session in the classroom. Cheryl knows
that enrollment will increase over time. She estimates 50 students the first year, 75 students the
second year, 100 students the third year, and 150 students the fourth year. If her cost of capital is 12
percent, what is the approximate payback period for this investment?
71)
A)
1.87 years
B)
2.75 years
C)
4.00 years
D)
1.19 years
72)
Cheryl Peck purchased a computer network for her classroom. The computer network cost
$100,000. She estimates that she can charge $500 for one session in the classroom. Cheryl knows
that enrollment will increase over time. She estimates 50 students the first year, 75 students the
second year, 100 students the third year, and 150 students the fourth year. If her cost of capital is 16
percent, what is the approximate present value of the benefits?
72)
A)
$122,881
B)
$135,471
C)
$187,500
D)
$119,156
73)
Cheryl Peck purchased a computer network for her classroom. The computer network cost
$100,000. She estimates that she can charge $500 for one session in the classroom. Cheryl knows
that enrollment will increase over time. She estimates 50 students the first year, 75 students the
second year, 100 students the third year, and 150 students the fourth year. If her cost of capital is 16
percent, what is the approximate net present value?
73)
A)
$19,156
B)
$22,881
C)
$35,471
D)
$87,500
74)
Cheryl Peck purchased a computer network for her classroom. The computer network cost
$100,000. She estimates that she can charge $500 for one session in the classroom. Cheryl knows
that enrollment will increase over time. She estimates 50 students the first year, 75 students the
second year, 100 students the third year, and 150 students the fourth year. If her cost of capital is 16
percent, what is the approximate profitability index?
74)
A)
1.88
B)
1.08
C)
1.23
D)
1.19
75)
Sam Jones has an engineering firm. He wants to build a new headquarters building. The building
will cost $1,500,000. He will put down $450,000 and have a bank finance the remainder at prime
plus 2 percent. The prime lending rate is currently 8.5 percent. Sam will withdraw the money for
the down payment from his mutual fund account where he has earned 13 percent for the last ten
years. What is Sam’s weighted average cost of capital?
75)
A)
11.25%
B)
13.00%
C)
10.5%
D)
8.5%
76)
Sam Jones has an engineering firm. He wants to build a new headquarters building. The building
will cost $1,500,000. He will put down $450,000 and have a bank finance the remainder at prime
plus 2 percent. The prime lending rate is currently 8.5 percent. Sam will withdraw the money for
the down payment from his mutual fund account where he has earned 13 percent for the last ten
years. What percentage of the building is being equity financed?
76)
A)
10.5%
B)
70%
C)
13%
D)
30%
77)
Sam Jones has an engineering firm. He wants to build a new headquarters building. The building
will cost $1,500,000. He will put down $450,000 and have a bank finance the remainder at prime
plus 2 percent. The prime lending rate is currently 8.5 percent. Sam will withdraw the money for
the down payment from his mutual fund account where he has earned 13 percent for the last ten
years. What percentage of the building is being financed by the bank?
77)
A)
30%
B)
10.5%
C)
13%
D)
70%
78)
Sam Jones has an engineering firm. He wants to build a new headquarters building. The building
will cost $1,500,000. He will put down $1,050,000 and have a bank finance the remainder at prime
plus 2 percent. The prime lending rate is currently 8.5 percent. Sam will withdraw the money for
the down payment from his mutual fund account where he has earned 13 percent for the last ten
years. What is Sam’s weighted average cost of capital?
78)
A)
10.5%
B)
11.25%
C)
8.5%
D)
12.25%
79)
Sam Jones has an engineering firm. He wants to build a new headquarters building. The building
will cost $1,500,000. He will finance the entire building himself, even though bank financing is at
prime plus 2 percent. The prime lending rate is currently 8.5 percent. Sam will withdraw the
money for the building from his mutual fund account where he has earned 13 percent for the last
ten years. What is Sam‘s weighted average cost of capital?
79)
A)
10.5%
B)
13.00%
C)
11.25%
D)
8.5%
Table 10–1. Capital Budgeting Choices
Business
Location
Capital
Investment
Cost in $
Cumulative
Investment
Costs
Net
Present
Value
125,000 25,000 27,500
228,500 53,500 35,000
332,500 86,000 35,000
432,500 118,500 38,000
545,000 163,500 (15,000)
654,000 217,500 (10,000)
763,250 280,750 92,000
873,000 353,750 100,000
80)
Refer to Table 10–1. Glen Write owns an engineering firm. He asked his employees for suggestions
regarding equipment they thought the firm would need during the next year. They suggested the
purchase of eight pieces of equipment. Glen calculated the net present value of each
recommendation. Glen estimates that he will have no more than $150,000 to invest next year. Based
on NPV, which of the following items should he purchase?
80)
A)
2, 3, & 7
B)
1, 2, 3, & 4
C)
1, 2, & 8
D)
7 & 8
81)
Refer to Table 10–1. Glen Write owns an engineering firm. He asked his employees for suggestions
regarding equipment they thought the firm would need during the next year. They suggested the
purchase of eight pieces of equipment. Glen calculated the net present value of each
recommendation. Glen estimates that he will have no more than $300,000 to invest next year. Based
on NPV, which of the following items should he purchase?
81)
A)
1, 2, 3, 4, 5, 6, & 8
B)
1, 2, 3, 4, 7, & 8
C)
1, 2, 3, 4, 5, 7, & 8
D)
1, 2, 4, 5, 6, & 7
82)
Refer to Table 10–1. Glen Write owns an engineering firm. He asked his employees for suggestions
regarding equipment they thought the firm would need during the next year. They suggested the
purchase of eight pieces of equipment. Glen calculated the net present value of each
recommendation. Glen estimates that he will have no more than $150,000 to invest next year. Based
on the projects chosen, how much will he actually invest?
82)
A)
$290,500
B)
$136,250
C)
$299,750
D)
$145,000
83)
Refer to Table 10–1. Glen Write owns an engineering firm. He asked his employees for suggestions
regarding equipment they thought the firm would need during the next year. They suggested the
purchase of eight pieces of equipment. Glen calculated the net present value of each
recommendation. Glenn has a policy of purchasing only one item per year. Based on NPV, which
should he purchase?
83)
A)
8
B)
6
C)
1
D)
5
84)
Refer to Table 10–1. Glen Write owns an engineering firm. He asked his employees for suggestions
regarding equipment they thought the firm would need during the next year. They suggested the
purchase of eight pieces of equipment. Glen calculated the net present value of each
recommendation. Glenn has a policy of purchasing only one item per year. Which alternative to
capital budgeting is Glen using?
84)
A)
positive NPV
B)
capital rationing
C)
mutually exclusive
D)
non–mutually exclusive
85)
Refer to Table 10–1. Glen Write owns an engineering firm. He asked his employees for suggestions
regarding equipment they thought the firm would need during the next year. They suggested the
purchase of eight pieces of equipment. Glen calculated the net present value of each
recommendation. Glen estimates that he will have no more than $400,000 to invest next year. Based
on NPV, which of the following items should he purchase?
85)
A)
1, 2, 3, 4, 5, 7, & 8
B)
1, 2, 4, 5, 6, & 7
C)
1, 2, 3, 4, 5, 6, & 8
D)
1, 2, 3, 4, 7, & 8
86)
Which of the following is NOT part of the three–step process of controlling?
86)
A)
Take corrective action if required.
B)
Establish standards for measuring the project.
C)
Measure actual performance against the standards established.
D)
Take corrective action in every case.
Table 10–2.
Item Freezer A Freezer B
Freezer Cost ($25,000) ($30,000)
Annual Electric (3,600) (4,000)
Salvage Value 6,000 5,000
Life in Years 11 11
Cost of Capital 6.00% 6.00%
87)
A restaurant is trying to determine the lowest total cost for purchasing a replacement freezer. The
cost of capital is 6 percent and the freezer should last for 11 years. Using Table 10–2, what is the
total cost for Freezer A?
87)
A)
$58,913.56
B)
$28,600.00
C)
$50,232.02
D)
$47,539.67
88)
A restaurant is trying to determine the lowest total cost for purchasing a replacement freezer. The
cost of capital is 6 percent and the freezer should last for 11 years. Using Table 10–2, what is the
total cost for Freezer B?
88)
A)
$58,913.56
B)
$47,539.67
C)
$50,232.02
D)
$28,600.00
89)
A restaurant is trying to determine the lowest total cost for purchasing a replacement freezer. The
cost of capital is 6 percent and the freezer should last for 11 years. Using Table 10–2, which freezer
should the restaurant purchase?
89)
A)
Freezer A
B)
Freezer B
C)
Both Freezers
D)
Cannot tell without more information.
90)
Which of the following requires a capital budgeting decision?
90)
A)
buying legal pads for office use
B)
buying a pen for office use
C)
setting up a call center in India
D)
none of the above
91)
The IRR can be used for investments
91)
A)
that produce unequal cash flows.
B)
that produce equal cash flows.
C)
that produce a lump sum future value.
D)
All of the above.
92)
If Joe Doe invests $40,000 in franchise and is able to generate $20,000 a year in benefits for 8 years,
the following holds true:
92)
A)
The 20,000 received in year 2 is worth more than the 20,000 received in year 5.
B)
The 20,000 received in year 1 is worth less than the 20,000 received in year 3.
C)
The 20,000 received in year 8 is worth more than the 20,000 received in year 4.
D)
None of the above.