CHAPTER 19: CAPITAL INVESTMENT
1. Capital investment decisions are concerned with planning, setting goals, arranging financing, and the selection of
long-term assets.
a. True
b. False
2. Independent projects directly affect the cash flows of other projects once accepted or rejected.
a. True
b. False
3. Nondiscounting models for making capital investments explicitly consider the time value of money.
a. True
b. False
4. Mutually exclusive projects are those which preclude the acceptance of all other competing projects.
a. True
b. False
5. Discounting models for making capital decisions ignore the time value of money.
a. True
b. False
6. The payback period is the time required for a company to recover its initial investment.
a. True
b. False
7. The accounting rate of return considers the profitability of a project as well as the time value of money.
a. True
b. False
Chapter 19: Capital Investment
8. Discounted cash flows are used by discounting models which are future cash flows expressed in terms of their
present value.
a. True
b. False
9. Net present value (NPV) is the difference between the present value of cash inflows and outflows associated
with a project.
a. True
b. False
10. In an independent project, the required rate of return is used to calculate the future value of future cash flows.
a. True
b. False
11. If the net present value is greater than zero, the investment is profitable and acceptable.
a. True
b. False
12. The internal rate of return (IRR) is the interest rate that sets the present value of cash inflows of a project equal to
the present value of a project’s cost.
a. True
b. False
13. If the internal rate of return (IRR) is less than the cost of capital, then the investment is acceptable.
a. True
b. False
14. The internal rate of return (IRR) is the most widely used capital investment technique because it’s an easily
understood concept.
a. True
b. False
Chapter 19: Capital Investment
15. NPV reveals the wealth-maximization of a project more consistently than IRR.
a. True
b. False
16. NPV is preferred to IRR because it assumes that each cash inflow is not reinvested at the required rate of return.
a. True
b. False
17. When conflicting signals are received from using NPV and IRR, NPV always produces the correct signal to
invest.
a. True
b. False
18. Computation of cash flows is the most critical step in the capital investment process.
a. True
b. False
19. the two ways to compute after-tax cash flows are the income method and the composition method.
a. True
b. False
20. In today’s markets, long–term investments in technology and pollution prevention can provide significant competitive
advantages.
a. True
b. False
21. Capital investment decisions are concerned with planning, setting goals, arranging financing, and the selection of
__________ assets.
22. Mutually exclusive projects do not affect the of other projects.
Chapter 19: Capital Investment
23. The rate of return uses income instead of cash flows.
24. The time required by a firm to recover its original investment is called the period.
25. The difference between the present value of future cash flows and the initial investment outlay is called the
__________ value.
26. The required is used to calculate the present value of future cash flows.
27. The rate of return sets the present value of cash inflows equal to the present value of a project’s
cost.
28. NVP measures the in a firm’s wealth caused by a project.
29. Accelerated methods of are preferred because of the tax benefits created.
30. Investment outlays may be affected by substantial resources required by items.
31. Decisions concerned with the process of planning, setting goals and priorities, arranging financing, and using
certain criteria to select long-term assets are called:
a. Limited resources
b. Capital investment
c. Sell now or process further
d. Make–or–buy
32. Projects that if accepted or rejected do NOT affect the cash flows of projects are called:
a. Dependent projects
b. Mutually exclusive projects
c. Independent projects
d. Both b and c
Chapter 19: Capital Investment
33. Projects that, if accepted preclude the acceptance of all other competing projects are called:
a. Mutually exclusive projects
b. Independent projects
c. Dependent projects
d. Both b and c
34. Which of the following is an example of an independent project?
a. A manufacturing plant considering a major overhaul of an existing machine or replacing the existing
machine with a new model.
b. A hospital considering the purchase of a new MRI machine and a new cardiac monitoring system.
c. A bank deciding between keeping a manual check sorting process or an automated sort process.
d. A retailer deciding between an inventory management system offered by two different vendors.
35. Which of the following is NOT an example of information the payback period can provide to management?
a. Minimize the impact of an investment on a firm’s liquidity performance.
b. Help control the risks associated with the uncertainty of future cash flows.
c. Help control the risk of obsolescence.
d. Helps determine the project’s total profitability.
36. When comparing the payback method and the accounting rate of return methods, which of the following is true?
Profitability
Time Value of Money
I
Ignored by both methods
Ignored by both methods
II
Ignored by both methods
Used in accounting rate of return, ignored by payback
method
III
Considered by accounting method, not
by payback
Ignored by both methods
IV
Considered by accounting method, not
by payback
Considered by both methods
a. IV
b. III
c. II
d. I
Chapter 19: Capital Investment
37. The accounting rate of return on original investment is calculated as
a. original investment/net income.
b. net income/debt.
c. average income/original investment.
d. assets/debt.
38. RentitAll Management Services is considering an investment of $60,000. Data related to the investment are as
follows:
Year
1
2
3
4
5
Cost of capital is 18 percent.
What is the payback period in years approximated to two decimal points, assuming no taxes are paid?
a. 3.00
b. 2.53
c. 2.00
d. 2.22
Chapter 19: Capital Investment
39. Langueville Manufacturing Company is considering the following investment proposal:
Original investment
Operations (per year for four years):
$13,500
Cash receipts
$10,000
Cash expenditures
5,500
Salvage value of equipment after four years
$1,000
Discount rate
10%
The firm uses the straight–line method of depreciation with no mid–year convention.
What is the payback period in years approximated to two decimal points, assuming no taxes are paid?
a. 1.75
b. 1.50
c. 3.0
d. 3.5
40. Azimuth Company was considering the purchase of equipment. Details on the equipment are as follows:
Year
Original Investment
Cash Flow
0
$200,000
1
$40,000
2
40,000
3
60,000
4
40,000
5
60,000
6
30,000
What is the payback period in years, assuming no taxes are paid?
a. 4.33
b. 4.00
c. 5.00
d. 3.85
Chapter 19: Capital Investment
41. Beduin Services is considering an investment of $25,000. Data related to the investment are as follows:
Year
Cash Flow
1
$10,000
2
11,000
3
8,000
4
15,000
5
15,000
Cost of capital is 14 percent.
What is the payback period in years approximated to two decimal points, assuming no taxes are paid?
a. 2.12
b. 4.00
c. 3.00
d. 2.50
42. Alberto Company is considering the purchase of a new machine for $110,000. The machine generates annual
revenues of $68,750 and annual expenses of $41,250, which includes $8,250 of depreciation. What is the payback
period in years on the machine approximated to one decimal point?
a. 1.6
b. 1.7
c. 3.1
d. 4.0
Chapter 19: Capital Investment
43. Evaristo Corporation is considering an investment in equipment for $45,000. Data related to the investment are as
follows:
Cash Flow before
Year Depreciation and Taxes
1 $30,000
2 30,000
3 30,000
4 30,000
5 30,000
Cost of capital is 18 percent.
Evaristo uses the straight–line method of depreciation with no mid-year convention. In addition, its tax rate is 40
percent, and the life of the equipment is five years with no salvage value.
What is the payback period in years approximated to two decimal points?
a. 1.00
b. 0.67
c. 1.50
d. 2.08
44. Milagros Company is considering an investment in equipment for $60,000. Milagros uses the straight-line method of
depreciation with no mid-year convention. In addition, its tax rate is 40 percent and the life of the equipment is five
years with no salvage value. The expected income before depreciation and taxes is projected to be $30,000 per
year.
What is the payback period in years approximated to two decimal points?
a. 4.00
b. 2.63
c. 2.00
d. 1.00
Chapter 19: Capital Investment
45. Anselmo Corp. is considering the purchase of a new machine for $76,000. The machine would generate an annual
cash flow of $23,214 for five years. At the end of five years, the machine would have no salvage value. The
company‘s cost of capital is 12 percent. The company uses straight–line depreciation with no mid-year convention.
What is the payback period in years for the machine approximated to two decimal points, assuming no taxes are
paid?
a. 3.00
b. 3.27
c. 9.48
d. 4.00
46. Joyous Corporation is considering an investment in equipment for $25,000. Data related to the investment are as
follows:
Cash Flow before
Year Depreciation and Taxes
1 $12,500
2 12,500
3 12,500
4 12,500
Joyous uses the straight–line method of depreciation with no mid-year convention. In addition, its tax rate is 40
percent and the life of the equipment is four years with no salvage value. Cost of capital is 12 percent.
What is the payback period in years approximated to two decimal points?
a. 2.00
b. 2.50
c. 3.33
d. 0.40
Chapter 19: Capital Investment
47. Gunslinger Company is considering the purchase of pipe cutting equipment. Data on the equipment are as follows:
Original investment
$35,000
Net annual cash inflow
$8,000
Expected economic life in years
5
Salvage value at the end of five years
$3,500
The company uses the straight–line method of depreciation with no mid–year convention.
What is the accounting rate of return on original investment rounded to the nearest percent, assuming no taxes are
paid?
a. 22.86%
b. 2.86%
c. 18%
d. 4.86%
48. Melancholy Company is considering the purchase of production equipment that costs $800,000. The equipment is
expected to generate an annual cash flow of $250,000 and have a useful life of five years with no salvage value.
The firm’s cost of capital is 12 percent. The company uses the straight-line method of depreciation with no mid-
year convention. There are no income taxes.
The payback period in years for the project is
a. 3.20 years.
b. 3.25 years.
c. 2.90 years.
d. 4.20 years.
49. Davidson, Inc., is considering the purchase of production equipment that costs $300,000. The equipment is expected
to generate an annual cash flow of $100,000 and have a useful life of five years with no salvage value. The firm’s
cost of capital is 14 percent. The company uses the straight-line method of depreciation with no mid–year
convention. Ignore income taxes.
Payback for the project is
a. 3.00 years.
b. 3.50 years.
c. 5.00 years.
d. 2.38 years.
Chapter 19: Capital Investment
50. A project requires an investment of $40,000 in equipment. Annual cash flows of $8,000 are expected to occur for
the next eight years. No salvage value is expected. The company uses the straight-line method of depreciation
with no mid-year convention. Ignore income taxes.
The accounting rate of return on the original investment for the project is
a. 6.25%.
b. 7.50%.
c. 16.00%.
d. 20.00%.
51. Spaniel Company is considering the purchase of a new machine for $80,000. The machine would generate an
annual cash flow before depreciation and taxes of $28,778 for five years. At the end of five years, the
machine would have no salvage value. The company’s cost of capital is 12 percent. The company uses
straight-line depreciation with no mid-year convention and has a 40 percent tax rate.
What is the accounting rate of return on the original investment in the machine approximated to two decimal
points?
a. 9.58%
b. 19.17%
c. 15.97%
d. 35.97%
52. Hollister Company is considering the purchase of a new machine for $60,000. The machine would generate an
annual cash flow before depreciation and taxes of $25,647 for four years. At the end of four years, the
machine would have no salvage value. The company’s cost of capital is 12 percent. The company uses straight-
line depreciation with no mid-year convention and has a 40 percent tax rate.
What is the accounting rate of return on the original investment in the machine approximated to two decimal
points?
a. 17.75%
b. 12%
c. 10.65%
d. 25.65%
Chapter 19: Capital Investment
53. Which of the following methods uses income instead of cash flows?
a. payback
b. accounting rate of return
c. internal rate of return
d. net present value
54. Los Gatos Shop is considering the purchase of a used wide-format printer costing $9,600. The wide-format printer
would generate a net cash inflow of $4,000 per year for three years. At the end of three years, the printer would
have no salvage value. The company’s cost of capital is 10 percent. The company uses straight-line depreciation
with no mid-year convention.
What is the accounting rate of return on the original investment in the press to the nearest percent, assuming no
taxes are paid?
a. 8.33%
b. 41.67%
c. 75.00%
d. 10.00%
55. A firm is evaluating a project that has a net present value of $0 when a discount rate of 8 percent is used. A
discount rate of 6 percent will result in a
a. negative net present value.
b. positive net present value.
c. net present value of $0.
d. the question cannot be answered based upon the information provided.
56. If the net present value is positive, it could signal
a. a return in excess of the initial investment or required rate of return has been received.
b. the required rate of return has not been achieved.
c. the initial investment has not been recovered.
d. a decrease in wealth for the firm.
Chapter 19: Capital Investment
57. A firm is evaluating a project that has a net present value of $0 when a discount rate of 9 percent is used. A
discount rate of 7 percent will result in a
a. negative net present value.
b. positive net present value.
c. net present value of $0.
d. the question cannot be answered based upon the information provided.
58. Sansariff Company invests in a new piece of equipment costing $40,000. The equipment is expected to yield the
following amounts per year for the equipment‘s four–year useful life:
Cash revenues
$ 60,000
Cash expenses
(32,000)
Depreciation expenses (straight-line)
(10,000)
Income provided from equipment
Cost of capital
14%
What is the net present value of this investment in equipment, assuming no taxes are paid?
a. $(4,480)
b. $52,452
c. $41,592
d. $81,592
59. Avionics Corp. is considering the purchase of a new machine for $76,000. The machine would generate an annual
cash flow of $23,214 per year for five years. At the end of five years, the machine would have no salvage value.
The company‘s cost of capital is 12 percent. The company uses straight–line depreciation with no mid-year
convention.
What is the net present value for the machine, assuming no taxes are paid?
a. $–0–
b. $7,686
c. $76,000
d. $(185,500)
Chapter 19: Capital Investment
60. Edmundo Services is considering an investment of $25,000. Data related to the investment are as follows:
Year
Cash Flow
1
$10,000
2
11,000
3
8,000
4
15,000
5
15,000
Cost of capital is 14 percent.
What is the net present value of the investment, assuming no taxes are paid?
a. $14,825
b. $14,294
c. $25,000
d. $39,294
61. Los Gatos Shop is considering the purchase of a used wide-format printer costing $9,600. The wide-format printer
would generate a net cash inflow of $4,000 per year for three years. At the end of three years, the printer would
have no salvage value. The company’s cost of capital is 10 percent. The company uses straight-line depreciation
with no mid-year convention.
What is the net present value for the press, assuming no taxes are paid?
a. $2,400
b. $9,948
c. $348
d. $9,600
Chapter 19: Capital Investment
62. Somozas Manufacturing Company is considering the following investment proposal:
Original investment
Operations (per year for four years):
$12,500
Cash receipts
$10,000
Cash expenditures
5,500
Salvage value of equipment after four years
$1,000
Discount rate
12%
The firm uses the straight–line method of depreciation with no mid–year convention.
What is the net present value for the investment, assuming no taxes are paid?
a. $500
b. $1,500
c. $12,500
d. $1,802.50
63. The present value of $10,000 to be received ten years from now and earning a 12 percent return (rounded) is
a. $2,200.
b. $2,484.
c. $3,160.
d. $3,220.
Chapter 19: Capital Investment
64. Canyon Company is considering an investment of $45,000. Data related to the investment are as follows:
Year
Cash Flow
1
$15,000
2
18,000
3
22,500
4
30,000
5
15,000
Cost of capital is 18 percent.
What is the net present value of the investment, assuming no taxes are paid?
a. $10,500
b. $55,500
c. $61,366
d. $16,367
65. Laramie Corporation is considering an investment in equipment for $20,000. Laramie uses the straight–line method
of depreciation with no mid–year convention. In addition, its tax rate is 40 percent, and the life of the equipment is
five years with no salvage value. The expected income before depreciation and taxes is projected to be $10,000 per
year. The cost of capital is 20 percent.
What is the net present value of the investment?
a. $(1,366)
b. $2,732
c. $22,991
d. $22,000
Chapter 19: Capital Investment
66. MakeitRite Company is considering the purchase of a new machine for $80,000. The machine would generate an
annual cash flow before depreciation and taxes of $28,778 for five years. At the end of five years, the machine
would have no salvage value. The company‘s cost of capital is 12 percent. The company uses straight-line
depreciation with no mid-year convention and has a 40 percent tax rate.
What is the net present value for the machine?
a. $–0–
b. $5,318
c. $85,318
d. $23,744
67. The present value of $10,000 to be received each year for ten years and earning a 14 percent return (rounded) is
a. $11,600.
b.$26,000.
c.$52,160.
d.$52,436.
Chapter 19: Capital Investment
68. Galveston Corporation is considering an investment in equipment for $45,000. Data related to the investment are
as follows:
Cash Flow before
Year Depreciation and
Taxes 1
$30,000
2 30,000
3 30,000
4 30,000
5 30,000
Cost of capital is 18 percent.
Galveston uses the straight–line method of depreciation with no mid–year convention. In addition, their tax rate is
40 percent, and the life of the equipment is five years with no salvage value.
What is the net present value of the
investment?
a. $67,543
b. $22,543
c. $48,810
d. $11,286
69. The present value of $7,500 to be received each year for five years and earning an 10 percent return (rounded)
is
a. $28,433.
b. $8,250.
c. $14,717.
d. $33,750.
Chapter 19: Capital Investment
70. Jacuzzi Corporation is considering an investment in equipment for $25,000. Data related to the investment are as
follows:
Cash Flow before
Year Depreciation and Taxes
1 $12,500
2 12,500
3 12,500
4 12,500
Jacuzzi uses the straight-line method of depreciation with no mid–year convention. In addition, its tax rate is 40
percent, and the life of the equipment is four years with no salvage value. Cost of capital is 12 percent.
What is the net present value of the investment?
a. $5,370
b. $(2,222)
c. $12,962
d. $30,370
71. Clemente Company is considering the purchase of a new machine for $160,000. The machine would generate an
annual cash flow before depreciation and taxes of $62,588 for four years. At the end of four years, the machine
would have no salvage value. The company‘s cost of capital is 12 percent. The company uses straight-line
depreciation with no mid-year convention and has a 40 percent tax rate.
What is the net present value for the machine?
a. ($45,952)
b. $162,640
c. $30,080
d. $2,640