CHAPTER 25(10): CAPITAL INVESTMENT ANALYSIS
1.
The process by which management plans, evaluates, and controls long-term investment decisions involving
fixed
assets is called capital investment analysis.
a.
True
b.
False
2.
Care must be taken involving capital investment decisions, since normally a long-term commitment of
funds is
involved and operations could be affected for many years.
a.
True
b.
False
3.
Only managers are encouraged to submit capital investment proposals because they know the processes and
are
able to match investments with long-term goals.
a.
True
b.
False
4.
Methods that ignore present value in capital investment analysis include the cash payback method.
a.
True
b.
False
5.
Methods that ignore present value in capital investment analysis include the average rate of return method.
a.
True
b.
False
6.
The cash payback method of capital investment analysis is one of the methods referred to as a present value
method.
a.
True
b.
False
7.
The average rate of return method of capital investment analysis gives consideration to the present value of
future
cash flows.
a.
True
b.
False
8.
The methods of evaluating capital investment proposals can be grouped into two general categories that can
be
referred to as (1) average rate of return and (2) cash payback methods.
a.
True
b.
False
9.
The methods of evaluating capital investment proposals can be grouped into two general categories that can
be
referred to as (1) methods that ignore present value and (2) present values methods.
a.
True
b.
False
10.
Methods that ignore present value in capital investment analysis include the net present value method.
a.
True
b.
False
11.
Methods that ignore present value in capital investment analysis include the internal rate of return method.
a.
True
b.
False
12.
Average rate of return equals average investment divided by estimated average annual income.
a.
True
b.
False
13.
Average rate of return equals estimated average annual income divided by average investment.
a.
True
b.
False
14.
The method of analyzing capital investment proposals in which the estimated average annual income is divided
by
the average investment is the average rate of return method.
a.
True
b.
False
15.
The excess of the cash flowing in from revenues over the cash flowing out for expenses is termed net cash flow.
a.
True
b.
False
16.
The excess of the cash flowing in from revenues over the cash flowing out for expenses is termed net discounted
cash flow.
a.
True
b.
False
17.
The anticipated purchase of a fixed asset for $400,000, with a useful life of 5 years and no residual value,
is
expected to yield total net income of $300,000 for the 5 years. The expected average rate of return is
30%.
a.
True
b.
False
18.
The anticipated purchase of a fixed asset for $400,000, with a useful life of 5 years and no residual value, is
expected to yield total net income of $300,000 for the 5 years. The expected average rate of return is 37.5%.
a.
True
b.
False
19.
The anticipated purchase of a fixed asset for $400,000, with a useful life of 5 years and no residual value, is
expected to yield total net income of $200,000 for the 5 years. The expected average rate of return on investment
is
50%.
a.
True
b.
False
20.
The anticipated purchase of a fixed asset for $400,000, with a useful life of 5 years and no residual value, is
expected to yield total net income of $200,000 for the 5 years. The expected average rate of return on investment
is
25.0%.
a.
True
b.
False
21.
The expected period of time that will elapse between the date of a capital investment and the complete recovery
in
cash of the amount invested is called the discount period.
a.
True
b.
False
22.
The expected period of time that will elapse between the date of a capital investment and the complete recovery
in
cash of the amount invested is called the cash payback period.
a.
True
b.
False
23.
If a proposed expenditure of $70,000 for a fixed asset with a 4-year life has an annual expected net cash flow and
net income of $32,000 and $12,000, respectively, the cash payback period is 2.5 years.
a.
True
b.
False
24.
If a proposed expenditure of $80,000 for a fixed asset with a 4-year life has an annual expected net cash flow and
net income of $32,000 and $12,000, respectively, the cash payback period is 4 years.
a.
True
b.
False
25.
The cash payback method can be used only when net cash inflows are the same for each period.
a.
True
b.
False
26.
For Years 1–5, a proposed expenditure of $250,000 for a fixed asset with a 5-year life has expected net income of
$40,000, $35,000, $25,000, $25,000, and $25,000, respectively, and net cash flows of $90,000, $85,000, $75,000,
$75,000, and $75,000, respectively. The cash payback period is 3 years.
a.
True
b.
False
27.
The average rate of return method of analyzing capital budgeting decisions measures the average rate of
return
from using the asset over its entire life.
a.
True
b.
False
28.
The average rate of return is a measure of profitability computed by dividing the average annual cash inflows
from
an asset by the average amount invested in the asset.
a.
True
b.
False
29.
The time expected to pass before the net cash flows from an investment would return its initial cost is called
the
amortization period.
a.
True
b.
False
30.
A company is considering purchasing a machine for $21,000. The machine will generate income from
operations of $2,000; annual net cash flows from the machine will be $3,500. The payback period for the new
machine is 10.5
years.
a.
True
b.
False
31.
A company is considering purchasing a machine for $21,000. The machine will generate income from operations
of $2,000; annual net cash flows from the machine will be $3,500. The payback period for the new machine is 6
years.
a.
True
b.
False
32.
A company is considering the purchase of a new piece of equipment for $90,000. Predicted annual net cash
inflows from the investment are $36,000 (Year 1), $30,000 (Year 2), $18,000 (Year 3), $12,000 (Year 4), and
$6,000 (Year 5). The average income from operations over the 5-year life is $20,400. The payback period is
3.5
years.
a.
True
b.
False
33.
For Years 1–5, a proposed expenditure of $500,000 for a fixed asset with a 5-year life has expected net income of
$40,000, $35,000, $25,000, $25,000, and $25,000, respectively, and net cash flows of $90,000, $85,000, $75,000,
$75,000, and $75,000, respectively. The cash payback period is 5 years.
a.
True
b.
False
34.
A company is planning to purchase a machine that will cost $24,000, have a 6-year life, and have no salvage value.
The company expects to sell the machine’s output of 3,000 units evenly throughout each year. Total income over the
life of the machine is estimated to be $12,000. The machine will generate net cash flows per year of $6,000. The
average rate of return for the machine is 16.7%.
a.
True
b.
False
35.
A company is planning to purchase a machine that will cost $24,000, have a 6-year life, and have no salvage value.
The company expects to sell the machine’s output of 3,000 units evenly throughout each year. Total income over the
life of the machine is estimated to be $12,000. The machine will generate net cash flows per year of $6,000. The
payback period for the machine is 12 years.
a.
True
b.
False
36.
A company is considering the purchase of a new machine for $48,000. Management expects that the machine can
produce sales of $16,000 each year for the next 10 years. Expenses are expected to include direct materials, direct
labor, and factory overhead totaling $8,000 per year plus depreciation of $4,000 per year. All revenues and
expenses except depreciation are on a cash basis. The payback period for the machine is 12 years.
a.
True
b.
False
37.
A company is planning to purchase a machine that will cost $24,000, have a 6-year life, and have no salvage value.
The company expects to sell the machine’s output of 3,000 units evenly throughout each year. Total income over the
life of the machine is estimated to be $12,000. The machine will generate net cash flows per year of $6,000. The
payback period for the machine is 4 years.
a.
True
b.
False
38.
A company is considering the purchase of a new machine for $48,000. Management expects that the machine can
produce sales of $16,000 each year for the next 10 years. Expenses are expected to include direct materials, direct
labor, and factory overhead totaling $8,000 per year plus depreciation of $4,000 per year. All revenues and
expenses except depreciation are on a cash basis. The payback period for the machine is 6 years.
a.
True
b.
False
39.
A company is planning to purchase a machine that will cost $24,000, have a 6-year life, and have no salvage value.
The company expects to sell the machine’s output of 3,000 units evenly throughout each year. Total income over the
life of the machine is estimated to be $12,000. The machine will generate net cash flows per year of $6,000. The
average rate of return for the machine is 50%.
a.
True
b.
False
40.
The computations involved in the net present value method of analyzing capital investment proposals are
less
involved than those for the average rate of return method.
a.
True
b.
False
41.
The computations involved in the net present value method of analyzing capital investment proposals are
more
involved than those for the average rate of return method.
a.
True
b.
False
42.
In net present value analysis for a proposed capital investment, the expected future net cash flows are averaged
and then reduced to their present values.
a.
True
b.
False
43.
In net present value analysis for a proposed capital investment, the expected future net cash flows are reduced to
their present values.
a.
True
b.
False
44.
If in evaluating a proposal by use of the net present value method there is a deficiency of the present value of
future cash inflows over the amount to be invested, the proposal should be rejected.
a.
True
b.
False
45.
If in evaluating a proposal by use of the net present value method there is a deficiency of the present value of
future cash inflows over the amount to be invested, the proposal should be accepted.
a.
True
b.
False
46.
If in evaluating a proposal by use of the net present value method there is an excess of the present value of
future
cash inflows over the amount to be invested, the rate of return on the proposal exceeds the rate used in the
analysis.
a.
True
b.
False
47.
If in evaluating a proposal by use of the net present value method there is an excess of the present value of
future
cash inflows over the amount to be invested, the rate of return on the proposal is less than the rate used in
the
analysis.
a.
True
b.
False
48.
A present value index can be used to rank competing capital investment proposals when the net present
value
method is used.
a.
True
b.
False
49.
The internal rate of return method of analyzing capital investment proposals uses present value concepts
to
compute a rate of return expected from the proposals.
a.
True
b.
False
50.
Net present value and the payback period are examples of discounted cash flow methods used in capital
budgeting
decisions.
a.
True
b.
False
51.
In calculating the net present value of an investment in equipment, the required investment and its residual
value
should be subtracted from the present value of all future cash inflows.
a.
True
b.
False
52.
In calculating the present value of an investment in equipment, the present value of the residual value should
be
added to the cash inflows.
a.
True
b.
False
53.
A series of equal cash flows at fixed intervals is termed an annuity.
a.
True
b.
False
54.
A qualitative characteristic that may impact upon capital investment analysis is the impact of investment
proposals
on product quality.
a.
True
b.
False
55.
A qualitative characteristic that may impact upon capital investment analysis is manufacturing flexibility.
a.
True
b.
False
56.
A qualitative characteristic that may impact upon capital investment analysis is employee morale.
a.
True
b.
False
57.
A qualitative characteristic that may impact upon capital investment analysis is manufacturing productivity.
a.
True
b.
False
58.
A qualitative characteristic that may impact upon capital investment analysis is market opportunities.
a.
True
b.
False
59.
The process by which management allocates available investment funds among competing capital
investment
proposals is termed present value analysis.
a.
True
b.
False
60.
The process by which management allocates available investment funds among competing capital
investment
proposals is termed capital rationing.
a.
True
b.
False