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2-21. BA-FM 22P(2018)-A (LEC) Financial Analysis and Reporting > Chapter 3: Capital Budgeting > Flashcards

Chapter 3: Capital Budgeting Flashcards

1
Q

3 Financing Coverage

A
  1. Investment Decision
  2. Financing Decision
  3. Dividend Decision
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2
Q

May be defined as decision-making, firms evaluate purchased of major-fixed assets (building, machinery and equipment). To determine required return from a project.

A

Capital Budgeting

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3
Q

Significance of Capital Budgeting

A
  1. Long term effects
  2. Timing the availability of Capital assets
  3. Quality of capital assets
  4. Raising funds
  5. Ability to compete
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4
Q

Some Difficulties in Capital Budgeting

A
  1. Measurement problem
  2. Uncertainty
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5
Q

Project classifications

A
  1. Mandatory investment
  2. Replacement
  3. Expansion project
  4. Diversification project
  5. Research & Development projects
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6
Q

Capital budgeting evaluation techniques

A
  1. non-discounting methods
  2. Discounting method
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7
Q

Non-discounting methods

A
  1. Urgency
  2. Payback period
  3. Accountng rate of return
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8
Q

Discounting methods

A
  1. Net Present Value
  2. Profitability Index
  3. Internal Rate of return
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9
Q

It refer to the length of period required to recover the cost of investment

A

Payback period

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10
Q

Formula of Payback period

A

Intial cost of investment / Annual cash inflow

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11
Q

Find Payback Period

Given:
Year 0 = 5,000,000
Year 1 = 2,000,000
Year 2 = 2,500,000
Year 3 = 3,500,000
Year 4 = 2,000,000
Year 5 = 2,000,000

A

Year 1 = 2,000,000 = 1
Year 2 = 2,500,000 = 1
Year 3 = (5,0000,000 - 4,500,000) / 3,500,000 = 0.14

PP = 2.14 years

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12
Q

Find Payback Period

Given:
Intial Capital = 3,000,000
Year 1 = 1,200,000
Year 2 = 1,200,000
Year 3 = 1,200,000
Year 4 = 1,200,000
Year 5 = 1,200,000

A

Year 1 = 1,200,000 = 1
year 2 = 1,200,000 = 1
Year 3 = (3,000,000-2,400,000) / 1,200,000 = 0.5

PP =. 2.50 years

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13
Q

Find Payback Period

Given:
Intial Capital = 30,000,000
Year (1-5) = 5,000,000 per year
Year (6-10) = 6,000,000 per year

A

Year 1 - 5 = 25,000,000 (5M x 5 years) = 5
Year 6 = 5,000,000 / 6,000,000. = 0.83

PP = 5.83 years

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14
Q

Formula of Accounting rate of return (ARR)

A

Average income after tax / Initial cost of investment

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15
Q

Formula of Net Present Value

A

Present Value of Cash Inflows - Present Value of Cash outflow

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16
Q

Formula of Profitability Index

A

Present value of cash inflow (PVCI) / Initial cost of investment

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17
Q

Find Payback Period

Given:
Intial Capital = 800,000
Year 1 = 300,000
Year 2 = 350,000
Year 3 = 450,000
Year 4 = 500,000
Year 5 = 800,000

A

Year 1 = 300,000 = 1
Year 2 = 350,000 = 1

Year 3 = (800K- 300K - 350K) / 450,000 = 0.33

Answer = 2.33 years

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18
Q

Find Net Present Value

Given:
Intial Capital = 800,000
Year 1 = 300,000
Year 2 = 350,000
Year 3 = 450,000
Year 4 = 500,000
Year 5 = 800,000

Rate = 8%

A

Year 1 = 300,000 x 0.9259 = 277,770
Year 2 = 350,000 x 0.8573 = 300,055
Year 3= 450,000 x 0.7938 = 330, 210
Year 4 = 500,000 x 0.7350 = 367,500
Year 5 = 800,000 x 0.6806 = 544,480

(PVCI) 1,847,015 - (PVCO) 800,000
NPV = 1,047,015

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19
Q

Find Profitability Index

Given:
Intial Capital = 800,000
Year 1 = 300,000
Year 2 = 350,000
Year 3 = 450,000
Year 4 = 500,000
Year 5 = 800,000

Rate = 8%

A

PI= 1,847,015 / 800,000
= 2.31

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20
Q

Find Discounted Payback Period

Given:
Intial Capital = 800,000
Year 1 = 300,000
Year 2 = 350,000
Year 3 = 450,000
Year 4 = 500,000
Year 5 = 800,000

Rate = 8%

A

Notebook

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21
Q

2020

Gross Sales = 800,000
Less: CGS (30%) = ?
Gross Profit = ?
Less: Operating Expenses = 120,000
EBIT = ?
Less Interest Expense = 50,000
EBT = ?
Less: Tax (30%) = ?
Income after Tax = ?

2021

Gross Sales = 1,200,000
Less: CGS (30%) = ?
Gross Profit = ?
Less: Operating Expenses = 150,000
EBIT = ?
Less Interest Expense = 50,000
EBT = ?
Less: Tax (30%) = ?
Income after Tax = ?

A

2020

Gross Sales = 800,000
Less: CGS (30%) = ?
Gross Profit = ?
Less: Operating Expenses = 120,000
EBIT = ?
Less Interest Expense = 50,000
EBT = ?
Less: Tax (30%) = ?
Income after Tax = ?

2021

Gross Sales = 1,200,000
Less: CGS (30%) = ?
Gross Profit = ?
Less: Operating Expenses = 150,000
EBIT = ?
Less Interest Expense = 50,000
EBT = ?
Less: Tax (30%) = ?
Income after Tax = ?

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22
Q

Find Accounting Rate of Return

Initial Investment = 1,500,000
Income After Tax = 273,000 (Year 1)
448,000 (Year 2)

A

ARR = ((273,000 + 448,000) / 2) / 1,500,000

= 24.03%

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23
Q

Find Internal rate of Return

Given:
Intial Capital = 800,000
Year 1 = 300,000
Year 2 = 350,000
Year 3 = 450,000
Year 4 = 500,000
Year 5 = 800,000

Rate = 8%

No need to study since it will not come out on the exam

A

IRR = 42.23%

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24
Q

Find Internal rate of return

Given:
Intial Capital = (350,000)
Year 1 = 100,000
Year 2 = 200,000
Year 3 = 220,000
Year 4 = 80,000

Rate of Return = 18%

A

Found in notebook

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25
Q

Find NPV (use excel)

Given:
Intial Capital = (20,000,000)
Year 1 = 5,000,000
Year 2 = 8,000,000
Year 3 = 8,500,000
Year 4 = 7,000,000
Year 5 = 8,000,000
Year 6 = 6,000,000

Required rate of Return = 20%

A

Year 1 = 5,000,000 x 0.8333 = 4,166,500
Year 2 = 8,000,000 x 0.6944 = 5,555,200
Year 3 = 8,500,000 x 0.5787 = 4,918,950
Year 4 = 7,000,000 x 0.4823 = 3,376,100
Year 5 = 8,000,000 x 0.4019 = 3,215,200
Year 6 = 6,000,000 x 0.3349 = 2,009,400

(PVCI) 23,241,350 - (PVCO) (20,000,000)

NPV =

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26
Q

Find IRR (use excel)

Given:
Intial Capital = (20,000,000)
Year 1 = 5,000,000
Year 2 = 8,000,000
Year 3 = 8,500,000
Year 4 = 7,000,000
Year 5 = 8,000,000
Year 6 = 6,000,000

Required rate of Return = 20%

A

Found in Excel

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27
Q

Sunlight Company needs a machine for its manufacturing process. The Cost of the machine is 8.7 million with an expected useful life of 8 years. At the end of 8-year period, the machine would increse cash inflows by 3 million per year (per year 1- 8 years). Sunlight is interested to know the:

a. Payback period

A

Found in Test #2

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28
Q

Sunlight Company needs a machine for its manufacturing process. The Cost of the machine is 8.7 million with an expected useful life of 8 years. At the end of 8-year period, the machine would increse cash inflows by 3 million per year (per year 1- 8 years). Sunlight is interested to know the:

b. Net Present Value (16%)

A

Found in Test #2

NPV= 13,030,800 - 8,700,000 = 4,330,800

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29
Q

Sunlight Company needs a machine for its manufacturing process. The Cost of the machine is 8.7 million with an expected useful life of 8 years. At the end of 8-year period, the machine would increse cash inflows by 3 million per year (per year 1- 8 years). Sunlight is interested to know the:

c. Profitability Index

A

Found in Test #2

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30
Q

Sunlight Company needs a machine for its manufacturing process. The Cost of the machine is 8.7 million with an expected useful life of 8 years. At the end of 8-year period, the machine would increse cash inflows by 3 million per year (per year 1- 8 years). Sunlight is interested to know the:

d. Discounted payback period (16%)

A

Found in Test #2

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31
Q

Sunlight Company needs a machine for its manufacturing process. The Cost of the machine is 8.7 million with an expected useful life of 8 years. At the end of 8-year period, the machine would increse cash inflows by 3 million per year (per year 1- 8 years). Sunlight is interested to know the:

e. Internal rate of return (16%)

A

Found in Test #2

IRR= 30% + (31% - 30%) x [(₱74,105.26 - 0) / (₱74,105.26 - (₱138,387.94)) ]

= 30.34874%

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32
Q

Sunlight Company needs a machine for its manufacturing process. The Cost of the machine is 8.7 million with an expected useful life of 8 years. At the end of 8-year period, the machine would increse cash inflows by 3 million per year (per year 1- 8 years). Sunlight is interested to know the:

f. whether to accept or reject this investment. The minimum required rate of return of the company is 16% on all capital investments.

A

Accept

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33
Q

The following are the expected cash inflow of a project whose economic life is 5 years and initial investment is P800,000 and discount rate of 12 %

Year
0 = (800,000)
1 = 300,000
2 = 350,000
3 = 300,000
4 = 250,000
5 = 250,000

Find the:
a.) Payback period

A

Found in Test #2

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34
Q

The following are the expected cash inflow of a project whose economic life is 5 years and initial investment is P800,000 and discount rate of 12%

Year
0 = (800,000)
1 = 300,000
2 = 350,000
3 = 300,000
4 = 250,000
5 = 250,000

Find the:
b.) NPV (discount rate is 12%)

A

Found in Test #2

NPV= 1,061,155 - 800,000
= 261,155

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35
Q

The following are the expected cash inflow of a project whose economic life is 5 years and initial investment is P800,000 and discount rate of 12%

Year
0 = (800,000)
1 = 300,000
2 = 350,000
3 = 300,000
4 = 250,000
5 = 250,000

Find the:
c.) Profitability Index (discount rate is 12%)

A

PI= 1,061,155 / 800,000
=1.32

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36
Q

The following are the expected cash inflow of a project whose economic life is 5 years and initial investment is P800,000 and discount rate of 12%

Year
0 = (800,000)
1 = 300,000
2 = 350,000
3 = 300,000
4 = 250,000
5 = 250,000

Find the:
b.) IRR (discount rate is 12%)

A

Found in Test #2

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37
Q

The following are the expected cash inflow of a project whose economic life is 5 years and initial investment is P800,000 and discount rate of 12%

Year
0 = (800,000)
1 = 300,000
2 = 350,000
3 = 300,000
4 = 250,000
5 = 250,000

Find the:
e.) Will you recommend for the acceptance of the project?

A

Accept

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38
Q

For a project that has an initial investment of P8.7 million, your client has asked you to determine the accounting rate of return. The data are the following:

  1. Sales revenue: 30M (2022)
  2. Cost of Cost: 40%
  3. Interest Expense: 16% of the outstanding debt of P5,000,000
  4. Tax rate: 30%
  5. Operating expenses as 10M
  6. It was learned that the income after tax in the preceding year was 10% lower than this year, 2022
A

Found in Test #2

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39
Q

ABC is contemplating on venturing a new business with initial investment of P800 million pesos. The weighted average cost of capital (WACC) was determined at 15%. It has the following cash flows with zero salvage value at the end of the project:

Year 1 = P50M
Year 2 = P100M
Year 3 = P150M
Year 4-15 = P200M per year

Given the information, this client asked you to provide the following:
a.) Payback period of the project

A

Found in ME

PP= 5.5 years

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40
Q

ABC is contemplating on venturing a new business with initial investment of P800 million pesos. The weighted average cost of capital (WACC) was determined at 15%. It has the following cash flows with zero salvage value at the end of the project:

Year 1 = P50M
Year 2 = P100M
Year 3 = P150M
Year 4-15 = P200M per year

Given the information, this client asked you to provide the following:
b.) Net Present Value (WACC = 15%)

A

NPV= ₱130,549,058.77

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41
Q

ABC is contemplating on venturing a new business with initial investment of P800 million pesos. The weighted average cost of capital (WACC) was determined at 15%. It has the following cash flows with zero salvage value at the end of the project:

Year 1 = P50M
Year 2 = P100M
Year 3 = P150M
Year 4-15 = P200M per year

Given the information, this client asked you to provide the following:
c.) Discounted payback period

A

PP= 10.82 years

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42
Q

ABC is contemplating on venturing a new business with initial investment of P800 million pesos. The weighted average cost of capital (WACC) was determined at 15%. It has the following cash flows with zero salvage value at the end of the project:

Year 1 = P50M
Year 2 = P100M
Year 3 = P150M
Year 4-15 = P200M per year

Given the information, this client asked you to provide the following:
d.) Profitability Index

A

PI= 930,555,000 / 800,000,000

= 1.16

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43
Q

ABC is contemplating on venturing a new business with initial investment of P800 million pesos. The weighted average cost of capital (WACC) was determined at 15%. It has the following cash flows with zero salvage value at the end of the project:

Year 1 = P50M
Year 2 = P100M
Year 3 = P150M
Year 4-15 = P200M per year

Given the information, this client asked you to provide the following:
e.) Internal rate of return

A

=17% + (18% - 17%) x [(₱32,362,435.20 -0) / (₱32,362,435.20-(₱11,053,118.88))]

= 17.75%

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44
Q

Purchases of long-term operational asset.

A

Capital Investment

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45
Q

Once purchased, company is committed to these investments for an extended period of time.

A

Capital Investment

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46
Q

A decision to exchange current cash outflows for the expectation of receiving future cash inflows

A

Capital Investment Decisions

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47
Q

Understanding the time value of money concept will help you make a rational capital investment decision.

A

Capital Investment Decisions

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48
Q

are concerned with:

  • The process of planning
  • Setting goals and priorities
  • Arranging financing
  • Using certain criteria to select long-term assets
A

Capital Investment Decisions

49
Q

money invested in a business venture with a thought of income and amount is expected to be recovered through earnings generated by the business over a period of time.

A

Capital investment

50
Q

funds invested in a firm or enterprise for the purpose of furthering its business goals and objectives.

A

Capital investment

51
Q

seeks to build on the future value of money which may be spent now.

A

Capital budgeting

52
Q

Uses techniques and looks into the different factors that can aid in making decision.

A

Capital budgeting

53
Q

Creates accountability and measurability of a business plan.

A

Capital budgeting

54
Q

The process of making capital investment decisions

A

Capital budgeting

55
Q

Types of capital budgeting projects

A
  • Independent projects
  • Mutually exclusive projects
56
Q

Projects that, if accepted or rejected, will not affect the cash flows of another project.

A

Independent projects

57
Q

Projects that, if accepted, preclude the acceptance of competing projects.

A

Mutually exclusive projects

58
Q

Guidelines for Capital Budgeting

A
  • Use Cash Flows rather than Book Profits
  • The basis for evaluating the attractiveness of a proposal is incremental cash flow
  • Consider Incidental or Synergistic Effects
  • Avoid Cash flow diverted from existing product
  • Consider Incremental Expenses
  • Consider Opportunity cost
59
Q

Administration of Capital Investment Decisions

A
  • Generation of investment proposal
  • Estimation of cash flows
  • Evaluation of cash flows and selections of projects
60
Q

How to get Initial Investment

A

= Cost of asset + installation cost + working capital investment – sales from old asset + taxes on sale of old asset

61
Q

Evaluation Methods

A
  • Payback Period
  • Average Rate of Return
  • Net Present Value
  • Internal Rate of Return
  • Profitability Index or Benefit-cost ratio
62
Q

length of time required for the firm to recover initial investment using cash flow basis

A

payback period

63
Q

if the payback period is less or is the company’s payback period then _______ the project

A

accept

64
Q

simple and easy but ignores timing and magnitude of inflow

A

Payback period

65
Q

Formula of payback period

A

= Net cost of investment / Annual net cash inflows

66
Q
  • Help control the risks associated with the uncertainty of future cash flows.
  • Help minimize the impact of an investment on a firm’s liquidity problems.
  • Help control the risk of obsolescence.
  • Help control the effect of the investment on performance measures.
A

Payback period

67
Q
  • Ignores the time value of money
  • Ignores the performance of the investment beyond the payback period
A

Payback period

68
Q

also known as accounting rate of return

A

Average Rate of Return

69
Q

Divides project’s average profit after taxes by investment

A

Average Rate of Return

70
Q

the average rate of return is compared with the minimum or required rate.

A

Average Rate of Return

71
Q

If the ARR exceeds the required, the project is _________

A

accepted

72
Q

Formula of Accounting Rate of Return

A

= Average income / Original investment or Average investment

72
Q

Formula of getting average income

A

Average annual net cash flows, less average depreciation

73
Q

Formula of getting Average investment

A

= (I + S) ÷ 2

74
Q

One of the discounted cash flow method where the difference between the present value of cash inflows and outflows

A

Net Present Value

75
Q

Potential change in an investor’s wealth caused by that project/proposal with the consideration of the time value of money

A

Net Present Value

76
Q

Decision rule: _______ a project if its NPV is positive and ______ if its NPV is negative

A

accept; reject

77
Q

Decision Criteria for NPV

If NPV > 0:

A
  • The initial investment has been recovered
  • The required rate of return has been recovered
78
Q

Formula of When cash inflows are even:

A

NPV = R × [1 − (1 + i)-n / i] − Initial Investment

79
Q

What is the following terms when cash flows are even:

R = ?
I = ?
N = ?

A

R =net cash inflow to be received in each period

I =required rate of return per period

N = number of periods during which the project is expected to operate and generate cash inflows

80
Q

Formula of when cash flows are uneven

A

= [ R1/ (1 + i)^1 + R2 /(1 + i)^2 + R3 /(1 + i)^3 + …..] - Initial Investment

81
Q

In cahs flows are uneven where:

I = ?
R1 = ?
R2 = ?
R3 = ?

A

I = target rate of return per period;

R1 = net cash inflow during the first period;

R2 = net cash inflow during the second period;

R3 = the net cash inflow during the third period, and so on …

82
Q

is the rate at which the present value of cash inflows equals cash outflows.

A

Internal Rate of Return

83
Q

The rate that will produce a zero NPV.

A

Internal Rate of Return

84
Q

Discount rate at which the NPV of an investment becomes zero

A

Internal Rate of Return

85
Q

The discount rate which equates the PV of the future cash flows of an investment with the initial investment

A

Internal Rate of Return

86
Q

________ if IRR is not less than the target rate of return or choose which project has the highest value of IRR

A

accept

87
Q

Decision Criteria:

If the IRR > Cost of Capital, _____________

If the IRR = Cost of Capital, ______________

If the IRR < Cost of Capital, ____________

A

If the IRR > Cost of Capital, accept the project

If the IRR = Cost of Capital, accept or reject

If the IRR < Cost of Capital, reject the project

88
Q

Formula for IRR

A

NPV = 0

Or

PV of future cash flows – initial investment = 0

or

[ R1/ (1 + i)^1 + R2 /(1 + i)^2 + R3 /(1 + i)^3 + …..] - Initial Investment = 0

89
Q

The simplest way of finding IRR:

A
  1. Guess the value of r and calculate the NPV of the project at that value.
  2. If NPV is close to zero then IRR is equal to r.
  3. If NPV is greater than 0 then increase r and jump to step
  4. If NPV is smaller than 0 then decrease r and jump to step
  5. Recalculate NPV using the new value of r and go back to step 2.
90
Q

Is a relative measure as it gives the figure as a ratio

A

Profitability Index/benefit-cost ratio

91
Q

Helps in ranking projects based on their per dollar return

A

Profitability Index/benefit-cost ratio

92
Q

Decision rule:

_________ if the profitability index is greater than 1,

____________ if it is zero

__________ if it is below 1

A

accept if the profitability index is greater than 1;

stay indifferent if it is zero;

don’t accept if it is below 1

93
Q

Formula of Profitability Index/benefit-cost ratio

A

= Present Value of Future Cash Flows / Initial Investment Required

= 1 + (Net Present Value
/ Initial Investment Required)

94
Q

Find the ARR

Project Cost: Php 2M
Estimated life: 5 yrs
Estimated net income:
1 = 200,000
2 = 250,000
3 = 200,000
4 = 300,000
5 = 550,000

A

Found in notes

95
Q

Calculate the net present value of a project which requires an initial investment of $243,000 and it is expected to generate a cash inflow of $50,000 each month for 12 months. Assume that the salvage value of the project is zero. The target rate of return is 12% per annum.

A

NPV= 319,753.87

96
Q

Diamond Corporation is planning to buy a new equipment which costs Php 10M, estimated life of 10 years with no salvage value. The installation cost is Php 1,500,000 with an additional working capital of Php 100,000. There is Php 5M existing equipment of four years with a depreciable life of 8 years. This equipment can be resold for Php 3,250,000. Existing income tax rate is 35%.

A

Found in notes

97
Q

Payback analysis

Unrecovered Investment
Year 1 = $200,000
Year 2 = 140,000
Year 3 = 60,000
Year 4 =
Year 5 =

Annual Cash Inflow
Year 1 = $60,000
Year 2 = 80,000
Year 3 = 100,000
Year 4 = 120,000
Year 5 = 140,000

A

Found in notes

98
Q

An initial investment of Php 1,000 on plant and machinery is expected to generate cash inflows of 500, 400, 200, 200, and 100 at the end of first, second, third, fourth, and fifth year respectively. Calculate the net present value of the investment if the discount rate is 10%.

A

Found in notes

99
Q

Find the IRR of an investment having initial cash outflow of $213,000. The cash inflow during the first, second, third, and fourth years are expected to be $65,200, $96,000, $73, 100 and $55,400 respectively. Assume that r is 10%.

A

Found in notes

100
Q

Profitability index

An initial investment of Php 1,000,000 with projected annual ash inflow of Php 400,000 for 10 years at 25% required rate of return yields a present value of cash inflows of Php 1,319,410

A

Found in notes

101
Q

Star Corporation is planning to buy a new equipment which costs Php 500,000 estimated life of 5 years with no salvage value. The installation cost is Php 75,000 with an additional working capital of Php 100,00. The is a Php 200,000 existing equipment of three years with a depreciable life of 5 years. This equipment can be resold for Php 150,000. Existing income trax rate is 35%.

A
  • Initial Investment =
    (Cost of asset) Php 500,000.00
    + (Installation cost) 75,000.00
    + (working capital investment) 100,000.00
    – (sales from old asset) 150,000.00
    + (taxes on sale of old asset) 24,500.00

Initial investment Php 549,500.00

Taxable gains from sales
Sales price of old asset = 150,000.00
Less BV: 200,000(2/5) = 80,000.00
Gains = 70,000.00
= 35%

Tax on sale of old = Php 24,500.00

102
Q

A company is planning to invest in a project that requires Php 500,000 initial investment and is expected to provide annual after-tax inflow of Php 100,000. Company’s acceptable maximum payback period is 6 years. Will the company pursue their plan on this project?

A

Payback period = 500,000 / 100,000 = 5 years

Since 5 is lesser than 6, accept the project

103
Q

An initial investment of Php 8,320 with Php 900.00 salvage value on plant and machinery is expected to generate cash inflows of Php 3,411, Php 4,070 , Php 5,824 and Php 2,065 at the end of first, second, third and fourth year respectively. Calculate the net present value of the investment if the discount rate is 18%.

A

Total PV in Cash Inflows = 10,887.67
Less: Intitial Investment = 8,320
NPV = 2,567.67

Accept the project

104
Q

The management of N marketing is considering the purchase of a new machine costing P300,000 with a salvage value of P100,000. The asset is expected to have an additional inflow of P35,000 annually for 5 years. The company’s desired rate of return is at 10%. Using ARR, will the company push with the purchase of the new machine?

A

Average Rate of Return
= 35,000/200,000
=17.5% , accept

The average rate of return is compared with the minimum or required rate.
17.5% > 10%

Note: If the ARR exceeds the required, the project is accepted

105
Q

Country Store is looking into purchasing a sea van as a storage van for years. The cost of the sea van is at P1,400,000 with salvage value of P50,000. Below is the estimated net income for 5 years. Country Store uses ARR in evaluating capital investment and have set their required rate of return at 30%. What will you recommend. Support your recommendation.

Estimated net income:
1 = Php 150,000
2 = 250,000
3 = 200,000
4 = 300,000
5 = 550,000
total income = 1,450,000

A

= 290,000/ 725,000 =40%

: Accept

106
Q

Calculate the net present value of a project which requires an initial investment of P900,000 and it is expected to generate a cash inflow of P400,000 for 10 years. The target rate of return is 30% per annum.

A

NPV = 400,000 × 1 − (1 + 30%)-10 − 900,000
=400,000 × 3.0915 − 900,000
=336,615.80

107
Q

An initial investment of P50,000 on plant and machinery with salvage value of P13,000 is expected to generate cash inflows of P12,500; P23,400; P12,200; P25,200; P1,100 at the end of first, second, third, fourth, and fifth year respectively. Calculate the net present value of the investment if the discount rate is 10%.

A

Found in notes

108
Q

ABC corporation plans to purchase a piece of factory equipment for P300,000 with a scrap value of P10,000 at the end of its life. The equipment would only last three years, but it is expected to generate P150,000 of additional annual profit. Factory equipment is expected to have a return of 15%.

A

At 15%
=(130,434.783 + 113,421.55 + 105,202.597) -300,000
=349,058.93 – 300,000
= 49,058.93

If NPV is greater than 0 then increase r
If NPV is smaller than 0 then decrease r

At 25%
= (120,000 + 96,000 + 81,920) – 300,000
= -2080

Decision rule: accept if IRR is not less than the target rate of return or choose which project has the highest value of IRR

Accept the project.

109
Q

Capital investment decisions often involve all of the following except ________.

a. qualitative factors or considerations
b. short periods of time
c. large amounts of money
d. risk

A

b. short periods of time

110
Q

Preference decisions compare potential projects that meet screening decision criteria and will be ranked in their preference order to differentiate between alternatives with respect to all of the following characteristics except ________.

a. political prominence
b. feasibility
c. desirability
d. importance

A

a. political prominence

111
Q

The third step for making a capital investment decision is to establish baseline criteria for alternatives. Which of the following would not be an acceptable baseline criterion?

a. payback method
b. accounting rate of return
c. internal rate of return
d. inventory turnover

A
112
Q

You are explaining time value of money factors to your friend. Which factor would you explain as being larger?

a. The future value of $1 for 12 periods at 6% 6 % is larger.
b. The present value of $1for 12 periods at 6%
c. Neither one is larger because they are equal.
d. There is not enough information given to answer this question.

A
113
Q

Bob’s Auto Repair has determined that it needs new lift equipment to acquire more business opportunities. However, one or more alternatives meet or exceed the minimum expectations Bob has for the new lift equipment. As a result, what type of decision should Bob make for his company?

A
114
Q

If a copy center is considering the purchase of a new copy machine with an initial investment cost of $150,000 and the center expects an annual net cash flow of $ 20,000 per year, what is the payback period?

A

Payback period=initial cost/annual cash flows

=150,000/20,000

which is equal to

=7.5 years

115
Q

Assume a company is going to make an investment of $450,000 in a machine and the following are the cash flows that two different products would bring in years one through four. Which of the two options would you choose based on the payback method?

Option A, Product A Option B, Product B
$190,000 $150,000
190,000 180,000
60,000 60,000
20,000 70,000

A

Option A
Payback period
= (3 years + (10000/20000))
= 3.5 Years

Option B
Payback period
= (3 years + (60000/70000))
= 3.86 Years

116
Q

If a garden center is considering the purchase of a new tractor with an initial investment cost of $120,000 and the center expects a return of $30,000
in year one, $20,000 in years two and three, $15,000 in years four and five, and $10,000 in year six and beyond, what is the payback period?

A

Payback period = 7 Years

117
Q

The management of Kawneer North America is considering investing in a new facility and the following cash flows are expected to result from the investment:

Initial Cash Outflow:
Year 1= $1900000
Year 2 =$550000

Initial Cash Inflow
Year 1 = $100.000
Year 2 =200.000
Year 3 =360.000
Year 4 =480.000
Year 5 =510.000
Year 6 =600.000
Year 7 =590.000
Year 8 =300,000
Year 9 =250.000
Year 10 =250.000

a. What is the payback period of this uneven cash flow?

b. Does your answer change if year 10 ’s cash inflow changes to $500,000 ?

A

a.) In Year 7 the Cummulative Cash Inflow is $2840,000
Hence Payback Period
= 6 + ($2450000 $2250000)/$590,000
= 6 + $200,000/590000
= 6.34 years

b) No, the answer will not change as the payback period is less than 10 years.

118
Q

A mini-mart needs a new freezer and the initial investment will cost $300,000. Incremental revenues, including cost savings, are $200,000 , and incremental expenses, including depreciation, are $125,000. There is no salvage value. What is the accounting rate of return (ARR)?

A

2-21. BA-FM 22P(2018)-A (LEC) Financial Analysis and Reporting (7 decks)

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