UB CPA Review

MANAGEMENT ADVISORY SERVICES by: rhad estoque

CAPITAL BUDGETING

CAPITAL BUDGETING - The process of identifying, evaluating, planning

and financing capital investment projects of an organization.
Ranking of investment alternatives.

CHARACTERISTICS OF CAPITAL INVESTMENT DECISIONS

1. it usually requires large commitments of resources
2. it involves long-term commitments
3. it is more difficult to reverse than short-term decisions

THE CAPITAL BUDGETING PROCESS

1. Identification of potential projects
2. Estimation of costs and benefits
3. Evaluation
4. Development of the capital budget
5. Re-evaluation

TYPES OF CAPITAL INVESTMENT PROJECTS

1. Replacement
2. Improvement
3. Extension
 Mutually exclusive vs. independent projects

CAPITAL INVESTMENT FACTORS

1. Net investment
2. Net returns
3. Cost of capital

Net investment- Costs or cash outflows less cash inflows or

savings incidental to the acquisition of the investment project.

Costs or Cash Outflows:

1. The initial cash outlay
a. Purchase price of the asset
b. Incidental project-related costs

2. Working capital requirements

3. Market value of an existing, currently idle asset which

was used in the investment.

Savings or Cash Inflow:

1. Trade-in value of old asset (in case of replacement).

2. Proceeds from sale of old asset to be disposed due to the

acquisition of the new project (less applicable tax in case
there is gain on sale, or add tax savings in case there is
loss on sale).

3. Avoidable cost of immediate repairs on old asset to be

replaced, net of tax.

Net Returns:
a. Accounting net income
b. Net cash inflows
 Economic life- the period of time during which the asset can
provide economic benefits or positive cash inflows.

Terminal value- or end of life recovery value- refers to the

net cash proceeds expected to be realized at the end of the
project's economic life.

COMMONLY USED METHODS OF EVALUATING CAPITAL INVESTMENT PROJECTS

1. Methods that do not consider the time value of money
a. Payback
b. Bail-out
c. Accounting rate of return
2. Methods that consider the time value of money (discounted
cash flow methods)
a. Net present value
b. Present value index
c. Present value payback
d. Discounted cash flow rate of return.

Payback period - The length of time required by the project to

return the initial cost of investment.
= Net cost of Initial investment/Annual Net Cash
Inflows

Bail Out Period- cash recoveries include not only the operating net
cash inflows but also the estimated salvage value or proceeds from
sale at the end of each year of the life of the project. It
estimates the recovery of investment at the end of each year of the
project life.

Accounting Rate of Return- (also called book value rate of return,

financial statement method, average return on investment and
unadjusted rate or return)

=Average Annual Net Income / Investment

DISCOUNTED CASH FLOW METHODS

Net Present Value=
1. Present value of Cash inflows - Cost of Investment

2. Present value of Cash inflows - Present value of the Cost of

Investment

3. Present value of Cash inflows - Present value of Cash

outflows

Profitability Index =
1. Total Present Value of Cash Inflows / Cost of
Investment

2. Total Present Value of Cash Inflows / Total Present

Value of Cash Outflows

Net Present Value Index = Net Present Value / Investment

Discounted Cash Flow Rate of Return:

1. Determine the present value factor (PVF) for the
discounted cash flow rate of return (DCFRR) with the use of
the following formula:

PVR for DCFRR = Net Cost of Investment / Net Cash inflows

 2. Using present value annuity table, find on line (economic
life) the PVF obtained in step 1. The corresponding rate is
the DCFRR.

Payback Reciprocal = Net Cash Inflows / Investment

OR 1/ Payback Period

- a reasonable estimate of the discounted cash flows rate or

return, provided that the following conditions are met;
1. The economic life of the project is at least twice
the payback period.
2. The net cash inflows are constant (uniform)
throughout the life of the project.

REVIEW QUESTIONS

1. The net present value (NPV) method of investment project

analysis assumes that the project's cash flows are reinvested
at the
a. computed rate of return
b. risk-free interest rate
c. discount rate used in the NPV calculation
d. firm's accounting rate of return

2. The bailout payback method

a. incorporates the time value of money
b. equals the recovery period from normal operations
c. includes the cost of capital in the calculation
d. measures the risk if a project is terminated

3. A weakness of the internal rate of return (IRR) approach for

determining the acceptability of investments is that it
a. does not consider the time value of money
b. is not a straightforward decision criterion
c. implicitly assumes that the firm is able to reinvest
project cash flows at the firm's cost of capital
d. implicitly assumes that the firm is able to reinvest
project cash flows at the project's internal rate of return

4. The profitability index approach to investment analysis

a. fails to consider the timing of project cash flows
b. considers only the project's contribution to net income and
does not consider cash flow effects
c. always yields the same accept/reject decisions for
independent projects as the net present value method
d. always yields the same accept/reject decisions for mutually
exclusive projects as the net present value method

5. The rankings of mutually exclusive investments determined

using the internal rate of return method (IRR) and the net
present value method (NPV) may be different when
a. the lives of the multiple projects are equal and the size of
the required investments are equal
b. the required rate of return equals the IRR of each project
c. the required rate of return is higher than the IRR of
each project
d. multiple projects have unequal lives and the size of the
investment for each project is different

6. The proper discount rate to use in calculating certainty

equivalent net present value is the
a. risk-adjusted discount rate
b. cost of capital
 c. risk-free rate
d. cost of equity capital

7. Essex Corporation is evaluating a lease that takes effect on

March 1, 20x4. The company must make eight equal payments,
with the first payment due on March 1, 20x4. The concept most
relevant to the evaluation of the lease is
a. the present value of an annuity due
b. the present value of an ordinary annuity
c. the future value of an annuity due
d. the future value of an ordinary annuity

8. Amster Corporation has not yet decided on its hurdle rate for
the use in the evaluation of capital budgeting projects. This
lack of information will prohibit Amster from calculating a
projects
Accounting Net Internal
Rate of Return Present Value Rate of Return
a. No No No
b. Yes Yes Yes
c. No Yes Yes
d. No Yes No

9. The payback reciprocal can be used to approximate a project's

a. profitability index
b. net present value
c. payback period
d. internal rate of return if the cash flow pattern is
relatively stable

10. When evaluating projects, breakeven time is best

described as
a. annual fixed costs - monthly contribution margin
b. project investment - annual net cash inflows
c. the point where cumulative cash inflows on a project equal
total cash outflows
d. the point at which discounted cumulative cash inflows on a
project equal discounted total cash outflows

11. If an investment project has a profitability index of

1.15 the
a. project's internal rate of return is 15%
b. project’s cost of capital is greater that its internal rate
of return
c. project's internal rate of return exceeds its net present
value
d. net present value of the project is positive

12. A depreciation tax shield is

a. an after-tax cash outflow
b. a reduction in income taxes
c. the cash provided by recording depreciation
d. the expense caused by depreciation

13. If income tax considerations are ignored, how is

depreciation handled by the following capital budgeting
techniques?

Internal Accounting
Rate of Return Rate of Return Payback
a. Excluded Included Excluded
b. Included Excluded Included
c. Excluded Excluded Included
d. Included Included Included

14. When determining net present value in an inflationary

environment, adjustments should be made to
a. increase the discount rate
b. increase the estimated cash inflows and increase the
discount rate
c. increase the estimated cash inflows but not the discount rate
d. decrease the estimated cash inflows and increase the
discount rate

15. The internal rate of return (IRR) is the

a. hurdle rate
b. rate of interest for which the net present value is equal to
zero
c. rate of return generated from the operational cash flows
d. accounting rate of return

16. A characteristic of the payback method (before taxes) is

that is
a. incorporates the time value of money
b. neglects total project profitability
c. uses accrual accounting inflows in the numerator of the
calculation
d. uses the hurdle rate in the calculation

17. All of the following items are included in discounted

cash flow analysis except
a. future operating cash savings
b. the current asset disposal price
c. the future asset depreciation expense
d. the tax effects of future asset depreciation

18. In evaluating a capital budget project, the use of the

net present value (NPV) model is ordinarily not affected by
the
a. method of funding the project
b. initial cost of the project
c. amount of added working capital needed for operations
during the term of the project
d. project's salvage value

19. For capital budgeting purposes, management would select a

high hurdle rate of return for certain projects because
management
a. wants to use equity funding exclusively
b. believes too many proposals are being rejected
c. believes bank loans are riskier than capital investments
d. wants to factor risk into its consideration of projects

20. The capital budgeting model that is ordinarily considered

the best model for long-range decision making is the
a. payback model
b. accounting rate of return model
c. unadjusted rate of return model
d. discounted cash flow model

21. The technique used to evaluate all possible capital

projects of different peso amounts and then rank them
according to their desirability is the
a. profitability index method
b. net present value method
 c. payback method
d. discounted cash flow method

22. An advantage of the net present value method over the

internal rate of return model in discounted cash flow analysis
is that the net present value method
a. computes a desired rate of return for capital projects
b. can be used when there is no constant rate of return
required for each year of the project
c. uses a discount rate that equates the discounted cash
inflows with the outflows
d. computes the maximum interest rate that can be used over the
life of the project to breakeven

23. The use of an accelerated method instead of the straight-

line method of depreciation in computing the net present value
of a project has the effect of
a. raising the hurdle rate necessary to justify the project
b. lowering the net present value of the project
c. increasing the present value of the depreciation tax
shield
d. increasing the cash outflows at the initial point of the
project

24. When the risks of the individual components of a

project's cash flows are different, an acceptable procedure to
evaluate these cash flows is to
a. divide each cash flow by the payback period
b. compare the internal rate of return from each cash flow to
its risk
c. utilize the accounting rate of return
d. discount each cash flow using a discount rate that reflects
the degree of risk

25. The net present value (NPV) of a project has been

calculated to be P215,000. Which one of the following changes
in assumptions would decrease the NPV?
a. decrease the estimated effective income tax
b. decrease the initial investment amount
c. increase the estimated salvage value
d. increase the discount rate

26. Barker Inc. has no capital rationing constraint and is

analyzing many independent investment alternatives. Barker
should accept all investment proposals
a. if debt financing is available for them
b. that have positive cash flows
c. that provide returns more than the before-tax cost of debt
d. that have a positive net present value

27. Which one of the following statements concerning cash

flow determination for capital budgeting purposes is not
correct?
a. tax depreciation must be considered since it affects cash
payments for taxes
b. book depreciation is relevant since it affects net income
c. sunk costs are not incremental flows and should not be
included
d. net working capital changes should be included in cash flow
forecasts
 28. The net present value of a proposed investment is
negative; therefore, the discount rate used must be
a. greater than the project's internal rate of return
b. less than the project's internal rate of return
c. greater than the firm's cost of equity
d. less than the risk-free rate

29. A disadvantage of the net present value method of capital

expenditure evaluation is that it
a. is calculated using sensitivity analysis
b. computes the true interest rate
c. does not provide the true rate of return on investment
d. is difficult to adapt for risk

30. In equipment-replacement decision, which one of the

following does not affect the decision-making process?
a. current disposal price of the old equipment
b. operating costs of the old equipment
c. original fair market value of the old equipment
d. cost of the new equipment

PROBLEM SOLVING

1. Drew Co. is considering replacing an old press that cost

P800,000 six years ago with a new one costing P2,250,000.
Shipping and installation would cost an additional P200,000.
The old press had a book value of P150,000 and could be sold
currently for P50,000. The increased production of the new
press would increase inventories by P40,000, accounts
receivable by P160,000 and accounts payable by P140,000.
Drew’s net initial investment for analyzing the acquisition of
the new press assuming a 30% income tax rate would be?

2. Key Corp. plans to replace a production machine that was

acquired several years ago. Acquisition cost is P450,000 with
salvage value of P50,000. The machine being considered is
worth P800, 000 and the supplier is willing to accept the old
machine at a trade-in value of P60,000. Should the company
decide not to acquire the new machine, it needs to repair the
old one at a cost of P200, 000. Tax-wise, the trade-in
transaction will not have any implication but the cost to
repair is tax-deductible. The effective corporate tax rate is
30% of net income subject to tax.
For purposes of capital budgeting, compute for the net
investment in the new machine

3. Garfield, Inc. is considering a 10-year capital investment

project with forecasted revenues of P40,000 per year and
forecasted cash operating expenses of P29,000 per year. The
initial cost of the equipment for the project is P23,000, and
Garfield expects to sell the equipment for P9,000 at the end
of the tenth year. Asset of this type is depreciated for 7
years. The project requires a working capital investment of
P7,000 at its inception and another P5,000 at the end of year
5. Assuming a 40% income tax rate, how much is the expected
net cash flow from the project in the tenth year?

4. Lor Industries is analyzing a capital investment proposal for

new machinery to produce a new product over the next 10 years.
At the end of the 10 years, the machinery must be disposed of
with a net zero book value but with a scrap salvage value of
P20,000. It will require some P30,000 to remove the machinery,
 the applicable tax rate is 30%. The appropriate “end-of-life”
cash flow based on the foregoing information is?

5. Jasper Company has a payback goal of 3 years on new equipment

acquisitions. A new sorter is being evaluated that costs
P450,000 and has a 5-year life. Straight-line depreciation
will be used, no salvage is anticipated. Jasper is subject to
a 40% income tax rate. How much should the sorter generate
reductions in annual cash operating costs to meet the
company’s payback goal?

6. Wills Inc. has a cost of capital of 15% and is considering the

acquisition of a new machine which costs P400,000 with P10,000
salvage value and has a useful life of 5 years. Wills projects
that earnings and cash flow from operations will increase as
follows:

Net After - Tax

Year Earnings Cash Flow
1 P200,000 P140,000
2 150,000 130,000
3 130,000 120,000
4 120,000 110,000
5 100,000 100,000

15% Interest Rate Factors

Present Value Present Value of
Period of P1 an Annuity of P1
1 0.87 0.87
2 0.76 1.63
3 0.66 2.29
4 0.57 2.86
5 0.50 3.36

Required:
Evaluate the project using:
a. Accounting rate of return
b. Payback period
c. Net present value
d. Profitability index
e. Present value payback
f. Discounted cash flow rate of return

7. McLean Inc. is considering the purchase of a new machine that

will cost P160,000. The machine has an estimated useful life
of 3 years. Assume that 30% of the depreciable base will be
depreciated in the first year, 40% in the second year, and 30%
in the third year. The new machine will have a P10,000 resale
value at the end of its estimated useful life. The machine is
expected to save the company P85,000 per year in operating
expenses. McLean is subject to a 40% income tax rate and a 16%
hurdle rate to evaluate capital projects.

Discount rates for a 16% rate are as follows:

Present Value of an
Present Value of P1 Ordinary Annuity of P1
Year 1 0.862 0.862
Year 2 0.743 1.605
Year 3 0.641 2.246

Evaluate the project wherever possible using:

a. Accounting rate of return
b. Payback period
 c. Net present value
d. Profitability index
e. Present value payback
f. Discounted cash flow rate of return

8. Capital Invest Inc. uses a 12% hurdle rate for all capital
expenditures and has done the following analysis for four
projects for the upcoming year.

Project 1 Project 2 Project 3 Project 4

Initial capital outlay P200,000 P298,000 P248,000 P272,000
Annual net cash inflows

Year 1 P 65,000 P100,000 P 80,000 P 95,000

Year 2 70,000 135,000 95,000 125,000
Year 3 80,000 90,000 90,000 90,000
Year 4 40,000 65,000 80,000 60,000

Net present value (3,798) 4,276 14,064 14,062

Profitability index 98% 101% 106% 105%
Internal rate of return 11% 13% 14% 15%

Required:

Which project/s should Capital Invest Inc. undertake

during the upcoming year assuming it has
a. no budget restrictions
b. P600,000 of funds available
c. P300,000 of capital funds available

9. Janet Taylor Casual Wear has P75,000 in a bank account as of

December 31, 20x2. If the company plans on depositing P4,000
in the account at the end of each of the next 3 years (20x3,
20x4, 20x5) and all amounts in the account earn 8% per year,
ignoring income tax effect, what will the account balance be
as December 31, 20x5 given the following table?

8% Interest Rate Factors

Future Value Future Value of
Period of P1 an Annuity of P1
1 1.08 1.00
2 1.17 2.08
3 1.26 3.25
4 1.36 4.51

Short Problems
1. VIRGINIA COMPANY invested in a four year project. Virginia's expected rate of return is
10%. Additional information is as follows:
CASH INFLOWS FROM
OPERATIONS, NET OF PRESENT VALUE
YEAR INCOME TAXES P1 AT 10%
I P4,000 .909
2 4,400 .826
3 4,800 .751
4 5,200 .683

Assuming a positive net present value of P1,000, what was the amount of original
investment?
a. P2,552 c. P13,427
b. P4,552 d .P17,400
 Items 2 and 3 are based on the following information: PLASTIC, INC., is considering the
purchase of a P40,000 machine which will be depreciated on a straight-line basis over an
eight-year period with no salvage value. The machine is expected to generate net cash income
before income taxes of P12,000 a year. Assume income tax rate of 50%.

2. What is the payback period?

a. 2.4 years c. 3.3 years
b. 2.6 years d. 4.7 years

3. What is the accounting (book value) rate of return on the initial increase in required
investment?
a. 8.7 5 % c. 23.75%
b. 17.50% d. 30.00%

4. ROBERTS, INC., purchased a machine for P240,000. The machine has a useful life of 6
years and no salvage value. Straight-line depreciation is to be used. The machine is
expected to generate cash inflows from operation, net of income taxes, of P70,000 in each
of the six years. ROBERTS' expected rate of return is 12%. Information of present value
factors is as follows:
PRESENT VALUE OF
PRESENT ORDINARY
PERIOD VALUE OF P1 ANNUITY OF P1 AT 12%
1 .893 .893
2 .797 1.690
3 .712 2.402
4 .636 3.037
5 .567 3.605
6 .507 4.111
What is the net present value?
a. P35,490 c. P 121,680
b. P47,770 d. P123,330

5. The POLAR COMPANY is planning to purchase a new machine for P30,000. The
payback period is expected to be 5 years. The new machine is expected to produce cash
flow from operations, net of income taxes of P7,000 a year in each of the next three
years and P5,500 in the fourth year. Depreciation of P5,000 a year will be charged to
income for each of the five years of the payback period. What is the amount of cash
flow from operation, net of taxes, that the new machine is expected to produce in the
last (fifth) year of the payback period'
a. P 1,000 c . P5,000
b. P3,500 d. P8,500

6. The FUDGE COMPANY is planning to purchase a new machine which it will

depreciate on a straight-line basis over a ten-year period with no salvage value and a
full year's depreciation taken in the year of acquisition. The new machine is expected to
produce cash flows from operations, net of income taxes, of P66,000 a year in each of
the next 10 years. The accounting (book value) rate of return on initial investment is
expected to be 12%. How much will the new machine cost?
a. P300,000 c. P660,000
b. P550,000 d. P792,000
7. CAUSE COMPANY is planning to invest in a machine with a useful life of 5 years and
no salvage value. The machine is expected to produce cash flows from operations, net
of income taxes, of P20,000 in each of the 5 years. CAUSE's expected rate of return is
10%. Information on present value and future amount factors is as follows:
PERIOD 1 2 3 4 5
Present value of P1 at 10% .909 .826 .751 653 .621
Present value of annuity of P1 at 10% .909 1.736 2.487 3.170 3.791
Future amount of P I at 10% 1.100 1.210 1.331 1.464 1.611
Future amount of annuity of P1 at 10% 1.000 2.100 3.310 4.641 6.105
How much will the machine cost?
a. P32,220 c. P75,820
b. P62,100 d.P122,100

8. HEAP COMPANY invested in a two year project. HEAP's expected rate of return is
10%. The present value of P1 for one period at 10% is .909 and for two period at 10% is
.826. The machine is expected to produce cash flow from operations, net of income
taxes of P40,000 in the first year and P50,000 in the 2nd year. How much will the
project cost?
a. P74,340 c. P81,810
b. P77,660 d. P90,000

9. MAXWELL COMPANY has an opportunity to acquire a new machine to replace one of

its present machines. The new machine would cost P90,000, have a five-year life, and
no estimated salvage value. Variable operating cost would be P 100,000 a year. The
present machine has a book value of P50,000 and a remaining life of five years. Its
disposal value now is P5,000 but it would be zero after five years. Variable operating
cost would be P 125,000 per year. Ignore present-value calculations and income taxes.
Considering the five years in total, what would be the difference in profit before income
taxes by acquiring the new machine as opposed to retaining the present one?
a. P 10,000 decrease c. P35,000 increase
b. P 15,000 decrease d. P40,000 increase

10. HERMAN COMPANY acquired an asset at a cost of P46,600. It has an estimated life
of ten years. Annual after tax net cash benefits are estimated to be P10,000 at the end of each
year. The following amount appear in the interest table for the present value of an annuity of
P1 at year end of ten years:
16% 4.83
18% 4.49
20% 4.19
What is the maximum interest rate that could be paid for the capital employed over the
life of this asset without loss on this project?
a. 16% c. 18%
b. 17% d. 19%

11. The JENNING COMPANY is planning to purchase a new machine. The payback period
will be six years. The cash flow from operations, net of income taxes, will be P2,000 a
year for each of the first three years of the payback period and P3,000 a year for each of
the last 3 years of the payback period. Depreciation of P1,500 a year will be charged to
income for each of the 6 years of the payback period. How much will the machine cost?
a. P15,000 c. P9,000
b. P12,000 d. P6,000

12. The SWATCH COMPANY acquired a new machine for P16,000 which it will depreciate
on a straight-line basis over the 10 year period. If full year's depreciation was taken in the
 year of acquisition. The accounting (book value) rate of return is expected to be 12% on
the initial increase in required investment. If we assume a uniform cash flow, the annual
cash inflow from operation, net of income taxes, will be
a. P320 c. P1,920
b. P1,728 d. P3,520

13. BOSSINI INC., purchased a new machine on January 1, 2013 for P350,000. The machine
is expected to have a useful life of 8 years and no salvage value. Straight line depreciation
is to be used. The present value of the cash flow generated by the machine was calculated
be P371,120 using a time-adjusted rate of return of 14%. The present value of the
ordinary annuity of P I in arrears for 8 periods at 14% is 4.639. The present value of PI for
8 periods at 14 % is 0.351. What was the annual cash inflow, net of income taxes, that
was used in the calculation of the present value?
a. P350,000 x 0.351 c. P371,120 x 0.351
b. P350,000 / 4.639 d. P371,120 / 4.639

14. CHLOE COMPANY is planning to invest P40,000 in a machine with a useful life of 5
years and no salvage value. The straight-line method of depreciation will be used.
CHLOE estimates that the annual cash inflow from operations, net of income taxes from
using this machine will be P 10,000. CHLOE's desired rate of return on investments of
this type is 10% . The present value of an ordinary annuity of P I for five periods at 10%
is 3.791. The present value of PI for five periods at 10% is 0.621. Using the net-present
value method. CHLOE's true rate of return on this investment is
a. 0% c. 10%
b. less than l0%but more than 0% d. More than 10%

15. BERNIE COMPANY purchased a new machine with an estimated useful life of five years
with no salvage value for P45,000. The machine is expected to produce cash inflow from
operation, net of income taxes, as follows
1st 9,000
nd
2 12,000
3rd 15,000
th
4 9,000
5th 8,000
BERNIE will use the sum-of-years-digits method to depreciate the new machine in it's
accounting records as follows:

1st 15,000
2nd 12,000
3rd 9,000
4th 6,000
5th 3,000
What is the payback period?
a. 2 years c. 4 years
b. 3 years d.5 years

16. The BREAD COMPANY is planning to purchase a new machine which it will depreciate
on a straight-line basis over a 10-year period. A full years' depreciation will be taken in
the year of acquisition. The machine is expected to produce cash inflow from operations,
net of income taxes of P3,000 in each of the 10 years. The accounting rate (book value)
of return is expected to be 10% on the initial increase in the required investment. The cost
of the new machine will be?
a. P12,000 c. P15,000
b. P13,500 d. P30,000

17. GENE INC., invested in a machine with a useful life of 6 years and no salvage value.
The machine was depreciated using straight-line method and it was expected to produce
 annual cash flow from operations, net of income taxes, of P2,000. The present value of
an ordinary annuity of PI for 6 periods at 10% is 4.355. The present value of PI for 6
periods at 10% is 0.564. Assuming that GENE used a time-adjusted rate of return of
10%, what was the amount of the original investment?
a. P5,640 b. P8,710 c. P9,000 d. P11,280

18. SYBIL COMPANY purchased a new machine with a useful life of 7 years and no
salvage value on January 1, 2012 for P400,000. The machine was depreciated using the
straight-line method and it was expected to produce annual cash flow from operations,
net of income taxes, of P90,000. The present value of an ordinary annuity of PI at 7
periods at 12% is 4.564. The present value of PI at 7 periods for 12% is 0.452.
Assuming that SYBIL used a time-adjusted rate of return of 12%. What was the net
present value?
a. P 6,800 b. P10,760 c. P182,000 d. P230,000

19. COOPER plans to invest P2,000 at the end of each of the next 10 years. Assume that
COOPER will earn interest at an annual rate of 6% compounded annually. The future
amount of an ordinary annuity of P1 for 10 periods at 6% is 13.181. The present value of
PI for 10 periods at 6% is 3.558. the present value of an ordinary annuity of P1 for ten
year period at 6% is 7.3 60. The investment after the end of the ten years would be
a. P14,720 c. P26,362
b. P21,200 d. P27,478

20. Joe Co. is evaluating the purchase of a P500,000 machine. The cash inflows expected
from the investment is P145,000 per year for five years with no salvage value. The cost
of capital is 12%. The present value factor for five years at 12% is 3.6048 and at 14% is
3.4331. the internal rate of return for this investment is
a. 3.45% b. 2.04% c. 13.8% d. 15.48%

21. On what basis is the cost of capital derived from bonds and preferred stock measured,
respectively?
a. Pretax rate of interest for bonds and stated annual dividend rate less the expected
earnings per share for preferred stock.
b. Pretax rate of interest for bonds and stated annual dividend rate for preferred stock.
c. After-tax rate of interest for bonds and stated annual dividend rate less the
expected earnings per share for preferred stock.
d. After-tax rate of interest for bonds and stated annual dividend rate for preferred
stock.

22. What capital budgeting method assumes that funds are reinvested at the company's cost
of capital?
a. Payback c. Net present value
b. Accounting rate of return d. Time-adjusted rate of return

23. What technique is used to deal with a range of possibilities in a capital-budgeting

model?
a. Present value concept c. Markov analysis
b. Sensitivity analysis d. Discounted cash flow

24. Which capital-budgeting methods require use of a present value table?

a. Net present value and time-adjusted rate of return
b. Payback and accounting rate of return
c. Accounting rate of return and time-adjusted rate of return
d. Accounting rate of return, time- adjusted rate of return, net present value, and
payback
25. The net present value in the time-adjusted rate of return methods of decision making in
capital budgeting are superior to payback method and that they
a. are easier to implement
b. consider the time value of money
c. require less input
d. reflect the effects of depreciation and income taxes

26. Sensitivity analysis is used in capital budgeting to quantify the

a. Amount that an assumed factor used in evaluating a project could be varied and still
produce acceptable result
b. Reaction within the market place to a new product
c. Type of capital that will have to be committed to the anticipated project
d. Relationship between the payback period and the economic lives of the assets used in
a project

27. In order for a project to be acceptable to a company using a cost of the capital method
of analysis, the return on invested capital must
a. At least equal to the amount of cash to cover interest and the principal payments
for any debt obtained to finance the project.
b. Generates sufficient capital to pay for itself within the economic life of the assets
committed to the project.
c. At least equal the return on invested capital currently being generated by the
company
d. Generate sufficient capital resources to justify any additional expenditures and
reduce idle capacity within the company

28. The weighted average cost of capital approach to decision making is not directly
affected by the
a. Value of the common stock
b. Current budget for expansion
c. Cost of debt outstanding
d. Proposed mix of debt, equity and existing funds used to implement the project

END