You are on page 1of 107

Chapter 10 - Making Capital Investment Decisions

Chapter 10
Making Capital Investment Decisions

Multiple Choice Questions

1. The difference between a firm's ftre cash flows if it accepts a pro!ect and the firm's ftre
cash flows if it does not accept the pro!ect is referred to as the pro!ect's"
#. incremental cash flows.
$. internal cash flows.
C. e%ternal cash flows.
D. erosion effects.
&. financing cash flows.

'. The fact that a proposed pro!ect is anal()ed based on the pro!ect's incremental cash flows is
the assmption behind which one of the following principles*
#. nderl(ing vale principle
$. stand-alone principle
C. e+ivalent cost principle
D. salvage principle
&. fndamental principle

,. -hich one of the following costs was incrred in the past and cannot be recoped*
#. incremental
$. side
C. snk
D. opportnit(
&. erosion

.. The option that is foregone so that an asset can be tili)ed b( a specific pro!ect is referred
to as which one of the following*
#. salvage vale
$. wasted vale
C. snk cost
D. opportnit( cost
&. erosion

10-1
Chapter 10 - Making Capital Investment Decisions
/. -hich one of the following best describes the concept of erosion*
#. e%penses that have alread( been incrred and cannot be recovered
$. change in net working capital related to implementing a new pro!ect
C. the cash flows of a new pro!ect that come at the e%pense of a firm's e%isting cash flows
D. the alternative that is forfeited when a fi%ed asset is tili)ed b( a pro!ect
&. the differences in a firm's cash flows with and withot a particlar pro!ect

0. -hich one of the following best describes pro forma financial statements*
#. financial statements e%pressed in a foreign crrenc(
$. financial statements where the assets are e%pressed as a percentage of total assets and costs
are e%pressed as a percentage of sales
C. financial statements showing pro!ected vales for ftre time periods
D. financial statements e%pressed in real dollars1 given a stated base (ear
&. financial statements where all acconts are e%pressed as a percentage of last (ear's vales

2. -hich one of the following is the depreciation method which allows accelerated write-offs
of propert( nder varios lifetime classifications*
#. I33
$. #C34
C. ##3
D. straight-line to )ero
&. straight-line with salvage

5. The depreciation ta% shield is best defined as the"
#. amont of ta% that is saved when an asset is prchased.
$. ta% that is avoided when an asset is sold as salvage.
C. amont of ta% that is de when an asset is sold.
D. amont of ta% that is saved becase of the depreciation e%pense.
&. amont b( which the afterta% depreciation e%pense lowers net income.

10-'
Chapter 10 - Making Capital Investment Decisions
6. The annal annit( stream of pa(ments that has the same present vale as a pro!ect's costs
is referred to as which one of the following*
#. (earl( incremental costs
$. snk costs
C. opportnit( costs
D. erosion cost
&. e+ivalent annal cost

10. 7elle('s $askets makes handmade baskets for distribtion to pscale retail otlets. The
firm is crrentl( considering making handmade wreaths as well. -hich one of the following
is the best e%ample of an incremental operating cash flow related to the wreath pro!ect*
#. storing spplies in the same space crrentl( sed for materials storage
$. tili)ing the basket manager to oversee wreath prodction
C. hiring additional emplo(ees to handle the increased workload shold the firm accept the
wreath pro!ect
D. researching the market to determine if wreath sales might be profitable before deciding to
proceed
&. planning on lower interest e%pense b( assming the proceeds of the wreath sales will be
sed to redce the firm's crrentl( otstanding debt

11. Danielle's is a frnitre store that is considering adding appliances to its offerings. -hich
of the following shold be considered incremental cash flows of this pro!ect*
I. tili)ing the credit offered b( a spplier to prchase the appliance inventor(
II. benefiting from increased frnitre sales to appliance cstomers
III. borrowing mone( from a bank to fnd the appliance pro!ect
I8. prchasing parts for inventor( to handle an( appliance repairs that might be necessar(
#. I and II onl(
$. III and I8 onl(
C. I1 II1 and I8 onl(
D. II1 III1 and I8 onl(
&. I1 II1 III1 and I8

10-,
Chapter 10 - Making Capital Investment Decisions
1'. The stand-alone principle advocates that pro!ect anal(sis shold be based solel( on which
one of the following costs*
#. snk
$. total
C. variable
D. incremental
&. fi%ed

1,. -hich one of the following is an e%ample of a snk cost*
#. 911/00 of lost sales becase an item was ot of stock
$. 911'00 paid to repair a machine last (ear
C. 9'01000 pro!ect that mst be forfeited if another pro!ect is accepted
D. 9.1/00 redction in crrent shoe sales if a store commences selling sandals
&. 911500 increase in comic book sales if a store commences selling p))les

1.. : ; < =lastic Molders spent 911'00 last week repairing a machine. This week the
compan( is tr(ing to decide if the machine cold be better tili)ed if the( assigned it a
proposed pro!ect. -hen anal()ing the proposed pro!ect1 the 911'00 shold be treated as which
t(pe of cost*
#. opportnit(
$. fi%ed
C. incremental
D. erosion
&. snk

1/. -hich one of the following best illstrates erosion as it relates to a hot dog stand located
on the beach*
#. providing both ketchp and mstard for its cstomer's se
$. repairing the roof of the hot dog stand becase of water damage
C. selling fewer hot dogs becase hambrgers were added to the men
D. offering >rench fries bt not onion rings
&. losing sales de to bad weather

10-.
Chapter 10 - Making Capital Investment Decisions
10. -hich of the following shold be inclded in the anal(sis of a new prodct*
I. mone( alread( spent for research and development of the new prodct
II. redction in sales for a crrent prodct once the new prodct is introdced
III. increase in acconts receivable needed to finance sales of the new prodct
I8. market vale of a machine owned b( the firm which will be sed to prodce the new
prodct
#. I and III onl(
$. II and I8 onl(
C. I1 II1 and III onl(
D. II1 III1 and I8 onl(
&. I1 II1 III1 and I8

12. ?o are considering the prchase of a new machine. ?or anal(sis incldes the evalation
of two machines which have differing initial and ongoing costs and differing lives. -hichever
machine is prchased will be replaced at the end of its sefl life. ?o shold select the
machine which has the"
#. longest life.
$. highest annal operating cost.
C. lowest annal operating cost.
D. highest e+ivalent annal cost.
&. lowest e+ivalent annal cost.

15. The bid price is"
#. an afterta% price.
$. the afterta% contribtion margin.
C. the highest price (o shold charge if (o want the pro!ect.
D. the onl( price (o can bid if the pro!ect is to be profitable.
&. the minimm price (o shold charge if (o want to financiall( breakeven.

16. -hich one of the following will increase a bid price*
#. a decrease in the fi%ed costs
$. a redction in the net working capital re+irement
C. a redction in the firm's ta% rate
D. an increase in the salvage vale
&. an increase in the re+ired rate of retrn

10-/
Chapter 10 - Making Capital Investment Decisions
'0. #ll of the following are related to a proposed pro!ect. -hich of these shold be inclded
in the cash flow at time )ero*
I. prchase of 911.00 of parts inventor( needed to spport the pro!ect
II. loan of 91'/1000 sed to finance the pro!ect
III. depreciation ta% shield of 911100
I8. 901/00 of e+ipment needed to commence the pro!ect
#. I and II onl(
$. I and I8 onl(
C. II and I8 onl(
D. I1 II1 and I8 onl(
&. I1 II1 III1 and I8

'1. Changes in the net working capital re+irements"
#. can affect the cash flows of a pro!ect ever( (ear of the pro!ect's life.
$. onl( affect the initial cash flows of a pro!ect.
C. onl( affect the cash flow at time )ero and the final (ear of a pro!ect.
D. are generall( e%clded from pro!ect anal(sis de to their irrelevance to the total pro!ect.
&. reflect onl( the changes in the crrent asset acconts.

''. -hich one of the following is a pro!ect cash inflow* Ignore an( ta% effects.
#. decrease in acconts pa(able
$. increase in inventor(
C. decrease in acconts receivable
D. depreciation e%pense based on M#C34
&. e+ipment ac+isition

',. @et working capital"
#. can be ignored in pro!ect anal(sis becase an( e%penditre is normall( recoped at the end
of the pro!ect.
$. re+irements1 sch as an increase in acconts receivable1 create a cash inflow at the
beginning of a pro!ect.
C. is rarel( affected when a new prodct is introdced.
D. can create either a cash inflow or a cash otflow at time )ero of a pro!ect.
&. is the onl( e%penditre where at least a partial recover( can be made at the end of a pro!ect.

10-0
Chapter 10 - Making Capital Investment Decisions
'.. The operating cash flow of a cost ctting pro!ect"
#. is e+al to the depreciation ta% shield.
$. is e+al to )ero becase there is no incremental sales.
C. can onl( be anal()ed b( pro!ecting the sales and costs for a firm's entire operations.
D. incldes an( changes that occr in the crrent acconts.
&. can be positive even thogh there are no sales.

'/. =ro forma statements for a proposed pro!ect shold"
I. be compiled on a stand-alone basis.
II. inclde all the incremental cash flows related to the pro!ect.
III. generall( e%clde interest e%pense.
I8. inclde all pro!ect-related fi%ed asset ac+isitions and disposals.
#. I and II onl(
$. II and III onl(
C. I1 II1 and I8 onl(
D. II1 III1 and I8 onl(
&. I1 II1 III1 and I8

'0. -hich one of the following statements is correct*
#. =ro!ect anal(sis shold onl( inclde the cash flows that affect the income statement.
$. # pro!ect can create a positive operating cash flow withot affecting sales.
C. The depreciation ta% shield creates a cash otflow for a pro!ect.
D. Interest e%pense shold alwa(s be inclded as a cash otflow when anal()ing a pro!ect.
&. The opportnit( cost of a compan(-owned bilding that is going to be sed in a new
pro!ect shold be inclded as a cash inflow to the pro!ect.

'2. # compan( that tili)es the M#C34 s(stem of depreciation"
#. will have e+al depreciation costs each (ear of an asset's life.
$. will have a greater ta% shield in (ear two of a pro!ect than it wold have if the firm had
opted for straight-line depreciation1 given the same depreciation life.
C. can depreciate the cost of land1 if it so desires.
D. will e%pense less than the entire cost of an asset.
&. cannot e%pense an( of the cost of a new asset dring the first (ear of the asset's life.

10-2
Chapter 10 - Making Capital Investment Decisions
'5. Morris Motors !st prchased some M#C34 /-(ear propert( at a cost of 9'101000. -hich
one of the following will correctl( give (o the book vale of this e+ipment at the end of
(ear '*

#. 9'101000AB1 C 0.'0 C 0.,'D
$. 9'101000 B1 - 0.'0 - 0.,'D
C. 9'101000 B0.'0 C 0.,'D
D. E9'101000 B1 - 0.'0DF B1 - 0.,'D
&. 9'101000AEB1 C 0.'0DB1 C 0.,'DF

'6. 7e(ser =etrolem !st prchased some e+ipment at a cost of 9021000. -hat is the proper
methodolog( for compting the depreciation e%pense for (ear ' if the e+ipment is classified
as /-(ear propert( for M#C34*

#. 9021000 B1 - 0.'0D 0.,'
$. 9021000AB1 - 0.'0 - 0.,'D
C. 9021000 B1 C 0.,'D
D. 9021000 B1 - 0.,'D
&. 9021000 0.,'

10-5
Chapter 10 - Making Capital Investment Decisions
,0. The crrent book vale of a fi%ed asset that was prchased two (ears ago is sed in the
comptation of which one of the following*
#. depreciation ta% shield
$. ta% de on the salvage vale of that asset
C. crrent (ear's operating cash flow
D. change in net working capital
&. M#C34 depreciation for the crrent (ear

,1. The net book vale of e+ipment will"
#. remain constant over the life of the e+ipment.
$. var( in response to changes in the market vale.
C. decrease at a constant rate when M#C34 depreciation is sed.
D. increase over the ta%able life of an asset.
&. decrease slower nder straight-line depreciation than nder M#C34.

,'. Three (ears ago1 7no% :lass prchased a machine for a ,-(ear pro!ect. The machine is
being depreciated straight-line to )ero over a /-(ear period. Toda(1 the pro!ect ended and the
machine was sold. -hich one of the following correctl( defines the afterta% salvage vale of
that machine* BT represents the relevant ta% rateD
#. 4ale price C B4ales price - $ook valeD T
$. 4ale price C B4ales price - $ook valeD B1 - TD
C. 4ale price C B$ook vale - 4ale priceD T
D. 4ale price C B$ook vale - 4ale priceD B1 - TD
&. 4ale price B1 - TD

,,. -hich one of the following is a correct method for compting the operating cash flow of a
pro!ect assming that the interest e%pense is e+al to )ero*
#. &$IT C D
$. &$IT - T
C. @I C D
D. B4ales - CostsD B1 - DD B1- TD
&. B4ales - CostsD B1 - TD

10-6
Chapter 10 - Making Capital Investment Decisions
,.. The operating cash flow for a pro!ect shold e%clde which one of the following*
#. ta%es
$. variable costs
C. fi%ed costs
D. interest e%pense
&. depreciation ta% shield

,/. The bottom-p approach to compting the operating cash flow applies onl( when"
#. both the depreciation e%pense and the interest e%pense are e+al to )ero.
$. the interest e%pense is e+al to )ero.
C. the pro!ect is a cost-ctting pro!ect.
D. no fi%ed assets are re+ired for a pro!ect.
&. both ta%es and the interest e%pense are e+al to )ero.

,0. The top-down approach to compting the operating cash flow"
#. ignores noncash e%penses.
$. applies onl( if a pro!ect increases sales.
C. applies onl( to cost ctting pro!ects.
D. is e+al to sales - costs - ta%es C depreciation.
&. is sed solel( to compte a bid price.

,2. Increasing which one of the following will increase the operating cash flow assming that
the bottom-p approach is sed to compte the operating cash flow*
#. erosion effects
$. ta%es
C. fi%ed e%penses
D. salaries
&. depreciation e%pense

,5. -hich one of the following statements is correct concerning bid prices*
#. The bid price is the ma%imm price that a firm shold bid.
$. # firm can sbmit a bid that is higher than the compted bid price and still break even.
C. # bid price ignores ta%es.
D. # bid price shold be compted based solel( on the operating cash flows of the pro!ect.
&. # bid price shold be compted based on a )ero percent re+ired rate of retrn.

10-10
Chapter 10 - Making Capital Investment Decisions
,6. Dan is comparing three machines to determine which one to prchase. The machines sell
for differing prices1 have differing operating costs1 differing machine lives1 and will be
replaced when worn ot. -hich one of the following comptational methods shold Dan se
as the basis for his decision*
#. internal rate of retrn
$. operating cash flow
C. e+ivalent annal cost
D. depreciation ta% shield
&. bottom-p operating cash flow

.0. The e+ivalent annal cost method is sefl in determining"
#. which one of two machines to prchase if the machines are mtall( e%clsive1 have
differing lives1 and are a one-time prchase.
$. the ta% shield benefits of depreciation given the prchase of new assets for a pro!ect.
C. the operating cash flows of a cost-ctting pro!ect.
D. which one of two investments to accept when the investments have different re+ired rates
of retrn.
&. which one of two machines shold be prchased when the machines are mtall(
e%clsive1 have different machine lives1 and will be replaced once the( are worn ot.

.1. -hen sing the e+ivalent annal cost as a basis for deciding which e+ipment shold be
prchased1 the e+ipment nder consideration mst fit which two of the following criteria*
I. differing prodctive lives
II. differing manfactrers
III. re+ired replacement at end of economic life
I8. differing initial cost
#. I and II
$. I and III
C. I and I8
D. II and IIII
&. II and I8

10-11
Chapter 10 - Making Capital Investment Decisions
.'. The e+ivalent annal cost considers which of the following*
I. re+ired rate of retrn
II. operating costs
III. need for replacement
I8. afterta% salvage vale
#. I and II onl(
$. II and I8 onl(
C. II1 III1 and I8 onl(
D. I1 II1 and I8 onl(
&. I1 II1 III1 and I8

.,. The bid price alwa(s assmes which one of the following*
#. # pro!ect has a one-(ear life.
$. The afterta% net income of the pro!ect is )ero.
C. The net present vale of the pro!ect is )ero.
D. #n( assets prchased will have a positive salvage vale at the end of the pro!ect.
&. #ssets will be depreciated based on M#C34.

... -hich one of the following wold make a pro!ect nacceptable*
#. cash inflow for net working capital at time )ero
$. re+iring fi%ed assets that wold have no salvage vale
C. an e+ivalent annal cost that e%ceeds that of an alternative pro!ect
D. lack of revene generation
&. a depreciation ta% shield that e%ceeds the vale of the interest e%pense

./. Decreasing which one of the following will increase the acceptabilit( of a pro!ect*
#. snk costs
$. salvage vale
C. depreciation ta% shield
D. e+ivalent annal cost
&. acconts pa(able re+irement

10-1'
Chapter 10 - Making Capital Investment Decisions
.0. De%ter 4mith ; Co. is replacing a machine simpl( becase it has worn ot. The new
machine will not affect either sales or operating costs and will not have an( salvage vale at
the end of its /-(ear life. The firm has a ,. percent ta% rate1 ses straight-line depreciation
over an asset's life1 and has a positive net income. :iven this1 which one of the following
statements is correct*
#. #s a pro!ect1 the new machine has a net present vale e+al to mins one times the
machine's prchase price.
$. The new machine will have a )ero rate of retrn.
C. The new machine will generate positive operating cash flows1 at least in the first few (ears
of its life.
D. The new machine will create a cash otflow when the firm disposes of it at the end of its
life.
&. The new machine creates erosion effects.

.2. 7ell('s Corner $aker( prchased a lot in Gil Cit( 0 (ears ago at a cost of 9'501000.
Toda(1 that lot has a market vale of 9,.01000. #t the time of the prchase1 the compan(
spent 91/1000 to level the lot and another 9'01000 to install storm drains. The compan( now
wants to bild a new facilit( on that site. The bilding cost is estimated at 91..2 million. -hat
amont shold be sed as the initial cash flow for this pro!ect*
#. -911.201000
$. -9115101000
C. -9115'/1000
D. -9115./1000
&. -9115001000

.5. 4ailcloth ; More crrentl( prodces boat sails and is considering e%panding its operations
to inclde awnings for homes and travel trailers. The compan( owns land beside its crrent
manfactring facilit( that cold be sed for the e%pansion. The compan( boght this land /
(ears ago at a cost of 9,161000. #t the time of prchase1 the compan( paid 9'.1000 to level
ot the land so it wold be sitable for ftre se. Toda(1 the land is valed at 9'6/1000. The
compan( crrentl( has some nsed e+ipment that it crrentl( owns valed at 9,51000. This
e+ipment cold be sed for prodcing awnings if 91'1000 is spent for e+ipment
modifications. Gther e+ipment costing 9.601000 will also be re+ired. -hat is the amont of
the initial cash flow for this e%pansion pro!ect*
#. -925/1000
$. -95',1000
C. -95,/1000
D. -95/61000
&. -955,1000

10-1,
Chapter 10 - Making Capital Investment Decisions
.6. -ebster ; Moore paid 91,610001 in cash1 for a piece of e+ipment , (ears ago. #t the
beginning of last (ear1 the compan( spent 9'11000 to pdate the e+ipment with the latest
technolog(. The compan( no longer ses this e+ipment in its crrent operations and has
received an offer of 9561000 from a firm that wold like to prchase it. -ebster ; Moore is
debating whether to sell the e+ipment or to e%pand its operations so that the e+ipment can
be sed. -hen evalating the e%pansion option1 what vale1 if an(1 shold the firm assign to
this e+ipment as an initial cost of the pro!ect*
#. 90
$. 9'11000
C. 9561000
D. 91101000
&. 91001000

/0. The >lff( >eather sells cstomi)ed handbags. Crrentl(1 it sells 151000 handbags
annall( at an average price of 956 each. It is considering adding a lower-priced line of
handbags that sell for 9/6 each. The firm estimates it can sell 21000 of the lower-priced
handbags bt will sell ,1000 less of the higher-priced handbags b( doing so. -hat is the
amont of the sales that shold be sed when evalating the addition of the lower-priced
handbags*
#. 91.01000
$. 9'2/1000
C. 9.1,1000
D. 90',1000
&. 90501000

/1. Mason >arms prchased a bilding for 92'61000 eight (ears ago. 4i% (ears ago1 repairs
were made to the bilding which cost 91,01000. The annal ta%es on the propert( are
9111000. The bilding has a crrent market vale of 95'/1000 and a crrent book vale of
9.6.1000. The bilding is totall( paid for and solel( owned b( the firm. If the compan(
decides to se this bilding for a new pro!ect1 what vale1 if an(1 shold be inclded in the
initial cash flow of the pro!ect for this bilding*
#. 9.6.1000
$. 9/5'1000
C. 95'/1000
D. 950/1000
&. 96/,1000

10-1.
Chapter 10 - Making Capital Investment Decisions
/'. ?o own a hose that (o rent for 911100 a month. The maintenance e%penses on the
hose average 9'00 a month. The hose cost 9'161000 when (o prchased it . (ears ago. #
recent appraisal on the hose valed it at 9',61000. If (o sell the hose (o will incr
91.1000 in real estate fees. The annal propert( ta%es are 9.1000. ?o are deciding whether to
sell the hose or convert it for (or own se as a professional office. -hat vale shold (o
place on this hose when anal()ing the option of sing it as a professional office*
#. 9'111500
$. 9''11000
C. 9''/1000
D. 9',/1000
&. 9',61000

/,. @elson Mfg. owns a manfactring facilit( that is crrentl( sitting idle. The facilit( is
located on a piece of land that originall( cost 91/61000. The facilit( itself cost 911.001000 to
bild. #s of now1 the book vale of the land and the facilit( are 91/61000 and 9./510001
respectivel(. The firm owes no debt on either the land or the facilit( at the present time. The
firm received a bid of 911/001000 for the land and facilit( last week. The firm's management
re!ected this bid even thogh the( were told that it is a reasonable offer in toda('s market. If
the firm was to consider sing this land and facilit( in a new pro!ect1 what cost1 if an(1 shold
it inclde in the pro!ect anal(sis*
#. 90
$. 90121000
C. 911.001000
D. 911/001000
&. 9110161000

/.. Cool Comfort crrentl( sells ,00 Class # spas1 ./0 Class C spas1 and '00 del%e model
spas each (ear. The firm is considering adding a mid-class spa and e%pects that if it does it
can sell ,2/ of them. However1 if the new spa is added1 Class # sales are e%pected to decline
to ''/ nits while the Class C sales are e%pected to decline to '00. The sales of the del%e
model will not be affected. Class # spas sell for an average of 91'1000 each. Class C spas are
priced at 901000 and the del%e model sells for 9121000 each. The new mid-range spa will sell
for 951000. -hat is the vale of the erosion*
#. 90001000
$. 911'001000
C. 9115001000
D. 9'1.001000
&. 9,16001000

10-1/
Chapter 10 - Making Capital Investment Decisions
//. Iefferson ; 4ons is evalating a pro!ect that will increase annal sales b( 91,51000 and
annal costs b( 96.1000. The pro!ect will initiall( re+ire 91101000 in fi%ed assets that will be
depreciated straight-line to a )ero book vale over the .-(ear life of the pro!ect. The
applicable ta% rate is ,' percent. -hat is the operating cash flow for this pro!ect*
#. 9111''0
$. 9'616'0
C. 9,512'0
D. 9.01.50
&. 9.010'0

/0. Marie's >ashions is considering a pro!ect that will re+ire 9'51000 in net working capital
and 9521000 in fi%ed assets. The pro!ect is e%pected to prodce annal sales of 92/1000 with
associated costs of 9/21000. The pro!ect has a /-(ear life. The compan( ses straight-line
depreciation to a )ero book vale over the life of the pro!ect. The ta% rate is ,0 percent. -hat
is the operating cash flow for this pro!ect*
#. -911/'0
$. -9/50
C. 9.'0
D. 91/1050
&. 91215'0

/2. The $each Hose has sales of 925.1000 and a profit margin of 11 percent. The annal
depreciation e%pense is 91.1000. -hat is the amont of the operating cash flow if the
compan( has no long-term debt*
#. 9051200
$. 92'1'.0
C. 9501'.0
D. 91001'.0
&. 91011200

10-10
Chapter 10 - Making Capital Investment Decisions
/5. The =ancake Hose has sales of 9110.'10001 depreciation of 9'210001 and net working
capital of 9'151000. The firm has a ta% rate of ,/ percent and a profit margin of 0 percent.
The firm has no interest e%pense. -hat is the amont of the operating cash flow*
#. 9651/'0
$. 91'/1/'0
C. 91.21.50
D. 9'051.50
&. 9,.,1/'0

/6. @orthern 3ailwa( is considering a pro!ect which will prodce annal sales of 962/1000
and increase cash e%penses b( 95/61000. If the pro!ect is implemented1 ta%es will increase
from 91.11000 to 91/.1000 and depreciation will increase from 916.1000 to 9'2'1000. The
compan( is debt-free. -hat is the amont of the operating cash flow sing the top-down
approach*
#. 9'/1000
$. 910,1000
C. 91/21000
D. 91511000
&. 9'061000

00. $i-<o Traders is considering a pro!ect that will prodce sales of 9'51000 and increase cash
e%penses b( 9121/00. If the pro!ect is implemented1 ta%es will increase b( 9,1000. The
additional depreciation e%pense will be 911000. #n initial cash otla( of 911.00 is re+ired for
net working capital. -hat is the amont of the operating cash flow sing the top-down
approach*
#. 9.1/00
$. 9/1600
C. 901100
D. 921/00
&. 951600

10-12
Chapter 10 - Making Capital Investment Decisions
01. # proposed e%pansion pro!ect is e%pected to increase sales of I< Ticker's 4tore b(
9,/1000 and increase cash e%penses b( 9'11000. The pro!ect will cost 9'.1000 and be
depreciated sing straight-line depreciation to a )ero book vale over the .-(ear life of the
pro!ect. The store has a marginal ta% rate of ,0 percent. -hat is the operating cash flow of the
pro!ect sing the ta% shield approach*
#. 9/1000
$. 921500
C. 9111000
D. 91,1,00
&. 91.1000

0'. The <mber ?ard is considering adding a new prodct line that is e%pected to increase
annal sales b( 9',51000 and cash e%penses b( 915.1000. The initial investment will re+ire
9601000 in fi%ed assets that will be depreciated sing the straight-line method to a )ero book
vale over the 0-(ear life of the pro!ect. The compan( has a marginal ta% rate of ,' percent.
-hat is the annal vale of the depreciation ta% shield*
#. 9/11'0
$. 91,1100
C. 9'/15.0
D. 9,'1/00
&. 9.115.0

0,. $ernie's $everages prchased some fi%ed assets classified as /-(ear propert( for M#C34.
The assets cost 9521000. -hat will the accmlated depreciation be at the end of (ear three*

#. 91,1/'0
$. 9'/10/0
C. 9,51'.1
D. 9.512/6
&. 90116..

10-15
Chapter 10 - Making Capital Investment Decisions
0.. ?o !st prchased some e+ipment that is classified as /-(ear propert( for M#C34. The
e+ipment cost 91.21000. -hat will the book vale of this e+ipment be at the end of . (ears
shold (o decide to resell the e+ipment at that point in time*

#. 951.02.'0
$. 9'/1.01.00
C. 9.'1,,0.00
D. 91'11/65..0
&. 91,51/,'.50

0/. =eterborogh Trcking !st prchased some fi%ed assets that are classified as ,-(ear
propert( for M#C34. The assets cost 961500. -hat is the amont of the depreciation e%pense
in (ear ,*

#. 9/,2./'
$. 911,.2.12
C. 911./1.,5
D. 9116'6.11
&. 9'1122./0

10-16
Chapter 10 - Making Capital Investment Decisions
00. Crafter's 4ppl( prchased some fi%ed assets ' (ears ago at a cost of 9,51200. It no longer
needs these assets so it is going to sell them toda( for 9'/1000. The assets are classified as /-
(ear propert( for M#C34. -hat is the net cash flow from this sale if the firm's ta% rate is ,0
percent*

#. 91,11''.'0
$. 9151/20.00
C. 9'015.,.05
D. 9',102'.50
&. 9'/1'11.06

02. ?o own some e+ipment that (o prchased . (ears ago at a cost of 9'101000. The
e+ipment is /-(ear propert( for M#C34. ?o are considering selling the e+ipment toda(
for 92/1/00. -hich one of the following statements is correct if (or ta% rate is ,/ percent*

#. The ta% de on the sale is 9'01.'/.
$. The book vale toda( is 9125102/.'0.
C. The accmlated depreciation to date is 9,21,'..50.
D. The ta%able amont on the sale is 9,21,'..50.
&. The afterta% salvage vale is 90'11,5.05.

10-'0
Chapter 10 - Making Capital Investment Decisions
05. &dward's Manfactred Homes prchased some machiner( ' (ears ago for 9,161000.
These assets are classified as /-(ear propert( for M#C34. The compan( is replacing this
machiner( toda( with newer machines that tili)e the latest in technolog(. The old machines
are being sold for 91.01000 to a foreign firm for se in its prodction facilit( in 4oth
#merica. -hat is the afterta% salvage vale from this sale if the ta% rate is ,/ percent*

#. 91,/1.05
$. 91.01000
C. 91.'1,1'
D. 91..1/6'
&. 91.015'0

06. $rno's <nch Conter is e%panding and e%pects operating cash flows of 9'01000 a (ear
for . (ears as a reslt. This e%pansion re+ires 9,61000 in new fi%ed assets. These assets will
be worthless at the end of the pro!ect. In addition1 the pro!ect re+ires 9,1000 of net working
capital throghot the life of the pro!ect. -hat is the net present vale of this e%pansion
pro!ect at a re+ired rate of retrn of 10 percent*
#. 9151.22.'6
$. 9'110,,.,,
C. 9'51'55.20
D. 9'61.10.05
&. 9,'1.06./2

10-'1
Chapter 10 - Making Capital Investment Decisions
20. Iasper Metals is considering installing a new molding machine which is e%pected to
prodce operating cash flows of 92,1000 a (ear for 2 (ears. #t the beginning of the pro!ect1
inventor( will decrease b( 91010001 acconts receivables will increase b( 9'110001 and
acconts pa(able will increase b( 91/1000. #ll net working capital will be recovered at the
end of the pro!ect. The initial cost of the molding machine is 9'.61000. The e+ipment will be
depreciated straight-line to a )ero book vale over the life of the pro!ect. The e+ipment will
be salvaged at the end of the pro!ect creating a 9.51000 afterta% cash flow. #t the end of the
pro!ect1 net working capital will retrn to its normal level. -hat is the net present vale of this
pro!ect given a re+ired retrn of 1../ percent*
#. 9221'11.'0
$. 9261.15.50
C. 95'1,,0.01
D. 95.10.6.2.
&. 95216'/./.

21. # pro!ect will prodce an operating cash flow of 91.1000 a (ear for 5 (ears. The initial
fi%ed asset investment in the pro!ect will be 9.51600. The net afterta% salvage vale is
estimated at 9111000 and will be received dring the last (ear of the pro!ect's life. -hat is the
net present vale of the pro!ect if the re+ired rate of retrn is 1' percent*
#. 9',10'2./.
$. 9'51020.'0
C. 9,.10'2./.
D. 9,61020.'0
&. 9.110.0.5,

2'. 7wik Jn Hot Dogs is considering the installation of a new compteri)ed pressre cooker
that will ct annal operating costs b( 9',1000. The s(stem will cost 9,61600 to prchase and
install. This s(stem is e%pected to have a .-(ear life and will be depreciated to )ero sing
straight-line depreciation. -hat is the amont of the earnings before interest and ta%es for this
pro!ect*
#. 9101/'/
$. 91,10'/
C. 91/1/'/
D. 9101600
&. 9161.00

10-''
Chapter 10 - Making Capital Investment Decisions
2,. Colors and More is considering replacing the e+ipment it ses to prodce cra(ons. The
e+ipment wold cost 91.,2 million1 have a 1'-(ear life1 and lower manfactring costs b( an
estimated 9,0.1000 a (ear. The e+ipment will be depreciated sing straight-line depreciation
to a book vale of )ero. The re+ired rate of retrn is 1/ percent and the ta% rate is ,/ percent.
-hat is the net income from this proposed pro!ect*
#. 9151/05.2/
$. 9.01'11.'.
C. 9001..1.02
D. 91',1,61.02
&. 91,01206..5

2.. :atewa( Commnications is considering a pro!ect with an initial fi%ed asset cost of 9'..0
million which will be depreciated straight-line to a )ero book vale over the 10-(ear life of
the pro!ect. #t the end of the pro!ect the e+ipment will be sold for an estimated 9,001000.
The pro!ect will not directl( prodce an( sales bt will redce operating costs b( 92'/1000 a
(ear. The ta% rate is ,/ percent. The pro!ect will re+ire 9./1000 of inventor( which will be
recoped when the pro!ect ends. 4hold this pro!ect be implemented if the firm re+ires a 1.
percent rate of retrn* -h( or wh( not*
#. @oK The @=8 is -912'16,2..6.
$. @oK The @=8 is -95215'0..5.
C. ?esK The @=8 is 9'/11500.,.
D. ?esK The @=8 is 9,521/10.02
&. ?esK The @=8 is 9.0016.0./2

2/. ?o are working on a bid to bild two cit( parks a (ear for the ne%t three (ears. This
pro!ect re+ires the prchase of 91501000 of e+ipment that will be depreciated sing straight-
line depreciation to a )ero book vale over the ,-(ear pro!ect life. The e+ipment can be sold
at the end of the pro!ect for 9,.1000. ?o will also need 9'01000 in net working capital for the
dration of the pro!ect. The fi%ed costs will be 9101000 a (ear and the variable costs will be
91051000 per park. ?or re+ired rate of retrn is 1/ percent and (or ta% rate is ,. percent.
-hat is the minimal amont (o shold bid per park* B3ond (or answer to the nearest
9100D
#. 92'1/00
$. 91'51000
C. 91/.1,00
D. 91561100
&. 9'121000

10-',
Chapter 10 - Making Capital Investment Decisions
20. ?o are working on a bid to bild two apartment bildings a (ear for the ne%t / (ears for a
local college. This pro!ect re+ires the prchase of 92/01000 of e+ipment that will be
depreciated sing straight-line depreciation to a )ero book vale over the pro!ect's life. The
e+ipment can be sold at the end of the pro!ect for 9,'/1000. ?o will also need 91.01000 in
net working capital over the life of the pro!ect. The fi%ed costs will be 90'51000 a (ear and
the variable costs will be 911'651000 per bilding. ?or re+ired rate of retrn is 1../ percent
for this pro!ect and (or ta% rate is ,/ percent. -hat is the minimal amont1 ronded to the
nearest 91001 (o shold bid per bilding*
#. 911.',1200
$. 911.561/00
C. 9112,,1000
D. 9'12501000
&. 9,1.0/1600

22. #tomated Manfactrers ses high-tech e+ipment to prodce speciali)ed alminm
prodcts for its cstomers. &ach one of these machines costs 911.501000 to prchase pls an
additional 9.61000 a (ear to operate. The machines have a 0-(ear life after which the( are
worthless. -hat is the e+ivalent annal cost of one these machines if the re+ired retrn is
10 percent*
#. -9./010/2
$. -9.'21106
C. -9,011/50
D. -9'6/1002
&. -9'/016.2

25. Champion $akers ses speciali)ed ovens to bake its bread. Gne oven costs 90561000 and
lasts abot . (ears before it needs to be replaced. The annal operating cost per over is
9.11000. -hat is the e+ivalent annal cost of an oven if the re+ired rate of retrn is 1,
percent*
#. -9'2'10,5
$. -9'.51,1,
C. -9','1.02
D. -9'001/01
&. 91601'10

10-'.
Chapter 10 - Making Capital Investment Decisions
26. =recision Tool is anal()ing two machines to determine which one it shold prchase. The
compan( re+ires a 1/ percent rate of retrn and ses straight-line depreciation to a )ero book
vale over the life of its e+ipment. Machine # has a cost of 956'10001 annal operating costs
of 9'01,001 and a .-(ear life. Machine $ costs 9111'210001 has annal operating costs of
9161/001 and has a /-(ear life. -hichever machine is prchased will be replaced at the end of
its sefl life. =recision Tool shold prchase Machine LLLLL becase it lowers the firm's
annal cost b( appro%imatel( LLLLLLL as compared to the other machine.
#. #K 910160/.
$. #K 9121.0.
C. $K 910160/
D. $K 9121.0.
&. $K 9121/'1

50. The $ck 4tore is considering a pro!ect that will re+ire additional inventor( of 9'101000
and will increase acconts pa(able b( 91511000. #cconts receivable are crrentl( 9/'/1000
and are e%pected to increase b( 6 percent if this pro!ect is accepted. -hat is the pro!ect's
initial cash flow for net working capital*
#. -95'1'/0
$. -91'1'/0
C. 91'1'/0
D. 9,01'/0
&. 9..1'/0

51. The Card 4hoppe needs to maintain ', percent of its sales in net working capital.
Crrentl(1 the shoppe is considering a 0-(ear pro!ect that will increase sales from its crrent
level of 9,521000 to 9.'11000 the first (ear and to 9.0/1000 a (ear for the following / (ears
of the pro!ect. -hat amont shold be inclded in the pro!ect anal(sis for net working capital
in (ear 0 of the pro!ect*
#. -91216.0
$. -9'1660
C. 90
D. 9'1660
&. 91216.0

10-'/
Chapter 10 - Making Capital Investment Decisions
5'. Home >rnishings &%press is e%panding its prodct offerings to reach a wider range of
cstomers. The e%pansion pro!ect incldes increasing the floor inventor( b( 9.,01000 and
increasing its debt to sppliers b( 20 percent of that amont. The compan( will also spend
9./01000 for a bilding contractor to e%pand the si)e of its showroom. #s part of the
e%pansion plan1 the compan( will be offering credit to its cstomers and ths e%pects acconts
receivable to rise b( 9601000. >or the pro!ect anal(sis1 what amont shold be sed as the
initial cash flow for net working capital*
#. -9,61000
$. -9201000
C. -91/01000
D. -9'161000
&. -9,611000

5,. Hollister ; Hollister is considering a new pro!ect. The pro!ect will re+ire 9/''1000 for
new fi%ed assets1 9'151000 for additional inventor(1 and 9,61000 for additional acconts
receivable. 4hort-term debt is e%pected to increase b( 910/1000. The pro!ect has a 0-(ear life.
The fi%ed assets will be depreciated straight-line to a )ero book vale over the life of the
pro!ect. #t the end of the pro!ect1 the fi%ed assets can be sold for '0 percent of their original
cost. The net working capital retrns to its original level at the end of the pro!ect. The pro!ect
is e%pected to generate annal sales of 952/1000 with costs of 90.01000. The ta% rate is ,.
percent and the re+ired rate of retrn is 1. percent. -hat is the pro!ect's cash flow at time
)ero*
#. -9/,01000
$. -901.1000
C. -92'01000
D. -92261000
&. -96..1000

10-'0
Chapter 10 - Making Capital Investment Decisions
5.. Hollister ; Hollister is considering a new pro!ect. The pro!ect will re+ire 9/''1000 for
new fi%ed assets1 9'151000 for additional inventor(1 and 9,61000 for additional acconts
receivable. 4hort-term debt is e%pected to increase b( 910/1000. The pro!ect has a 0-(ear life.
The fi%ed assets will be depreciated straight-line to a )ero book vale over the life of the
pro!ect. #t the end of the pro!ect1 the fi%ed assets can be sold for '0 percent of their original
cost. The net working capital retrns to its original level at the end of the pro!ect. The pro!ect
is e%pected to generate annal sales of 952/1000 and costs of 90.01000. The ta% rate is ,.
percent and the re+ired rate of retrn is 1. percent. -hat is the amont of the earnings
before interest and ta%es for the first (ear of this pro!ect*
#. 9621050
$. 91,01000
C. 91.51000
D. 9'121,'0
&. 9',/1000

5/. Hollister ; Hollister is considering a new pro!ect. The pro!ect will re+ire 9/''1000 for
new fi%ed assets1 9'151000 for additional inventor(1 and 9,61000 for additional acconts
receivable. 4hort-term debt is e%pected to increase b( 910/1000. The pro!ect has a 0-(ear life.
The fi%ed assets will be depreciated straight-line to a )ero book vale over the life of the
pro!ect. #t the end of the pro!ect1 the fi%ed assets can be sold for '0 percent of their original
cost. The net working capital retrns to its original level at the end of the pro!ect. The pro!ect
is e%pected to generate annal sales of 952/1000 and costs of 90.01000. The ta% rate is ,.
percent and the re+ired rate of retrn is 1. percent. -hat is the amont of the afterta% cash
flow from the sale of the fi%ed assets at the end of this pro!ect*
#. 9,/1.60
$. 905160.
C. 910.1.00
D. 9'52101/
&. 9,..1/'0

10-'2
Chapter 10 - Making Capital Investment Decisions
50. Hollister ; Hollister is considering a new pro!ect. The pro!ect will re+ire 9/''1000 for
new fi%ed assets1 9'151000 for additional inventor(1 and 9,61000 for additional acconts
receivable. 4hort-term debt is e%pected to increase b( 910/1000. The pro!ect has a 0-(ear life.
The fi%ed assets will be depreciated straight-line to a )ero book vale over the life of the
pro!ect. #t the end of the pro!ect1 the fi%ed assets can be sold for '0 percent of their original
cost. The net working capital retrns to its original level at the end of the pro!ect. The pro!ect
is e%pected to generate annal sales of 952/1000 and costs of 90.01000. The ta% rate is ,.
percent and the re+ired rate of retrn is 1. percent. -hat is the cash flow recover( from net
working capital at the end of this pro!ect*
#. 91.1000
$. 92/1000
C. 96'1000
D. 9,..1000
&. 9.''1000

52. 7e(ser Mining is considering a pro!ect that will re+ire the prchase of 96501000 in new
e+ipment. The e+ipment will be depreciated straight-line to a )ero book vale over the 2-
(ear life of the pro!ect. The e+ipment can be scraped at the end of the pro!ect for / percent of
its original cost. #nnal sales from this pro!ect are estimated at 9.'01000. @et working capital
e+al to '0 percent of sales will be re+ired to spport the pro!ect. #ll of the net working
capital will be recoped. The re+ired retrn is 10 percent and the ta% rate is ,/ percent. -hat
is the vale of the depreciation ta% shield in (ear . of the pro!ect*
#. 9.61000
$. 9/'1'00
C. 9051000
D. 9211.00
&. 9201/00

10-'5
Chapter 10 - Making Capital Investment Decisions
55. 7e(ser Mining is considering a pro!ect that will re+ire the prchase of 96501000 in new
e+ipment. The e+ipment will be depreciated straight-line to a )ero book vale over the 2-
(ear life of the pro!ect. The e+ipment can be scraped at the end of the pro!ect for / percent of
its original cost. #nnal sales from this pro!ect are estimated at 9.'01000. @et working capital
e+al to '0 percent of sales will be re+ired to spport the pro!ect. #ll of the net working
capital will be recoped. The re+ired retrn is 10 percent and the ta% rate is ,/ percent. -hat
is the amont of the afterta% salvage vale of the e+ipment*
#. 91211/0
$. 9,115/0
C. 91151500
D. 9',21000
&. 9,.,1000

56. 7e(ser Mining is considering a pro!ect that will re+ire the prchase of 96501000 in new
e+ipment. The e+ipment will be depreciated straight-line to a )ero book vale over the 2-
(ear life of the pro!ect. The e+ipment can be scraped at the end of the pro!ect for / percent of
its original cost. #nnal sales from this pro!ect are estimated at 9.'01000. @et working capital
e+al to '0 percent of sales will be re+ired to spport the pro!ect. #ll of the net working
capital will be recoped. The re+ired retrn is 10 percent and the ta% rate is ,/ percent. -hat
is the recover( amont attribtable to net working capital at the end of the pro!ect*
#. 9'11000
$. 9/.1000
C. 95.1000
D. 91251000
&. 91601000


Essay Questions

60. In a single sentence1 e%plain how (o can determine which cash flows shold be inclded
in the anal(sis of a pro!ect.




10-'6
Chapter 10 - Making Capital Investment Decisions
61. -hat is the formla for the ta%-shield approach to GC>* &%plain the two ke( points the
formla illstrates.




6'. -hat is the primar( prpose of compting the e+ivalent annal costs when comparing
two machines* -hat is the assmption that is being made abot each machine*




6,. #ssme a firm sets its bid price for a pro!ect at the minimm level as compted sing the
disconted cash flow method. :iven this1 what do (o know abot the net present vale and
the internal rate of retrn on the pro!ect as bid*




6.. Can the initial cash flow at time )ero for a pro!ect ever be a positive vale* If (es1 give an
e%ample. If no1 e%plain wh( not.




10-,0
Chapter 10 - Making Capital Investment Decisions
6/. How can two firms arrive at two different bid prices when bidding for the same !ob and
given the same bid specifications*





Multiple Choice Questions

60. -innebagel Corp. crrentl( sells '51'00 motor homes per (ear at 9.'1,00 each1 and
111'50 l%r( motor coaches per (ear at 9261600 each. The compan( wants to introdce a
new portable camper to fill ot its prodct line. It hopes to sell 1612.0 of these campers per
(ear at 9111'50 each. #n independent consltant has determined that if -innebagel
introdces the new campers1 it shold boost the sales of its e%isting motor homes b( .1200
nits per (ear1 and redce the sales of its motor coaches b( 11''' nits per (ear. -hat is the
amont that shold be sed as the annal sales figre when evalating this pro!ect*
#. 9'62101,1.00
$. 9,01100'1,00
C. 9,1.11.11500
D. 9,',15,61.00
&. 9,'21'561/00

10-,1
Chapter 10 - Making Capital Investment Decisions
62. Consider the following income statement"

-hat is the amont of the depreciation ta% shield*
#. 9',1002
$. 9'.116'
C. 9'.1/65
D. 9'01'11
&. 9'01616

65. Consider an asset that costs 91201000 and is depreciated straight-line to )ero over its 11-
(ear ta% life. The asset is to be sed in a 2-(ear pro!ectK at the end of the pro!ect1 the asset can
be sold for 9''1000. The relevant ta% rate is ,0 percent. -hat is the afterta% cash flow from
the sale of this asset*
#. 9,11500
$. 9,'1000
C. 9,,1,00
D. 9,.1100
&. 9,.1000

66. =hone Home1 Inc. is considering a new 0-(ear e%pansion pro!ect that re+ires an initial
fi%ed asset investment of 9/.66. million. The fi%ed asset will be depreciated straight-line to
)ero over its 0-(ear ta% life1 after which time it will be worthless. The pro!ect is estimated to
generate 9/1,'51000 in annal sales1 with costs of 9'11,11'00. The ta% rate is ,1 percent.
-hat is the operating cash flow for this pro!ect*
#. 91156.1,15
$. 9'1'111.02
C. 9'1/1/1.5'
D. 9'100,10'1
&. 9'15.51,1/

10-,'
Chapter 10 - Making Capital Investment Decisions
100. =hone Home1 Inc. is considering a new /-(ear e%pansion pro!ect that re+ires an initial
fi%ed asset investment of 9'..5. million. The fi%ed asset will be depreciated straight-line to
)ero over its /-(ear ta% life1 after which time it will be worthless. The pro!ect is estimated to
generate 9'1'051000 in annal sales1 with costs of 955,1'00. The ta% rate is ,' percent and the
re+ired retrn on the pro!ect is 11 percent. -hat is the net present vale for this pro!ect*
#. 911.,'11//
$. 911.,,10/6
C. 911.,.1065
D. 911.,.1'12
&. 911.,/1005

101. =hone Home1 Inc. is considering a new .-(ear e%pansion pro!ect that re+ires an initial
fi%ed asset investment of 9, million. The fi%ed asset will be depreciated straight-line to )ero
over its .-(ear ta% life1 after which time it will have a market vale of 9',11000. The pro!ect
re+ires an initial investment in net working capital of 9,,010001 all of which will be
recovered at the end of the pro!ect. The pro!ect is estimated to generate 9'10.01000 in annal
sales1 with costs of 9110/01000. The ta% rate is ,1 percent and the re+ired retrn for the
pro!ect is 1/ percent. -hat is the net present vale for this pro!ect*
#. 921.10/0
$. 92,,1620
C. 92.11,,/
D. 92.'1'05
&. 92..1/6/

10'. Dog MpN >ranks is looking at a new sasage s(stem with an installed cost of 9,621500.
This cost will be depreciated straight-line to )ero over the pro!ect's 2-(ear life1 at the end of
which the sasage s(stem can be scrapped for 9011'00. The sasage s(stem will save the firm
91''1.00 per (ear in preta% operating costs1 and the s(stem re+ires an initial investment in
net working capital of 9'51/00. #ll of the net working capital will be recovered at the end of
the pro!ect. The ta% rate is ,, percent and the discont rate is 6 percent. -hat is the net
present vale of this pro!ect*
#. -9.11,11
$. -9215'0
C. 9511/02
D. 9651..1
&. 911515'1

10-,,
Chapter 10 - Making Capital Investment Decisions
10,. ?or firm is contemplating the prchase of a new 9110'51000 compter-based order
entr( s(stem. The s(stem will be depreciated straight-line to )ero over its /-(ear life. It will
be worth 91/51.00 at the end of that time. ?o will save 90,,1000 before ta%es per (ear in
order processing costs and (o will be able to redce working capital b( 911/120. Bthis is a
one-time redctionD. The net working capital will retrn to its original level when the pro!ect
ends. The ta% rate is ,/ percent. -hat is the internal rate of retrn for this pro!ect*
#. 11.25 percent
$. 1,..6 percent
C. 15.'1 percent
D. '1.0/ percent
&. ',./5 percent

10.. # .-(ear pro!ect has an initial asset investment of 9,0010001 and initial net working
capital investment of 9'61'001 and an annal operating cash flow of -9.012'0. The fi%ed asset
is fll( depreciated over the life of the pro!ect and has no salvage vale. The net working
capital will be recovered when the pro!ect ends. The re+ired retrn is 1/ percent. -hat is the
pro!ect's e+ivalent annal cost1 or &#C*
#. -91/51.61
$. -91/'1,06
C. -91.2155.
D. -91./1/06
&. -91.'1'1'

10/. Heer &nterprises needs someone to sppl( it with ''/1000 cartons of machine screws per
(ear to spport its manfactring needs over the ne%t 2 (ears1 and (o've decided to bid on
the contract. It will cost (o 9111201000 to install the e+ipment necessar( to start prodctionK
(o'll depreciate this cost straight-line to )ero over the pro!ect's life. ?o estimate that in 2
(ears1 this e+ipment can be salvaged for 92/1000. ?or fi%ed prodction costs will be
9,001000 per (ear1 and (or variable prodction costs shold be 91'.2/ per carton. ?o also
need an initial investment in net working capital of 911'1/001 all of which will be recovered
when the pro!ect ends. ?or ta% rate is ,' percent and (o re+ire a 1, percent retrn on (or
investment. -hat bid price per carton shold (o sbmit*
#. 912.0.
$. 910./0
C. 91/.26
D. 91/.0,
&. 91..51

10-,.
Chapter 10 - Making Capital Investment Decisions
100. Chapman Machine 4hop is considering a .-(ear pro!ect to improve its prodction
efficienc(. $(ing a new machine press for 9/201000 is estimated to reslt in 916'1000 in
annal preta% cost savings. The press falls in the M#C34 /-(ear class1 and it will have a
salvage vale at the end of the pro!ect of 95.1000. The press also re+ires an initial
investment in spare parts inventor( of 9'.10001 along with an additional 9,1000 in inventor(
for each scceeding (ear of the pro!ect. The inventor( will retrn to its original level when the
pro!ect ends. The shop's ta% rate is ,/ percent and its discont rate is 11 percent. 4hold the
firm b( and install the machine press* -h( or wh( not*

#. noK The net present vale is -921.56.
$. noK The net present vale is -9002.
C. (esK The net present vale is 9'11.
D. (esK The net present vale is 9.1,16.
&. (esK The net present vale is 951,0..

102. &ads Indstrial 4(stems Compan( B&I4CD is tr(ing to decide between two different
conve(or belt s(stems. 4(stem # costs 9.'210001 has a 0-(ear life1 and re+ires 911'1000 in
preta% annal operating costs. 4(stem $ costs 9/1210001 has an 5-(ear life1 and re+ires
9261000 in preta% annal operating costs. $oth s(stems are to be depreciated straight-line to
)ero over their lives and will have a )ero salvage vale. -hichever s(stem is chosen1 it will
not be replaced when it wears ot. The ta% rate is ,, percent and the discont rate is '.
percent. -hich s(stem shold the firm choose and wh(*
#. #K The net present vale is 9'111/10.
$. #K The net present vale is -9/5'12'0.
C. #K The net present vale is -9,1.1'10.
D. $K The net present vale is 9,051'''.
&. $" The net present vale is -90'/11',.

10-,/
Chapter 10 - Making Capital Investment Decisions
105. Consider a pro!ect to sppl( 0015001000 postage stamps to the M.4. =ostal 4ervice for the
ne%t / (ears. ?o have an idle parcel of land available that cost 92001000 five (ears agoK if
the land were sold toda(1 it wold net (o 961'10001 afterta%. The land can be sold for
911/001000 after ta%es in / (ears. ?o will need to install 9'1,/01000 in new manfactring
plant and e+ipment to actall( prodce the stampsK this plant and e+ipment will be
depreciated straight-line to )ero over the pro!ect's /-(ear life. The e+ipment can be sold for
9./01000 at the end of the pro!ect. ?o will also need 9.061000 in initial net working capital
for the pro!ect1 and an additional investment of 9,51000 in ever( (ear thereafter. #ll net
working capital will be recovered when the pro!ect ends. ?or prodction costs are 0.,5 cents
per stamp1 and (o have fi%ed costs of 90051000 per (ear. ?or ta% rate is ,1 percent and (or
re+ired retrn on this pro!ect is 11 percent. -hat bid price per stamp shold (o sbmit*
#. 90.015
$. 90.0'0
C. 90.0',
D. 90.0'0
&. 90.0'6

10-,0
Chapter 10 - Making Capital Investment Decisions
Chapter 10 Making Capital Investment Decisions #nswer 7e(


Multiple Choice Questions

1. The difference between a firm's ftre cash flows if it accepts a pro!ect and the firm's ftre
cash flows if it does not accept the pro!ect is referred to as the pro!ect's"
A. incremental cash flows.
$. internal cash flows.
C. e%ternal cash flows.
D. erosion effects.
&. financing cash flows.
3efer to section 10.1

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%"
&o'ic: (ncremental cas) flows

'. The fact that a proposed pro!ect is anal()ed based on the pro!ect's incremental cash flows is
the assmption behind which one of the following principles*
#. nderl(ing vale principle
B. stand-alone principle
C. e+ivalent cost principle
D. salvage principle
&. fndamental principle
3efer to section 10.1

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%"
&o'ic: Stand$along 'rinci'le

10-,2
Chapter 10 - Making Capital Investment Decisions
,. -hich one of the following costs was incrred in the past and cannot be recoped*
#. incremental
$. side
C. snk
D. opportnit(
&. erosion
3efer to section 10.'

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%*
&o'ic: Sun+ cost

.. The option that is foregone so that an asset can be tili)ed b( a specific pro!ect is referred
to as which one of the following*
#. salvage vale
$. wasted vale
C. snk cost
D. opportnit( cost
&. erosion
3efer to section 10.'

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%*
&o'ic: O''ortunity cost

10-,5
Chapter 10 - Making Capital Investment Decisions
/. -hich one of the following best describes the concept of erosion*
#. e%penses that have alread( been incrred and cannot be recovered
$. change in net working capital related to implementing a new pro!ect
C. the cash flows of a new pro!ect that come at the e%pense of a firm's e%isting cash flows
D. the alternative that is forfeited when a fi%ed asset is tili)ed b( a pro!ect
&. the differences in a firm's cash flows with and withot a particlar pro!ect
3efer to section 10.'

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%*
&o'ic: ,rosion

0. -hich one of the following best describes pro forma financial statements*
#. financial statements e%pressed in a foreign crrenc(
$. financial statements where the assets are e%pressed as a percentage of total assets and costs
are e%pressed as a percentage of sales
C. financial statements showing pro!ected vales for ftre time periods
D. financial statements e%pressed in real dollars1 given a stated base (ear
&. financial statements where all acconts are e%pressed as a percentage of last (ear's vales
3efer to section 10.,

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%-
&o'ic: .ro forma financial statements

10-,6
Chapter 10 - Making Capital Investment Decisions
2. -hich one of the following is the depreciation method which allows accelerated write-offs
of propert( nder varios lifetime classifications*
#. I33
B. #C34
C. ##3
D. straight-line to )ero
&. straight-line with salvage
3efer to section 10..

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: Accelerated cost reco!ery system

5. The depreciation ta% shield is best defined as the"
#. amont of ta% that is saved when an asset is prchased.
$. ta% that is avoided when an asset is sold as salvage.
C. amont of ta% that is de when an asset is sold.
D. amont of ta% that is saved becase of the depreciation e%pense.
&. amont b( which the afterta% depreciation e%pense lowers net income.
3efer to section 10./

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%0
&o'ic: De'reciation ta1 s)ield

10-.0
Chapter 10 - Making Capital Investment Decisions
6. The annal annit( stream of pa(ments that has the same present vale as a pro!ect's costs
is referred to as which one of the following*
#. (earl( incremental costs
$. snk costs
C. opportnit( costs
D. erosion cost
E. e+ivalent annal cost
3efer to section 10.0

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$/
Section: "#%2
&o'ic: ,3ui!alent annual cost

10. 7elle('s $askets makes handmade baskets for distribtion to pscale retail otlets. The
firm is crrentl( considering making handmade wreaths as well. -hich one of the following
is the best e%ample of an incremental operating cash flow related to the wreath pro!ect*
#. storing spplies in the same space crrentl( sed for materials storage
$. tili)ing the basket manager to oversee wreath prodction
C. hiring additional emplo(ees to handle the increased workload shold the firm accept the
wreath pro!ect
D. researching the market to determine if wreath sales might be profitable before deciding to
proceed
&. planning on lower interest e%pense b( assming the proceeds of the wreath sales will be
sed to redce the firm's crrentl( otstanding debt
3efer to section 10.1

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%"
&o'ic: 4ele!ant cas) flows

10-.1
Chapter 10 - Making Capital Investment Decisions
11. Danielle's is a frnitre store that is considering adding appliances to its offerings. -hich
of the following shold be considered incremental cash flows of this pro!ect*
I. tili)ing the credit offered b( a spplier to prchase the appliance inventor(
II. benefiting from increased frnitre sales to appliance cstomers
III. borrowing mone( from a bank to fnd the appliance pro!ect
I8. prchasing parts for inventor( to handle an( appliance repairs that might be necessar(
#. I and II onl(
$. III and I8 onl(
C. I1 II1 and I8 onl(
D. II1 III1 and I8 onl(
&. I1 II1 III1 and I8
3efer to sections 10.1 and 10.'

AACSB: N/A
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%" and "#%*
&o'ic: 4ele!ant cas) flows

1'. The stand-alone principle advocates that pro!ect anal(sis shold be based solel( on which
one of the following costs*
#. snk
$. total
C. variable
D. incremental
&. fi%ed
3efer to section 10.1

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%"
&o'ic: (ncremental costs

10-.'
Chapter 10 - Making Capital Investment Decisions
1,. -hich one of the following is an e%ample of a snk cost*
#. 911/00 of lost sales becase an item was ot of stock
B. 911'00 paid to repair a machine last (ear
C. 9'01000 pro!ect that mst be forfeited if another pro!ect is accepted
D. 9.1/00 redction in crrent shoe sales if a store commences selling sandals
&. 911500 increase in comic book sales if a store commences selling p))les
3efer to section 10.'

AACSB: N/A
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%*
&o'ic: Sun+ cost

1.. : ; < =lastic Molders spent 911'00 last week repairing a machine. This week the
compan( is tr(ing to decide if the machine cold be better tili)ed if the( assigned it a
proposed pro!ect. -hen anal()ing the proposed pro!ect1 the 911'00 shold be treated as which
t(pe of cost*
#. opportnit(
$. fi%ed
C. incremental
D. erosion
E. snk
3efer to section 10.'

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%*
&o'ic: Sun+ cost

10-.,
Chapter 10 - Making Capital Investment Decisions
1/. -hich one of the following best illstrates erosion as it relates to a hot dog stand located
on the beach*
#. providing both ketchp and mstard for its cstomer's se
$. repairing the roof of the hot dog stand becase of water damage
C. selling fewer hot dogs becase hambrgers were added to the men
D. offering >rench fries bt not onion rings
&. losing sales de to bad weather
3efer to section 10.'

AACSB: N/A
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%*
&o'ic: ,rosion

10. -hich of the following shold be inclded in the anal(sis of a new prodct*
I. mone( alread( spent for research and development of the new prodct
II. redction in sales for a crrent prodct once the new prodct is introdced
III. increase in acconts receivable needed to finance sales of the new prodct
I8. market vale of a machine owned b( the firm which will be sed to prodce the new
prodct
#. I and III onl(
$. II and I8 onl(
C. I1 II1 and III onl(
D. II1 III1 and I8 onl(
&. I1 II1 III1 and I8
3efer to section 10.'

AACSB: N/A
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%*
&o'ic: (ncremental cas) flows

10-..
Chapter 10 - Making Capital Investment Decisions
12. ?o are considering the prchase of a new machine. ?or anal(sis incldes the evalation
of two machines which have differing initial and ongoing costs and differing lives. -hichever
machine is prchased will be replaced at the end of its sefl life. ?o shold select the
machine which has the"
#. longest life.
$. highest annal operating cost.
C. lowest annal operating cost.
D. highest e+ivalent annal cost.
E. lowest e+ivalent annal cost.
3efer to section 10.0

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$/
Section: "#%2
&o'ic: ,3ui!alent annual cost

15. The bid price is"
#. an afterta% price.
$. the afterta% contribtion margin.
C. the highest price (o shold charge if (o want the pro!ect.
D. the onl( price (o can bid if the pro!ect is to be profitable.
E. the minimm price (o shold charge if (o want to financiall( breakeven.
3efer to section 10.0

AACSB: N/A
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$-
Section: "#%2
&o'ic: Bid 'rice

10-./
Chapter 10 - Making Capital Investment Decisions
16. -hich one of the following will increase a bid price*
#. a decrease in the fi%ed costs
$. a redction in the net working capital re+irement
C. a redction in the firm's ta% rate
D. an increase in the salvage vale
E. an increase in the re+ired rate of retrn
3efer to section 10.0

AACSB: N/A
Bloom's: Com're)ension
Difficulty: (ntermediate
Learning Obecti!e: "#$-
Section: "#%2
&o'ic: Bid 'rice

'0. #ll of the following are related to a proposed pro!ect. -hich of these shold be inclded
in the cash flow at time )ero*
I. prchase of 911.00 of parts inventor( needed to spport the pro!ect
II. loan of 91'/1000 sed to finance the pro!ect
III. depreciation ta% shield of 911100
I8. 901/00 of e+ipment needed to commence the pro!ect
#. I and II onl(
B. I and I8 onl(
C. II and I8 onl(
D. I1 II1 and I8 onl(
&. I1 II1 III1 and I8
3efer to section 10..

AACSB: N/A
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: .roect cas) flows

10-.0
Chapter 10 - Making Capital Investment Decisions
'1. Changes in the net working capital re+irements"
A. can affect the cash flows of a pro!ect ever( (ear of the pro!ect's life.
$. onl( affect the initial cash flows of a pro!ect.
C. onl( affect the cash flow at time )ero and the final (ear of a pro!ect.
D. are generall( e%clded from pro!ect anal(sis de to their irrelevance to the total pro!ect.
&. reflect onl( the changes in the crrent asset acconts.
3efer to section 10..

AACSB: N/A
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: Net wor+ing ca'ital

''. -hich one of the following is a pro!ect cash inflow* Ignore an( ta% effects.
#. decrease in acconts pa(able
$. increase in inventor(
C. decrease in acconts receivable
D. depreciation e%pense based on M#C34
&. e+ipment ac+isition
3efer to section 10..

AACSB: N/A
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: .roect cas) flows

10-.2
Chapter 10 - Making Capital Investment Decisions
',. @et working capital"
#. can be ignored in pro!ect anal(sis becase an( e%penditre is normall( recoped at the end
of the pro!ect.
$. re+irements1 sch as an increase in acconts receivable1 create a cash inflow at the
beginning of a pro!ect.
C. is rarel( affected when a new prodct is introdced.
D. can create either a cash inflow or a cash otflow at time )ero of a pro!ect.
&. is the onl( e%penditre where at least a partial recover( can be made at the end of a pro!ect.
3efer to section 10..

AACSB: N/A
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: Net wor+ing ca'ital

'.. The operating cash flow of a cost ctting pro!ect"
#. is e+al to the depreciation ta% shield.
$. is e+al to )ero becase there is no incremental sales.
C. can onl( be anal()ed b( pro!ecting the sales and costs for a firm's entire operations.
D. incldes an( changes that occr in the crrent acconts.
E. can be positive even thogh there are no sales.
3efer to section 10.0

AACSB: N/A
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%2
&o'ic: Cost reduction 'roect

10-.5
Chapter 10 - Making Capital Investment Decisions
'/. =ro forma statements for a proposed pro!ect shold"
I. be compiled on a stand-alone basis.
II. inclde all the incremental cash flows related to the pro!ect.
III. generall( e%clde interest e%pense.
I8. inclde all pro!ect-related fi%ed asset ac+isitions and disposals.
#. I and II onl(
$. II and III onl(
C. I1 II1 and I8 onl(
D. II1 III1 and I8 onl(
E. I1 II1 III1 and I8
3efer to section 10.,

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%-
&o'ic: .ro forma statement

'0. -hich one of the following statements is correct*
#. =ro!ect anal(sis shold onl( inclde the cash flows that affect the income statement.
B. # pro!ect can create a positive operating cash flow withot affecting sales.
C. The depreciation ta% shield creates a cash otflow for a pro!ect.
D. Interest e%pense shold alwa(s be inclded as a cash otflow when anal()ing a pro!ect.
&. The opportnit( cost of a compan(-owned bilding that is going to be sed in a new
pro!ect shold be inclded as a cash inflow to the pro!ect.
3efer to section 10.0

AACSB: N/A
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%2
&o'ic: Cost cutting 'roect

10-.6
Chapter 10 - Making Capital Investment Decisions
'2. # compan( that tili)es the M#C34 s(stem of depreciation"
#. will have e+al depreciation costs each (ear of an asset's life.
B. will have a greater ta% shield in (ear two of a pro!ect than it wold have if the firm had
opted for straight-line depreciation1 given the same depreciation life.
C. can depreciate the cost of land1 if it so desires.
D. will e%pense less than the entire cost of an asset.
&. cannot e%pense an( of the cost of a new asset dring the first (ear of the asset's life.
3efer to section 10..

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: 5AC4S de'reciation

10-/0
Chapter 10 - Making Capital Investment Decisions
'5. Morris Motors !st prchased some M#C34 /-(ear propert( at a cost of 9'101000. -hich
one of the following will correctl( give (o the book vale of this e+ipment at the end of
(ear '*

#. 9'101000AB1 C 0.'0 C 0.,'D
B. 9'101000 B1 - 0.'0 - 0.,'D
C. 9'101000 B0.'0 C 0.,'D
D. E9'101000 B1 - 0.'0DF B1 - 0.,'D
&. 9'101000AEB1 C 0.'0DB1 C 0.,'DF
3efer to section 10..

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: 5AC4S de'reciation

10-/1
Chapter 10 - Making Capital Investment Decisions
'6. 7e(ser =etrolem !st prchased some e+ipment at a cost of 9021000. -hat is the proper
methodolog( for compting the depreciation e%pense for (ear ' if the e+ipment is classified
as /-(ear propert( for M#C34*

#. 9021000 B1 - 0.'0D 0.,'
$. 9021000AB1 - 0.'0 - 0.,'D
C. 9021000 B1 C 0.,'D
D. 9021000 B1 - 0.,'D
E. 9021000 0.,'
3efer to section 10..

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: 5AC4S de'reciation

10-/'
Chapter 10 - Making Capital Investment Decisions
,0. The crrent book vale of a fi%ed asset that was prchased two (ears ago is sed in the
comptation of which one of the following*
#. depreciation ta% shield
B. ta% de on the salvage vale of that asset
C. crrent (ear's operating cash flow
D. change in net working capital
&. M#C34 depreciation for the crrent (ear
3efer to section 10..

AACSB: N/A
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: &a1 on sal!age !alue

10-/,
Chapter 10 - Making Capital Investment Decisions
,1. The net book vale of e+ipment will"
#. remain constant over the life of the e+ipment.
$. var( in response to changes in the market vale.
C. decrease at a constant rate when M#C34 depreciation is sed.
D. increase over the ta%able life of an asset.
E. decrease slower nder straight-line depreciation than nder M#C34.
3efer to section 10..

AACSB: N/A
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: Boo+ !alue

,'. Three (ears ago1 7no% :lass prchased a machine for a ,-(ear pro!ect. The machine is
being depreciated straight-line to )ero over a /-(ear period. Toda(1 the pro!ect ended and the
machine was sold. -hich one of the following correctl( defines the afterta% salvage vale of
that machine* BT represents the relevant ta% rateD
#. 4ale price C B4ales price - $ook valeD T
$. 4ale price C B4ales price - $ook valeD B1 - TD
C. 4ale price C B$ook vale - 4ale priceD T
D. 4ale price C B$ook vale - 4ale priceD B1 - TD
&. 4ale price B1 - TD
3efer to section 10..

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: Afterta1 sal!age !alue

10-/.
Chapter 10 - Making Capital Investment Decisions
,,. -hich one of the following is a correct method for compting the operating cash flow of a
pro!ect assming that the interest e%pense is e+al to )ero*
#. &$IT C D
$. &$IT - T
C. @I C D
D. B4ales - CostsD B1 - DD B1- TD
&. B4ales - CostsD B1 - TD
3efer to section 10./

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%0
&o'ic: Bottom u' o'erating cas) flow

,.. The operating cash flow for a pro!ect shold e%clde which one of the following*
#. ta%es
$. variable costs
C. fi%ed costs
D. interest e%pense
&. depreciation ta% shield
3efer to section 10./

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%0
&o'ic: O'erating cas) flow

10-//
Chapter 10 - Making Capital Investment Decisions
,/. The bottom-p approach to compting the operating cash flow applies onl( when"
#. both the depreciation e%pense and the interest e%pense are e+al to )ero.
B. the interest e%pense is e+al to )ero.
C. the pro!ect is a cost-ctting pro!ect.
D. no fi%ed assets are re+ired for a pro!ect.
&. both ta%es and the interest e%pense are e+al to )ero.
3efer to section 10./

AACSB: N/A
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%0
&o'ic: Bottom$u' o'erating cas) flow

,0. The top-down approach to compting the operating cash flow"
A. ignores noncash e%penses.
$. applies onl( if a pro!ect increases sales.
C. applies onl( to cost ctting pro!ects.
D. is e+al to sales - costs - ta%es C depreciation.
&. is sed solel( to compte a bid price.
3efer to section 10./

AACSB: N/A
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%0
&o'ic: &o'$down o'erating cas) flow

10-/0
Chapter 10 - Making Capital Investment Decisions
,2. Increasing which one of the following will increase the operating cash flow assming that
the bottom-p approach is sed to compte the operating cash flow*
#. erosion effects
$. ta%es
C. fi%ed e%penses
D. salaries
E. depreciation e%pense
3efer to section 10./

AACSB: N/A
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%0
&o'ic: Bottom$u' o'erating cas) flow

,5. -hich one of the following statements is correct concerning bid prices*
#. The bid price is the ma%imm price that a firm shold bid.
B. # firm can sbmit a bid that is higher than the compted bid price and still break even.
C. # bid price ignores ta%es.
D. # bid price shold be compted based solel( on the operating cash flows of the pro!ect.
&. # bid price shold be compted based on a )ero percent re+ired rate of retrn.
3efer to section 10.0

AACSB: N/A
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$-
Section: "#%2
&o'ic: Bid 'rice

10-/2
Chapter 10 - Making Capital Investment Decisions
,6. Dan is comparing three machines to determine which one to prchase. The machines sell
for differing prices1 have differing operating costs1 differing machine lives1 and will be
replaced when worn ot. -hich one of the following comptational methods shold Dan se
as the basis for his decision*
#. internal rate of retrn
$. operating cash flow
C. e+ivalent annal cost
D. depreciation ta% shield
&. bottom-p operating cash flow
3efer to section 10.0

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$/
Section: "#%2
&o'ic: ,3ui!alent annual cost

.0. The e+ivalent annal cost method is sefl in determining"
#. which one of two machines to prchase if the machines are mtall( e%clsive1 have
differing lives1 and are a one-time prchase.
$. the ta% shield benefits of depreciation given the prchase of new assets for a pro!ect.
C. the operating cash flows of a cost-ctting pro!ect.
D. which one of two investments to accept when the investments have different re+ired rates
of retrn.
E. which one of two machines shold be prchased when the machines are mtall(
e%clsive1 have different machine lives1 and will be replaced once the( are worn ot.
3efer to section 10.0

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$/
Section: "#%2
&o'ic: ,3ui!alent annual cost

10-/5
Chapter 10 - Making Capital Investment Decisions
.1. -hen sing the e+ivalent annal cost as a basis for deciding which e+ipment shold be
prchased1 the e+ipment nder consideration mst fit which two of the following criteria*
I. differing prodctive lives
II. differing manfactrers
III. re+ired replacement at end of economic life
I8. differing initial cost
#. I and II
B. I and III
C. I and I8
D. II and IIII
&. II and I8
3efer to section 10.0

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$/
Section: "#%2
&o'ic: ,3ui!alent annual cost

.'. The e+ivalent annal cost considers which of the following*
I. re+ired rate of retrn
II. operating costs
III. need for replacement
I8. afterta% salvage vale
#. I and II onl(
$. II and I8 onl(
C. II1 III1 and I8 onl(
D. I1 II1 and I8 onl(
E. I1 II1 III1 and I8
3efer to section 10.0

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$/
Section: "#%2
&o'ic: ,3ui!alent annual cost

10-/6
Chapter 10 - Making Capital Investment Decisions
.,. The bid price alwa(s assmes which one of the following*
#. # pro!ect has a one-(ear life.
$. The afterta% net income of the pro!ect is )ero.
C. The net present vale of the pro!ect is )ero.
D. #n( assets prchased will have a positive salvage vale at the end of the pro!ect.
&. #ssets will be depreciated based on M#C34.
3efer to section 10.0

AACSB: N/A
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$-
Section: "#%2
&o'ic: Bid 'rice

... -hich one of the following wold make a pro!ect nacceptable*
#. cash inflow for net working capital at time )ero
$. re+iring fi%ed assets that wold have no salvage vale
C. an e+ivalent annal cost that e%ceeds that of an alternative pro!ect
D. lack of revene generation
&. a depreciation ta% shield that e%ceeds the vale of the interest e%pense
3efer to section 10.0

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$/
Section: "#%2
&o'ic: ,3ui!alent annual cost

10-00
Chapter 10 - Making Capital Investment Decisions
./. Decreasing which one of the following will increase the acceptabilit( of a pro!ect*
#. snk costs
$. salvage vale
C. depreciation ta% shield
D. e+ivalent annal cost
&. acconts pa(able re+irement
3efer to section 10.0

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Learning Obecti!e: "#$/
Section: "#%2
&o'ic: ,3ui!alent annual cost

.0. De%ter 4mith ; Co. is replacing a machine simpl( becase it has worn ot. The new
machine will not affect either sales or operating costs and will not have an( salvage vale at
the end of its /-(ear life. The firm has a ,. percent ta% rate1 ses straight-line depreciation
over an asset's life1 and has a positive net income. :iven this1 which one of the following
statements is correct*
#. #s a pro!ect1 the new machine has a net present vale e+al to mins one times the
machine's prchase price.
$. The new machine will have a )ero rate of retrn.
C. The new machine will generate positive operating cash flows1 at least in the first few (ears
of its life.
D. The new machine will create a cash otflow when the firm disposes of it at the end of its
life.
&. The new machine creates erosion effects.
3efer to section 10./

AACSB: N/A
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%0
&o'ic: De'reciation ta1 s)ield

10-01
Chapter 10 - Making Capital Investment Decisions
.2. 7ell('s Corner $aker( prchased a lot in Gil Cit( 0 (ears ago at a cost of 9'501000.
Toda(1 that lot has a market vale of 9,.01000. #t the time of the prchase1 the compan(
spent 91/1000 to level the lot and another 9'01000 to install storm drains. The compan( now
wants to bild a new facilit( on that site. The bilding cost is estimated at 91..2 million. -hat
amont shold be sed as the initial cash flow for this pro!ect*
#. -911.201000
B. -9115101000
C. -9115'/1000
D. -9115./1000
&. -9115001000
C>
0
O -9,.01000 - 911.201000 O -9115101000

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%*
&o'ic: 4ele!ant cas) flows

.5. 4ailcloth ; More crrentl( prodces boat sails and is considering e%panding its operations
to inclde awnings for homes and travel trailers. The compan( owns land beside its crrent
manfactring facilit( that cold be sed for the e%pansion. The compan( boght this land /
(ears ago at a cost of 9,161000. #t the time of prchase1 the compan( paid 9'.1000 to level
ot the land so it wold be sitable for ftre se. Toda(1 the land is valed at 9'6/1000. The
compan( crrentl( has some nsed e+ipment that it crrentl( owns valed at 9,51000. This
e+ipment cold be sed for prodcing awnings if 91'1000 is spent for e+ipment
modifications. Gther e+ipment costing 9.601000 will also be re+ired. -hat is the amont of
the initial cash flow for this e%pansion pro!ect*
#. -925/1000
$. -95',1000
C. -95,/1000
D. -95/61000
&. -955,1000
C>
0
O -9'6/1000 - 9,51000 - 91'1000 - 9.601000 O -95,/1000

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%*
&o'ic: 4ele!ant costs

10-0'
Chapter 10 - Making Capital Investment Decisions
.6. -ebster ; Moore paid 91,610001 in cash1 for a piece of e+ipment , (ears ago. #t the
beginning of last (ear1 the compan( spent 9'11000 to pdate the e+ipment with the latest
technolog(. The compan( no longer ses this e+ipment in its crrent operations and has
received an offer of 9561000 from a firm that wold like to prchase it. -ebster ; Moore is
debating whether to sell the e+ipment or to e%pand its operations so that the e+ipment can
be sed. -hen evalating the e%pansion option1 what vale1 if an(1 shold the firm assign to
this e+ipment as an initial cost of the pro!ect*
#. 90
$. 9'11000
C. 9561000
D. 91101000
&. 91001000
3elevant vale O 9561000

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%*
&o'ic: O''ortunity cost

/0. The >lff( >eather sells cstomi)ed handbags. Crrentl(1 it sells 151000 handbags
annall( at an average price of 956 each. It is considering adding a lower-priced line of
handbags that sell for 9/6 each. The firm estimates it can sell 21000 of the lower-priced
handbags bt will sell ,1000 less of the higher-priced handbags b( doing so. -hat is the
amont of the sales that shold be sed when evalating the addition of the lower-priced
handbags*
A. 91.01000
$. 9'2/1000
C. 9.1,1000
D. 90',1000
&. 90501000
4ales O B21000 9/6D C B-,1000 956D O 91.01000

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%*
&o'ic: ,rosion

10-0,
Chapter 10 - Making Capital Investment Decisions
/1. Mason >arms prchased a bilding for 92'61000 eight (ears ago. 4i% (ears ago1 repairs
were made to the bilding which cost 91,01000. The annal ta%es on the propert( are
9111000. The bilding has a crrent market vale of 95'/1000 and a crrent book vale of
9.6.1000. The bilding is totall( paid for and solel( owned b( the firm. If the compan(
decides to se this bilding for a new pro!ect1 what vale1 if an(1 shold be inclded in the
initial cash flow of the pro!ect for this bilding*
#. 9.6.1000
$. 9/5'1000
C. 95'/1000
D. 950/1000
&. 96/,1000
Gpportnit( cost O 95'/1000

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%*
&o'ic: O''ortunity cost

/'. ?o own a hose that (o rent for 911100 a month. The maintenance e%penses on the
hose average 9'00 a month. The hose cost 9'161000 when (o prchased it . (ears ago. #
recent appraisal on the hose valed it at 9',61000. If (o sell the hose (o will incr
91.1000 in real estate fees. The annal propert( ta%es are 9.1000. ?o are deciding whether to
sell the hose or convert it for (or own se as a professional office. -hat vale shold (o
place on this hose when anal()ing the option of sing it as a professional office*
#. 9'111500
$. 9''11000
C. 9''/1000
D. 9',/1000
&. 9',61000
Gpportnit( cost O 9',61000 - 91.1000 O 9''/1000

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%*
&o'ic: O''ortunity cost

10-0.
Chapter 10 - Making Capital Investment Decisions
/,. @elson Mfg. owns a manfactring facilit( that is crrentl( sitting idle. The facilit( is
located on a piece of land that originall( cost 91/61000. The facilit( itself cost 911.001000 to
bild. #s of now1 the book vale of the land and the facilit( are 91/61000 and 9./510001
respectivel(. The firm owes no debt on either the land or the facilit( at the present time. The
firm received a bid of 911/001000 for the land and facilit( last week. The firm's management
re!ected this bid even thogh the( were told that it is a reasonable offer in toda('s market. If
the firm was to consider sing this land and facilit( in a new pro!ect1 what cost1 if an(1 shold
it inclde in the pro!ect anal(sis*
#. 90
$. 90121000
C. 911.001000
D. 911/001000
&. 9110161000
3elevant cost O 911/001000

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%*
&o'ic: O''ortunity cost

/.. Cool Comfort crrentl( sells ,00 Class # spas1 ./0 Class C spas1 and '00 del%e model
spas each (ear. The firm is considering adding a mid-class spa and e%pects that if it does it
can sell ,2/ of them. However1 if the new spa is added1 Class # sales are e%pected to decline
to ''/ nits while the Class C sales are e%pected to decline to '00. The sales of the del%e
model will not be affected. Class # spas sell for an average of 91'1000 each. Class C spas are
priced at 901000 and the del%e model sells for 9121000 each. The new mid-range spa will sell
for 951000. -hat is the vale of the erosion*
#. 90001000
$. 911'001000
C. 9115001000
D. 9'1.001000
&. 9,16001000
&rosion O EB,00 - ''/D 91'1000F C EB./0 - '00D 901000F O 9'1.001000

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%*
&o'ic: ,rosion

10-0/
Chapter 10 - Making Capital Investment Decisions
//. Iefferson ; 4ons is evalating a pro!ect that will increase annal sales b( 91,51000 and
annal costs b( 96.1000. The pro!ect will initiall( re+ire 91101000 in fi%ed assets that will be
depreciated straight-line to a )ero book vale over the .-(ear life of the pro!ect. The
applicable ta% rate is ,' percent. -hat is the operating cash flow for this pro!ect*
#. 9111''0
$. 9'616'0
C. 9,512'0
D. 9.01.50
&. 9.010'0
GC> O B91,51000 - 96.1000DB1 - 0.,'D C B91101000A.DB0.,'D O 9,512'0

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%0
&o'ic: De'reciation ta1 s)ield OC6

/0. Marie's >ashions is considering a pro!ect that will re+ire 9'51000 in net working capital
and 9521000 in fi%ed assets. The pro!ect is e%pected to prodce annal sales of 92/1000 with
associated costs of 9/21000. The pro!ect has a /-(ear life. The compan( ses straight-line
depreciation to a )ero book vale over the life of the pro!ect. The ta% rate is ,0 percent. -hat
is the operating cash flow for this pro!ect*
#. -911/'0
$. -9/50
C. 9.'0
D. 91/1050
E. 91215'0
GC> O B92/1000 - 9/21000DB1 - 0.,0D C B9521000A/DB0.,0D O 91215'0

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%0
&o'ic: De'reciation ta1 s)ield OC6

10-00
Chapter 10 - Making Capital Investment Decisions
/2. The $each Hose has sales of 925.1000 and a profit margin of 11 percent. The annal
depreciation e%pense is 91.1000. -hat is the amont of the operating cash flow if the
compan( has no long-term debt*
#. 9051200
$. 92'1'.0
C. 9501'.0
D. 91001'.0
&. 91011200
GC> O B925.1000 0.11D C 91.1000 O 91001'.0

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%0
&o'ic: Bottom$u' OC6

/5. The =ancake Hose has sales of 9110.'10001 depreciation of 9'210001 and net working
capital of 9'151000. The firm has a ta% rate of ,/ percent and a profit margin of 0 percent.
The firm has no interest e%pense. -hat is the amont of the operating cash flow*
#. 9651/'0
B. 91'/1/'0
C. 91.21.50
D. 9'051.50
&. 9,.,1/'0
GC> O B9110.'1000 0.00D C 9'21000 O 91'/1/'0

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%0
&o'ic: Bottom$u' OC6

10-02
Chapter 10 - Making Capital Investment Decisions
/6. @orthern 3ailwa( is considering a pro!ect which will prodce annal sales of 962/1000
and increase cash e%penses b( 95/61000. If the pro!ect is implemented1 ta%es will increase
from 91.11000 to 91/.1000 and depreciation will increase from 916.1000 to 9'2'1000. The
compan( is debt-free. -hat is the amont of the operating cash flow sing the top-down
approach*
#. 9'/1000
B. 910,1000
C. 91/21000
D. 91511000
&. 9'061000
GC> O 962/1000 - 95/61000 - B91/.1000 - 91.11000D O 910,1000

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%0
&o'ic: &o'$down OC6

00. $i-<o Traders is considering a pro!ect that will prodce sales of 9'51000 and increase cash
e%penses b( 9121/00. If the pro!ect is implemented1 ta%es will increase b( 9,1000. The
additional depreciation e%pense will be 911000. #n initial cash otla( of 911.00 is re+ired for
net working capital. -hat is the amont of the operating cash flow sing the top-down
approach*
#. 9.1/00
$. 9/1600
C. 901100
D. 921/00
&. 951600
GC> O 9'51000 - 9121/00 - 9,1000 O 921/00

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%0
&o'ic: &o'$down OC6

10-05
Chapter 10 - Making Capital Investment Decisions
01. # proposed e%pansion pro!ect is e%pected to increase sales of I< Ticker's 4tore b(
9,/1000 and increase cash e%penses b( 9'11000. The pro!ect will cost 9'.1000 and be
depreciated sing straight-line depreciation to a )ero book vale over the .-(ear life of the
pro!ect. The store has a marginal ta% rate of ,0 percent. -hat is the operating cash flow of the
pro!ect sing the ta% shield approach*
#. 9/1000
$. 921500
C. 9111000
D. 91,1,00
&. 91.1000
GC> O B9,/1000 - 9'11000D B1 - 0.,0D C B9'.1000A.D B0.,0D O 9111000

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%0
&o'ic: &a1$s)ield OC6

0'. The <mber ?ard is considering adding a new prodct line that is e%pected to increase
annal sales b( 9',51000 and cash e%penses b( 915.1000. The initial investment will re+ire
9601000 in fi%ed assets that will be depreciated sing the straight-line method to a )ero book
vale over the 0-(ear life of the pro!ect. The compan( has a marginal ta% rate of ,' percent.
-hat is the annal vale of the depreciation ta% shield*
A. 9/11'0
$. 91,1100
C. 9'/15.0
D. 9,'1/00
&. 9.115.0
Depreciation ta% shield O B9601000A0D 0.,' O 9/11'0

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%0
&o'ic: De'reciation ta1 s)ield

10-06
Chapter 10 - Making Capital Investment Decisions
0,. $ernie's $everages prchased some fi%ed assets classified as /-(ear propert( for M#C34.
The assets cost 9521000. -hat will the accmlated depreciation be at the end of (ear three*

#. 91,1/'0
$. 9'/10/0
C. 9,51'.1
D. 9.512/6
E. 90116..
Depreciation O 9521000 B0.'0 C 0.,' C 0.16'D O 90116..

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: Accumulated 5AC4S de'reciation

10-20
Chapter 10 - Making Capital Investment Decisions
0.. ?o !st prchased some e+ipment that is classified as /-(ear propert( for M#C34. The
e+ipment cost 91.21000. -hat will the book vale of this e+ipment be at the end of . (ears
shold (o decide to resell the e+ipment at that point in time*

#. 951.02.'0
B. 9'/1.01.00
C. 9.'1,,0.00
D. 91'11/65..0
&. 91,51/,'.50
$ook 8ale
.
O 91.21000 B0.11/' C 0.0/20D O 9'/1.01.00

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: Boo+ !alue

10-21
Chapter 10 - Making Capital Investment Decisions
0/. =eterborogh Trcking !st prchased some fi%ed assets that are classified as ,-(ear
propert( for M#C34. The assets cost 961500. -hat is the amont of the depreciation e%pense
in (ear ,*

#. 9/,2./'
$. 911,.2.12
C. 911./1.,5
D. 9116'6.11
&. 9'1122./0
Depreciation
,
O 961500 0.1.51 O 911./1.,5

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: 5AC4S de'reciation

10-2'
Chapter 10 - Making Capital Investment Decisions
00. Crafter's 4ppl( prchased some fi%ed assets ' (ears ago at a cost of 9,51200. It no longer
needs these assets so it is going to sell them toda( for 9'/1000. The assets are classified as /-
(ear propert( for M#C34. -hat is the net cash flow from this sale if the firm's ta% rate is ,0
percent*

#. 91,11''.'0
$. 9151/20.00
C. 9'015.,.05
D. 9',102'.50
&. 9'/1'11.06
$ook vale
'
O 9,51200 B1 - 0.'0 - 0.,'D O 9151/20
#fterta% salvage O 9'/1000 C EB9151/20 - 9'/1000D 0.,0F O 9',102'.50

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: Afterta1 sal!age

10-2,
Chapter 10 - Making Capital Investment Decisions
02. ?o own some e+ipment that (o prchased . (ears ago at a cost of 9'101000. The
e+ipment is /-(ear propert( for M#C34. ?o are considering selling the e+ipment toda(
for 92/1/00. -hich one of the following statements is correct if (or ta% rate is ,/ percent*

#. The ta% de on the sale is 9'01.'/.
$. The book vale toda( is 9125102/.'0.
C. The accmlated depreciation to date is 9,21,'..50.
D. The ta%able amont on the sale is 9,21,'..50.
E. The afterta% salvage vale is 90'11,5.05.
#ccmlated depreciation
.
O 9'101000 B0.'0 C 0.,' C 0.16' C 0.11/'D O 9125102/.'0
$ook 8ale
.
O 9'101000 - 9125102/.'0 O 9,21,'..50
Ta%able gain on sale O 92/1/00 - 9,21,'..50 O 9,5112/.'0
Ta% de O 9,5112/.'0 0.,/ O 91,1,01.,'
#fterta% salvage vale O 92/1/00 - 91,1,01.,' O 90'11,5.05

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: Afterta1 sal!age !alue

10-2.
Chapter 10 - Making Capital Investment Decisions
05. &dward's Manfactred Homes prchased some machiner( ' (ears ago for 9,161000.
These assets are classified as /-(ear propert( for M#C34. The compan( is replacing this
machiner( toda( with newer machines that tili)e the latest in technolog(. The old machines
are being sold for 91.01000 to a foreign firm for se in its prodction facilit( in 4oth
#merica. -hat is the afterta% salvage vale from this sale if the ta% rate is ,/ percent*

#. 91,/1.05
$. 91.01000
C. 91.'1,1'
D. 91..1/6'
&. 91.015'0
$ook vale
'
O 9,161000 B1 - 0.'0 - 0.,'D O 91/,11'0
Ta% on sale O B91.01000 - 91/,11'0D 0.,/ O -9.1/6' Bta% savingsD
#fter-ta% cash flow O 91.01000 C 9.1/6' O 91..1/6'

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: Afterta1 sal!age !alue

10-2/
Chapter 10 - Making Capital Investment Decisions
06. $rno's <nch Conter is e%panding and e%pects operating cash flows of 9'01000 a (ear
for . (ears as a reslt. This e%pansion re+ires 9,61000 in new fi%ed assets. These assets will
be worthless at the end of the pro!ect. In addition1 the pro!ect re+ires 9,1000 of net working
capital throghot the life of the pro!ect. -hat is the net present vale of this e%pansion
pro!ect at a re+ired rate of retrn of 10 percent*
#. 9151.22.'6
$. 9'110,,.,,
C. 9'51'55.20
D. 9'61.10.05
E. 9,'1.06./2

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%-
&o'ic: Net 'resent !alue

10-20
Chapter 10 - Making Capital Investment Decisions
20. Iasper Metals is considering installing a new molding machine which is e%pected to
prodce operating cash flows of 92,1000 a (ear for 2 (ears. #t the beginning of the pro!ect1
inventor( will decrease b( 91010001 acconts receivables will increase b( 9'110001 and
acconts pa(able will increase b( 91/1000. #ll net working capital will be recovered at the
end of the pro!ect. The initial cost of the molding machine is 9'.61000. The e+ipment will be
depreciated straight-line to a )ero book vale over the life of the pro!ect. The e+ipment will
be salvaged at the end of the pro!ect creating a 9.51000 afterta% cash flow. #t the end of the
pro!ect1 net working capital will retrn to its normal level. -hat is the net present vale of this
pro!ect given a re+ired retrn of 1../ percent*
#. 9221'11.'0
$. 9261.15.50
C. 95'1,,0.01
D. 95.10.6.2.
&. 95216'/./.
C>
0
O -9'.61000 C 9101000 - 9'11000 C 91/1000 O -9',61000
C0
2
O 92,1000 C 9.51000 - 9101000 C 9'11000 - 91/1000 O 91111000

AACSB: Analytic
Bloom's: Analysis
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%-
&o'ic: Net 'resent !alue

10-22
Chapter 10 - Making Capital Investment Decisions
21. # pro!ect will prodce an operating cash flow of 91.1000 a (ear for 5 (ears. The initial
fi%ed asset investment in the pro!ect will be 9.51600. The net afterta% salvage vale is
estimated at 9111000 and will be received dring the last (ear of the pro!ect's life. -hat is the
net present vale of the pro!ect if the re+ired rate of retrn is 1' percent*
#. 9',10'2./.
B. 9'51020.'0
C. 9,.10'2./.
D. 9,61020.'0
&. 9.110.0.5,

AACSB: Analytic
Bloom's: Analysis
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%-
&o'ic: Net 'resent !alue

2'. 7wik Jn Hot Dogs is considering the installation of a new compteri)ed pressre cooker
that will ct annal operating costs b( 9',1000. The s(stem will cost 9,61600 to prchase and
install. This s(stem is e%pected to have a .-(ear life and will be depreciated to )ero sing
straight-line depreciation. -hat is the amont of the earnings before interest and ta%es for this
pro!ect*
#. 9101/'/
B. 91,10'/
C. 91/1/'/
D. 9101600
&. 9161.00
&arnings before interest and ta%es O 9',1000 - B9,61600A.D O 91,10'/

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%2
&o'ic: Cost$cutting ,B(&

10-25
Chapter 10 - Making Capital Investment Decisions
2,. Colors and More is considering replacing the e+ipment it ses to prodce cra(ons. The
e+ipment wold cost 91.,2 million1 have a 1'-(ear life1 and lower manfactring costs b( an
estimated 9,0.1000 a (ear. The e+ipment will be depreciated sing straight-line depreciation
to a book vale of )ero. The re+ired rate of retrn is 1/ percent and the ta% rate is ,/ percent.
-hat is the net income from this proposed pro!ect*
#. 9151/05.2/
$. 9.01'11.'.
C. 9001..1.02
D. 91',1,61.02
&. 91,01206..5
@et income O E9,0.1000 - B911,201000A1'DF E1 - 0.,/F O 91',1,61.02

AACSB: Analytic
Bloom's: A''lication
Difficulty: (ntermediate
Learning Obecti!e: "#$"
Section: "#%2
&o'ic: Cost$Cutting net income

10-26
Chapter 10 - Making Capital Investment Decisions
2.. :atewa( Commnications is considering a pro!ect with an initial fi%ed asset cost of 9'..0
million which will be depreciated straight-line to a )ero book vale over the 10-(ear life of
the pro!ect. #t the end of the pro!ect the e+ipment will be sold for an estimated 9,001000.
The pro!ect will not directl( prodce an( sales bt will redce operating costs b( 92'/1000 a
(ear. The ta% rate is ,/ percent. The pro!ect will re+ire 9./1000 of inventor( which will be
recoped when the pro!ect ends. 4hold this pro!ect be implemented if the firm re+ires a 1.
percent rate of retrn* -h( or wh( not*
#. @oK The @=8 is -912'16,2..6.
$. @oK The @=8 is -95215'0..5.
C. ?esK The @=8 is 9'/11500.,.
D. ?esK The @=8 is 9,521/10.02
E. ?esK The @=8 is 9.0016.0./2
Initial cash flow O -9'1.001000 - 9./1000 O -9'1/0/1000
GC> O 92'/1000B1 - 0.,/D C B9'1.001000A10DB0.,/D O 9//21,/0
>inal cash flow O 9./1000 C 9,001000 B1 - 0.,/D O 9'.01000

AACSB: Analytic
Bloom's: Analysis
Difficulty: (ntermediate
Learning Obecti!e: "#$*
Section: "#%- and "#%2
&o'ic: Cost$cutting N.7

10-50
Chapter 10 - Making Capital Investment Decisions
2/. ?o are working on a bid to bild two cit( parks a (ear for the ne%t three (ears. This
pro!ect re+ires the prchase of 91501000 of e+ipment that will be depreciated sing straight-
line depreciation to a )ero book vale over the ,-(ear pro!ect life. The e+ipment can be sold
at the end of the pro!ect for 9,.1000. ?o will also need 9'01000 in net working capital for the
dration of the pro!ect. The fi%ed costs will be 9101000 a (ear and the variable costs will be
91051000 per park. ?or re+ired rate of retrn is 1/ percent and (or ta% rate is ,. percent.
-hat is the minimal amont (o shold bid per park* B3ond (or answer to the nearest
9100D
#. 92'1/00
$. 91'51000
C. 91/.1,00
D. 91561100
E. 9'121000
@I O 92/1,2,.0/ - B91501000A,D O 91/1,2,.0/
&$T O 91/1,2,.0/AB1 - 0.,.D O 9',1'6,..1
4ales O 9',1'6,..1 C B91501000A,D C 9101000 C B91051000 'D O 9.,/1'6,..1
$id per park O 9.,/1'6,..1A' O 9'1210.0.21
-hen ronded to the nearest 91001 the bid price is 9'121000.

AACSB: Analytic
Bloom's: Analysis
Difficulty: (ntermediate
Learning Obecti!e: "#$-
Section: "#%2
&o'ic: Bid 'rice

10-51
Chapter 10 - Making Capital Investment Decisions
20. ?o are working on a bid to bild two apartment bildings a (ear for the ne%t / (ears for a
local college. This pro!ect re+ires the prchase of 92/01000 of e+ipment that will be
depreciated sing straight-line depreciation to a )ero book vale over the pro!ect's life. The
e+ipment can be sold at the end of the pro!ect for 9,'/1000. ?o will also need 91.01000 in
net working capital over the life of the pro!ect. The fi%ed costs will be 90'51000 a (ear and
the variable costs will be 911'651000 per bilding. ?or re+ired rate of retrn is 1../ percent
for this pro!ect and (or ta% rate is ,/ percent. -hat is the minimal amont1 ronded to the
nearest 91001 (o shold bid per bilding*
#. 911.',1200
$. 911.561/00
C. 9112,,1000
D. 9'12501000
&. 9,1.0/1600
@I O 9'0612/0.,0 - B92/01000A/D O 9/612/0.,0
&$T O 9/612/0.,0AB1 - 0.,/D O 96116',./.
4ales O 96116',./. C B92/01000A/D C 90'51000 C B911'651000 'D O 9,1.0/16',./.
$id per bilding O 9,1.0/16',./.A' O 9112,'1601.22
-hen ronded to the nearest 91001 the bid price is 9112,,1000

AACSB: Analytic
Bloom's: Analysis
Difficulty: (ntermediate
Learning Obecti!e: "#$-
Section: "#%2
&o'ic: Bid 'rice

10-5'
Chapter 10 - Making Capital Investment Decisions
22. #tomated Manfactrers ses high-tech e+ipment to prodce speciali)ed alminm
prodcts for its cstomers. &ach one of these machines costs 911.501000 to prchase pls an
additional 9.61000 a (ear to operate. The machines have a 0-(ear life after which the( are
worthless. -hat is the e+ivalent annal cost of one these machines if the re+ired retrn is
10 percent*
A. -9./010/2
$. -9.'21106
C. -9,011/50
D. -9'6/1002
&. -9'/016.2

AACSB: Analytic
Bloom's: Analysis
Difficulty: (ntermediate
Learning Obecti!e: "#$/
Section: "#%2
&o'ic: ,3ui!alent annual cost

10-5,
Chapter 10 - Making Capital Investment Decisions
25. Champion $akers ses speciali)ed ovens to bake its bread. Gne oven costs 90561000 and
lasts abot . (ears before it needs to be replaced. The annal operating cost per over is
9.11000. -hat is the e+ivalent annal cost of an oven if the re+ired rate of retrn is 1,
percent*
A. -9'2'10,5
$. -9'.51,1,
C. -9','1.02
D. -9'001/01
&. 91601'10

AACSB: Analytic
Bloom's: Analysis
Difficulty: (ntermediate
Learning Obecti!e: "#$/
Section: "#%2
&o'ic: ,3ui!alent annual cost

10-5.
Chapter 10 - Making Capital Investment Decisions
26. =recision Tool is anal()ing two machines to determine which one it shold prchase. The
compan( re+ires a 1/ percent rate of retrn and ses straight-line depreciation to a )ero book
vale over the life of its e+ipment. Machine # has a cost of 956'10001 annal operating costs
of 9'01,001 and a .-(ear life. Machine $ costs 9111'210001 has annal operating costs of
9161/001 and has a /-(ear life. -hichever machine is prchased will be replaced at the end of
its sefl life. =recision Tool shold prchase Machine LLLLL becase it lowers the firm's
annal cost b( appro%imatel( LLLLLLL as compared to the other machine.
A. #K 910160/.
$. #K 9121.0.
C. $K 910160/
D. $K 9121.0.
&. $K 9121/'1
Difference in costs O -9,,512,0.06 - B-9,//1201.0,D O 910160..6.
Machine # lowers the firm's annal costs b( abot 910160/.

AACSB: Analytic
Bloom's: Analysis
Difficulty: (ntermediate
Learning Obecti!e: "#$/
Section: "#%2
&o'ic: ,3ui!alent annual cost

10-5/
Chapter 10 - Making Capital Investment Decisions
50. The $ck 4tore is considering a pro!ect that will re+ire additional inventor( of 9'101000
and will increase acconts pa(able b( 91511000. #cconts receivable are crrentl( 9/'/1000
and are e%pected to increase b( 6 percent if this pro!ect is accepted. -hat is the pro!ect's
initial cash flow for net working capital*
A. -95'1'/0
$. -91'1'/0
C. 91'1'/0
D. 9,01'/0
&. 9..1'/0
@-C re+irement O -9'101000 C 91511000 - B9/'/1000 0.06D O - 95'1'/0

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: Net wor+ing ca'ital

51. The Card 4hoppe needs to maintain ', percent of its sales in net working capital.
Crrentl(1 the shoppe is considering a 0-(ear pro!ect that will increase sales from its crrent
level of 9,521000 to 9.'11000 the first (ear and to 9.0/1000 a (ear for the following / (ears
of the pro!ect. -hat amont shold be inclded in the pro!ect anal(sis for net working capital
in (ear 0 of the pro!ect*
#. -91216.0
$. -9'1660
C. 90
D. 9'1660
E. 91216.0
@-C recover( O B9.0/1000 - 9,521000D 0.', O 91216.0

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: Net wor+ing ca'ital

10-50
Chapter 10 - Making Capital Investment Decisions
5'. Home >rnishings &%press is e%panding its prodct offerings to reach a wider range of
cstomers. The e%pansion pro!ect incldes increasing the floor inventor( b( 9.,01000 and
increasing its debt to sppliers b( 20 percent of that amont. The compan( will also spend
9./01000 for a bilding contractor to e%pand the si)e of its showroom. #s part of the
e%pansion plan1 the compan( will be offering credit to its cstomers and ths e%pects acconts
receivable to rise b( 9601000. >or the pro!ect anal(sis1 what amont shold be sed as the
initial cash flow for net working capital*
#. -9,61000
$. -9201000
C. -91/01000
D. -9'161000
&. -9,611000
@-C re+irement O -9.,01000 C B0.20 9.,01000D - 9601000 O -9'161000

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: Net wor+ing ca'ital

10-52
Chapter 10 - Making Capital Investment Decisions
5,. Hollister ; Hollister is considering a new pro!ect. The pro!ect will re+ire 9/''1000 for
new fi%ed assets1 9'151000 for additional inventor(1 and 9,61000 for additional acconts
receivable. 4hort-term debt is e%pected to increase b( 910/1000. The pro!ect has a 0-(ear life.
The fi%ed assets will be depreciated straight-line to a )ero book vale over the life of the
pro!ect. #t the end of the pro!ect1 the fi%ed assets can be sold for '0 percent of their original
cost. The net working capital retrns to its original level at the end of the pro!ect. The pro!ect
is e%pected to generate annal sales of 952/1000 with costs of 90.01000. The ta% rate is ,.
percent and the re+ired rate of retrn is 1. percent. -hat is the pro!ect's cash flow at time
)ero*
#. -9/,01000
B. -901.1000
C. -92'01000
D. -92261000
&. -96..1000
Initial cash flow O -9/''1000 - 9'151000 - 9,61000 C 910/1000 O -901.1000

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: (nitial cas) flow

10-55
Chapter 10 - Making Capital Investment Decisions
5.. Hollister ; Hollister is considering a new pro!ect. The pro!ect will re+ire 9/''1000 for
new fi%ed assets1 9'151000 for additional inventor(1 and 9,61000 for additional acconts
receivable. 4hort-term debt is e%pected to increase b( 910/1000. The pro!ect has a 0-(ear life.
The fi%ed assets will be depreciated straight-line to a )ero book vale over the life of the
pro!ect. #t the end of the pro!ect1 the fi%ed assets can be sold for '0 percent of their original
cost. The net working capital retrns to its original level at the end of the pro!ect. The pro!ect
is e%pected to generate annal sales of 952/1000 and costs of 90.01000. The ta% rate is ,.
percent and the re+ired rate of retrn is 1. percent. -hat is the amont of the earnings
before interest and ta%es for the first (ear of this pro!ect*
#. 9621050
$. 91,01000
C. 91.51000
D. 9'121,'0
&. 9',/1000
&$IT O 952/1000 - 90.01000 - B9/''1000A0D O 91.51000

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%-
&o'ic: .roect earnings

10-56
Chapter 10 - Making Capital Investment Decisions
5/. Hollister ; Hollister is considering a new pro!ect. The pro!ect will re+ire 9/''1000 for
new fi%ed assets1 9'151000 for additional inventor(1 and 9,61000 for additional acconts
receivable. 4hort-term debt is e%pected to increase b( 910/1000. The pro!ect has a 0-(ear life.
The fi%ed assets will be depreciated straight-line to a )ero book vale over the life of the
pro!ect. #t the end of the pro!ect1 the fi%ed assets can be sold for '0 percent of their original
cost. The net working capital retrns to its original level at the end of the pro!ect. The pro!ect
is e%pected to generate annal sales of 952/1000 and costs of 90.01000. The ta% rate is ,.
percent and the re+ired rate of retrn is 1. percent. -hat is the amont of the afterta% cash
flow from the sale of the fi%ed assets at the end of this pro!ect*
#. 9,/1.60
B. 905160.
C. 910.1.00
D. 9'52101/
&. 9,..1/'0
#fterta% salvage vale O 9/''1000 0.'0 B1 - 0.,.D O 905160.

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: Afterta1 sal!age

10-60
Chapter 10 - Making Capital Investment Decisions
50. Hollister ; Hollister is considering a new pro!ect. The pro!ect will re+ire 9/''1000 for
new fi%ed assets1 9'151000 for additional inventor(1 and 9,61000 for additional acconts
receivable. 4hort-term debt is e%pected to increase b( 910/1000. The pro!ect has a 0-(ear life.
The fi%ed assets will be depreciated straight-line to a )ero book vale over the life of the
pro!ect. #t the end of the pro!ect1 the fi%ed assets can be sold for '0 percent of their original
cost. The net working capital retrns to its original level at the end of the pro!ect. The pro!ect
is e%pected to generate annal sales of 952/1000 and costs of 90.01000. The ta% rate is ,.
percent and the re+ired rate of retrn is 1. percent. -hat is the cash flow recover( from net
working capital at the end of this pro!ect*
#. 91.1000
$. 92/1000
C. 96'1000
D. 9,..1000
&. 9.''1000
@et working capital recover( O 9'151000 C 9,61000 - 910/1000 O 96'1000

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: Net wor+ing ca'ital reco!ery

10-61
Chapter 10 - Making Capital Investment Decisions
52. 7e(ser Mining is considering a pro!ect that will re+ire the prchase of 96501000 in new
e+ipment. The e+ipment will be depreciated straight-line to a )ero book vale over the 2-
(ear life of the pro!ect. The e+ipment can be scraped at the end of the pro!ect for / percent of
its original cost. #nnal sales from this pro!ect are estimated at 9.'01000. @et working capital
e+al to '0 percent of sales will be re+ired to spport the pro!ect. #ll of the net working
capital will be recoped. The re+ired retrn is 10 percent and the ta% rate is ,/ percent. -hat
is the vale of the depreciation ta% shield in (ear . of the pro!ect*
A. 9.61000
$. 9/'1'00
C. 9051000
D. 9211.00
&. 9201/00
Depreciation ta% shield O 96501000A2 0.,/ O 9.61000

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: De'reciation ta1 s)ield

55. 7e(ser Mining is considering a pro!ect that will re+ire the prchase of 96501000 in new
e+ipment. The e+ipment will be depreciated straight-line to a )ero book vale over the 2-
(ear life of the pro!ect. The e+ipment can be scraped at the end of the pro!ect for / percent of
its original cost. #nnal sales from this pro!ect are estimated at 9.'01000. @et working capital
e+al to '0 percent of sales will be re+ired to spport the pro!ect. #ll of the net working
capital will be recoped. The re+ired retrn is 10 percent and the ta% rate is ,/ percent. -hat
is the amont of the afterta% salvage vale of the e+ipment*
#. 91211/0
B. 9,115/0
C. 91151500
D. 9',21000
&. 9,.,1000
#fterta% salvage vale O 96501000 0.0/ B1 - 0.,/D O 9,115/0

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: Afterta1 sal!age

10-6'
Chapter 10 - Making Capital Investment Decisions
56. 7e(ser Mining is considering a pro!ect that will re+ire the prchase of 96501000 in new
e+ipment. The e+ipment will be depreciated straight-line to a )ero book vale over the 2-
(ear life of the pro!ect. The e+ipment can be scraped at the end of the pro!ect for / percent of
its original cost. #nnal sales from this pro!ect are estimated at 9.'01000. @et working capital
e+al to '0 percent of sales will be re+ired to spport the pro!ect. #ll of the net working
capital will be recoped. The re+ired retrn is 10 percent and the ta% rate is ,/ percent. -hat
is the recover( amont attribtable to net working capital at the end of the pro!ect*
#. 9'11000
$. 9/.1000
C. 95.1000
D. 91251000
&. 91601000
@-C recaptre O 9.'01000 0.'0 O 95.1000

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: Net wor+ing ca'ital reco!ery


Essay Questions

60. In a single sentence1 e%plain how (o can determine which cash flows shold be inclded
in the anal(sis of a pro!ect.
#n( changes in cash flows that will reslt from accepting a new pro!ect shold be inclded in
the anal(sis of that pro!ect.
>eedback" 3efer to section 10.1

AACSB: 4eflecti!e t)in+ing
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%"
&o'ic: 4ele!ant cas) flows

10-6,
Chapter 10 - Making Capital Investment Decisions
61. -hat is the formla for the ta%-shield approach to GC>* &%plain the two ke( points the
formla illstrates.
GC> O B4ales - CostsD B1 - TD C Depreciation T
The formla illstrates that cash income and e%penses affect GC> on an afterta% basis. The
formla also illstrates that even thogh depreciation is a non-cash e%pense it does affect
GC> becase of the ta% savings reali)ed from the depreciation e%pense.
>eedback" 3efer to section 10./

AACSB: 4eflecti!e t)in+ing
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%0
&o'ic: &a1$s)ield OC6

6'. -hat is the primar( prpose of compting the e+ivalent annal costs when comparing
two machines* -hat is the assmption that is being made abot each machine*
The primar( prpose is to compte the annal cost of each machine on a comparable basis so
that the least e%pensive machine can be identified given that the machines generall( have
differing lives and costs. The assmption is that whichever machine is ac+ired1 it will be
replaced at the end of its sefl life.
>eedback" 3efer to section 10.0

AACSB: 4eflecti!e t)in+ing
Bloom's: Com're)ension
Difficulty: Basic
Learning Obecti!e: "#$/
Section: "#%2
&o'ic: ,3ui!alent annual cost

10-6.
Chapter 10 - Making Capital Investment Decisions
6,. #ssme a firm sets its bid price for a pro!ect at the minimm level as compted sing the
disconted cash flow method. :iven this1 what do (o know abot the net present vale and
the internal rate of retrn on the pro!ect as bid*
The disconted cash flow approach to setting a bid price assmes the net present vale of the
pro!ect will be )ero which means the internal rate of retrn mst e+al the re+ired rate.
>eedback" 3efer to section 10.0

AACSB: 4eflecti!e t)in+ing
Bloom's: Analysis
Difficulty: (ntermediate
Learning Obecti!e: "#$-
Section: "#%2
&o'ic: Bid 'rice and N.7

6.. Can the initial cash flow at time )ero for a pro!ect ever be a positive vale* If (es1 give an
e%ample. If no1 e%plain wh( not.
The initial cash flow can be a positive vale. >or e%ample1 if a pro!ect redced net working
capital b( an amont that e%ceeded the initial cost for fi%ed assets1 the initial cash flow wold
be a positive amont.
>eedback" 3efer to section 10.'

AACSB: 4eflecti!e t)in+ing
Bloom's: Analysis
Difficulty: Basic
Learning Obecti!e: "#$"
Section: "#%*
&o'ic: .roect cas) flows

10-6/
Chapter 10 - Making Capital Investment Decisions
6/. How can two firms arrive at two different bid prices when bidding for the same !ob and
given the same bid specifications*
&ach bidding firm sall( arrives at a different calclated bid price becase the( se different
assmptions in the evalation process1 sch as the estimated time to complete the pro!ect1 the
material costs1 and the estimated labor costs. In addition1 firms often times have differing
re+ired rates of retrn and ta% rates.
>eedback" 3efer to section 10.0

AACSB: 4eflecti!e t)in+ing
Bloom's: Analysis
Difficulty: Basic
Learning Obecti!e: "#$-
Section: "#%2
&o'ic: Bid 'rice


Multiple Choice Questions

60. -innebagel Corp. crrentl( sells '51'00 motor homes per (ear at 9.'1,00 each1 and
111'50 l%r( motor coaches per (ear at 9261600 each. The compan( wants to introdce a
new portable camper to fill ot its prodct line. It hopes to sell 1612.0 of these campers per
(ear at 9111'50 each. #n independent consltant has determined that if -innebagel
introdces the new campers1 it shold boost the sales of its e%isting motor homes b( .1200
nits per (ear1 and redce the sales of its motor coaches b( 11''' nits per (ear. -hat is the
amont that shold be sed as the annal sales figre when evalating this pro!ect*
#. 9'62101,1.00
$. 9,01100'1,00
C. 9,1.11.11500
D. 9,',15,61.00
&. 9,'21'561/00
4ales O B1612.0 9111'50D C B.1200 9.'1,00D C B-11''' 9261600D O 9,',15,61.00

AACSB: Analytic
Bloom's: Analysis
Difficulty: Basic
,OC 8: "#$*
Learning Obecti!e: "#$"
Section: "#%"
&o'ic: 4ele!ant cas) flows

10-60
Chapter 10 - Making Capital Investment Decisions
62. Consider the following income statement"

-hat is the amont of the depreciation ta% shield*
#. 9',1002
B. 9'.116'
C. 9'.1/65
D. 9'01'11
&. 9'01616
Depreciation ta% shield O 92/1000 .,' O 9'.116'

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
,OC 8: "#$/
Learning Obecti!e: "#$"
Section: "#%0
&o'ic: De'reciation ta1 s)ield

10-62
Chapter 10 - Making Capital Investment Decisions
65. Consider an asset that costs 91201000 and is depreciated straight-line to )ero over its 11-
(ear ta% life. The asset is to be sed in a 2-(ear pro!ectK at the end of the pro!ect1 the asset can
be sold for 9''1000. The relevant ta% rate is ,0 percent. -hat is the afterta% cash flow from
the sale of this asset*
#. 9,11500
$. 9,'1000
C. 9,,1,00
D. 9,.1100
E. 9,.1000
$ook vale at end of (ear 2 O 91201000 .A11 O 90.1000
#fterta% salvage vale O 9''1000 C EB90.1000 - 9''1000D .,0F O 9,.1000

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
,OC 8: "#$9
Learning Obecti!e: "#$"
Section: "#%/
&o'ic: Sal!age !alue

66. =hone Home1 Inc. is considering a new 0-(ear e%pansion pro!ect that re+ires an initial
fi%ed asset investment of 9/.66. million. The fi%ed asset will be depreciated straight-line to
)ero over its 0-(ear ta% life1 after which time it will be worthless. The pro!ect is estimated to
generate 9/1,'51000 in annal sales1 with costs of 9'11,11'00. The ta% rate is ,1 percent.
-hat is the operating cash flow for this pro!ect*
#. 91156.1,15
$. 9'1'111.02
C. 9'1/1/1.5'
D. 9'100,10'1
&. 9'15.51,1/
GC> O B/1,'51000 - 9'11,11'00DB1 - 0.,1D C B9/166.1000A0DB0.,1D O 9'1/1/1.5'

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
,OC 8: "#$:
Learning Obecti!e: "#$"
Section: "#%-
&o'ic: O'erating cas) flow

10-65
Chapter 10 - Making Capital Investment Decisions
100. =hone Home1 Inc. is considering a new /-(ear e%pansion pro!ect that re+ires an initial
fi%ed asset investment of 9'..5. million. The fi%ed asset will be depreciated straight-line to
)ero over its /-(ear ta% life1 after which time it will be worthless. The pro!ect is estimated to
generate 9'1'051000 in annal sales1 with costs of 955,1'00. The ta% rate is ,' percent and the
re+ired retrn on the pro!ect is 11 percent. -hat is the net present vale for this pro!ect*
#. 911.,'11//
B. 911.,,10/6
C. 911.,.1065
D. 911.,.1'12
&. 911.,/1005
GC> O B9'1'051000 - 955,1'00DB1 - 0.,'D C B9'1.5.1000A/DB0.,'D O 9110/615.0

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
,OC 8: "#$"#
Learning Obecti!e: "#$"
Section: "#%-
&o'ic: Net 'resent !alue

10-66
Chapter 10 - Making Capital Investment Decisions
101. =hone Home1 Inc. is considering a new .-(ear e%pansion pro!ect that re+ires an initial
fi%ed asset investment of 9, million. The fi%ed asset will be depreciated straight-line to )ero
over its .-(ear ta% life1 after which time it will have a market vale of 9',11000. The pro!ect
re+ires an initial investment in net working capital of 9,,010001 all of which will be
recovered at the end of the pro!ect. The pro!ect is estimated to generate 9'10.01000 in annal
sales1 with costs of 9110/01000. The ta% rate is ,1 percent and the re+ired retrn for the
pro!ect is 1/ percent. -hat is the net present vale for this pro!ect*
#. 921.10/0
B. 92,,1620
C. 92.11,,/
D. 92.'1'05
&. 92..1/6/
GC> O B9'10.01000 - 9110/01000DB1 - 0.,1D C B9,10001000A.DB0.,1D O 911,'/1.00

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
,OC 8: "#$""
Learning Obecti!e: "#$"
Section: "#%-
&o'ic: Net 'resent !alue

10-100
Chapter 10 - Making Capital Investment Decisions
10'. Dog MpN >ranks is looking at a new sasage s(stem with an installed cost of 9,621500.
This cost will be depreciated straight-line to )ero over the pro!ect's 2-(ear life1 at the end of
which the sasage s(stem can be scrapped for 9011'00. The sasage s(stem will save the firm
91''1.00 per (ear in preta% operating costs1 and the s(stem re+ires an initial investment in
net working capital of 9'51/00. #ll of the net working capital will be recovered at the end of
the pro!ect. The ta% rate is ,, percent and the discont rate is 6 percent. -hat is the net
present vale of this pro!ect*
#. -9.11,11
$. -9215'0
C. 9511/02
D. 9651..1
E. 911515'1
GC> O 91''1.00B1 - 0.,,D C B9,621500A2DB0.,,D O 91001201..,

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
,OC 8: "#$"-
Learning Obecti!e: "#$"
Section: "#%-
&o'ic: Net 'resent !alue

10-101
Chapter 10 - Making Capital Investment Decisions
10,. ?or firm is contemplating the prchase of a new 9110'51000 compter-based order
entr( s(stem. The s(stem will be depreciated straight-line to )ero over its /-(ear life. It will
be worth 91/51.00 at the end of that time. ?o will save 90,,1000 before ta%es per (ear in
order processing costs and (o will be able to redce working capital b( 911/120. Bthis is a
one-time redctionD. The net working capital will retrn to its original level when the pro!ect
ends. The ta% rate is ,/ percent. -hat is the internal rate of retrn for this pro!ect*
#. 11.25 percent
$. 1,..6 percent
C. 15.'1 percent
D. '1.0/ percent
&. ',./5 percent
GC> O 900,1000B1 - 0.,/D C B9110'51000A/DB0.,/D O 9/'/1500

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
,OC 8: "#$"/
Learning Obecti!e: "#$"
Section: "#%-
&o'ic: (nternal rate of return

10-10'
Chapter 10 - Making Capital Investment Decisions
10.. # .-(ear pro!ect has an initial asset investment of 9,0010001 and initial net working
capital investment of 9'61'001 and an annal operating cash flow of -9.012'0. The fi%ed asset
is fll( depreciated over the life of the pro!ect and has no salvage vale. The net working
capital will be recovered when the pro!ect ends. The re+ired retrn is 1/ percent. -hat is the
pro!ect's e+ivalent annal cost1 or &#C*
A. -91/51.61
$. -91/'1,06
C. -91.2155.
D. -91./1/06
&. -91.'1'1'

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
,OC 8: "#$"2
Learning Obecti!e: "#$/
Section: "#%2
&o'ic: ,3ui!alent annual cost

10-10,
Chapter 10 - Making Capital Investment Decisions
10/. Heer &nterprises needs someone to sppl( it with ''/1000 cartons of machine screws per
(ear to spport its manfactring needs over the ne%t 2 (ears1 and (o've decided to bid on
the contract. It will cost (o 9111201000 to install the e+ipment necessar( to start prodctionK
(o'll depreciate this cost straight-line to )ero over the pro!ect's life. ?o estimate that in 2
(ears1 this e+ipment can be salvaged for 92/1000. ?or fi%ed prodction costs will be
9,001000 per (ear1 and (or variable prodction costs shold be 91'.2/ per carton. ?o also
need an initial investment in net working capital of 911'1/001 all of which will be recovered
when the pro!ect ends. ?or ta% rate is ,' percent and (o re+ire a 1, percent retrn on (or
investment. -hat bid price per carton shold (o sbmit*
#. 912.0.
$. 910./0
C. 91/.26
D. 91/.0,
&. 91..51
9'2.1'2'.66 O EB= - 91'.2/DB''/1000D - 9,001000FE1 - 0.,'D C B9111201000A2DB0.,'D
= O 91/.26

AACSB: Analytic
Bloom's: Analysis
Difficulty: Basic
,OC 8: "#$";
Learning Obecti!e: "#$-
Section: "#%2
&o'ic: Bid 'rice

10-10.
Chapter 10 - Making Capital Investment Decisions
100. Chapman Machine 4hop is considering a .-(ear pro!ect to improve its prodction
efficienc(. $(ing a new machine press for 9/201000 is estimated to reslt in 916'1000 in
annal preta% cost savings. The press falls in the M#C34 /-(ear class1 and it will have a
salvage vale at the end of the pro!ect of 95.1000. The press also re+ires an initial
investment in spare parts inventor( of 9'.10001 along with an additional 9,1000 in inventor(
for each scceeding (ear of the pro!ect. The inventor( will retrn to its original level when the
pro!ect ends. The shop's ta% rate is ,/ percent and its discont rate is 11 percent. 4hold the
firm b( and install the machine press* -h( or wh( not*

A. noK The net present vale is -921.56.
$. noK The net present vale is -9002.
C. (esK The net present vale is 9'11.
D. (esK The net present vale is 9.1,16.
&. (esK The net present vale is 951,0..
Deprec
1
O 9/201000 0.'0 O 911/1'00
Deprec
'
O 9/201000 0.,' O 915.1,'0
Deprec
,
O 9/201000 0.16'0 O 91101/6'
Deprec
.
O 9/201000 0.11/' O 9001,//.'0
$ook vale
.
O 9/201000 - 911/1'00 - 915.1,'0 - 91101/6' - 9001,//.'0 O 9661/,'.50
#fterta% salvage vale O 95.1000 C B9661/,'.50 - 95.1000DB0.,/D O 9561.,0..5
GC>
1
O 916'1000B1 - 0.,/D C 911/1'00B0.,/D O 910/11'0
GC>
'
O 916'1000B1 - 0.,/D C 915.1,'0B0.,/D O 91561,1'
GC>
,
O 916'1000B1 - 0.,/D C 91101/6'B0.,/D O 910,1/02.'0
GC>
.
O 916'1000B1 - 0.,/D C 9001,//.'0B0.,/D O 91.510'..,'
The machine shold not be prchased becase the net present vale is negative.
10-10/
Chapter 10 - Making Capital Investment Decisions

AACSB: Analytic
Bloom's: Analysis
Difficulty: (ntermediate
,OC 8: "#$":
Learning Obecti!e: "#$*
Section: "#%2
&o'ic: Costs$cutting 'ro'osal

102. &ads Indstrial 4(stems Compan( B&I4CD is tr(ing to decide between two different
conve(or belt s(stems. 4(stem # costs 9.'210001 has a 0-(ear life1 and re+ires 911'1000 in
preta% annal operating costs. 4(stem $ costs 9/1210001 has an 5-(ear life1 and re+ires
9261000 in preta% annal operating costs. $oth s(stems are to be depreciated straight-line to
)ero over their lives and will have a )ero salvage vale. -hichever s(stem is chosen1 it will
not be replaced when it wears ot. The ta% rate is ,, percent and the discont rate is '.
percent. -hich s(stem shold the firm choose and wh(*
#. #K The net present vale is 9'111/10.
B. #K The net present vale is -9/5'12'0.
C. #K The net present vale is -9,1.1'10.
D. $K The net present vale is 9,051'''.
&. $" The net present vale is -90'/11',.
4(stem # shold be chosen becase it has the more positive Bsmaller negativeD net present
vale.

AACSB: Analytic
Bloom's: Analysis
Difficulty: (ntermediate
,OC 8: "#$*#
Learning Obecti!e: "#$"
Section: "#%-
&o'ic: 5utually e1clusi!e 'roects

10-100
Chapter 10 - Making Capital Investment Decisions
105. Consider a pro!ect to sppl( 0015001000 postage stamps to the M.4. =ostal 4ervice for the
ne%t / (ears. ?o have an idle parcel of land available that cost 92001000 five (ears agoK if
the land were sold toda(1 it wold net (o 961'10001 afterta%. The land can be sold for
911/001000 after ta%es in / (ears. ?o will need to install 9'1,/01000 in new manfactring
plant and e+ipment to actall( prodce the stampsK this plant and e+ipment will be
depreciated straight-line to )ero over the pro!ect's /-(ear life. The e+ipment can be sold for
9./01000 at the end of the pro!ect. ?o will also need 9.061000 in initial net working capital
for the pro!ect1 and an additional investment of 9,51000 in ever( (ear thereafter. #ll net
working capital will be recovered when the pro!ect ends. ?or prodction costs are 0.,5 cents
per stamp1 and (o have fi%ed costs of 90051000 per (ear. ?or ta% rate is ,1 percent and (or
re+ired retrn on this pro!ect is 11 percent. -hat bid price per stamp shold (o sbmit*
#. 90.015
$. 90.0'0
C. 90.0',
D. 90.0'0
&. 90.0'6
90/116'5.11 O EB=-90.00,5DB0015001000D - 90051000FE1 - 0.,1F C B9'1,/01000A/DB0.,1D
= O 90.0'0

AACSB: Analytic
Bloom's: A''lication
Difficulty: (ntermediate
,OC 8: "#$**
Learning Obecti!e: "#$-
Section: "#%2
&o'ic: Bid 'rice

10-102