财务会计概念与应用答案Albrecht_Ch_22_SM_3PP.doc

Chapter 22371CHAPTER 22DISCUSSION QUESTIONS1.Capital budgeting is the systematic planning for long-term capital investments. Some examples of decisions that might involve capital budgeting are:a.The decision of whether to purchase new or used assets.b.The decision of whether to repair or to replace assets, such as equipment.c.The decision of choosing between alternative investment projects.d.The decision of whether to buy or to lease.e.Other long-term investment decisions.2.Decisions to invest in assets such as land, buildings, and equipment usually require large outlays of capital. Unless a reasonable return is made on such significant investments, the overall profitability of a firm will suffer dramatically. Long-term investments, by definition, extend over several years. A poor capital budgeting decision will have an adverse effect on a companys earnings for more than just the current period. Other investmentsfor example, in stocks and bondscan usually be terminated by sale through regularly established markets at almost any time. Often, this is not the case for long-term investments in land, buildings, and specialized equipment. Therefore, capital budgeting decisions are not easily modified or reversed.3.The concept that money has value over time is important in accounting and especially in capital budgeting. Like other commodities, money has value because it is a scarce resource. Therefore, an interest payment is generally required for its use. Businesses should seek to use money in the most profitable way possible. Otherwise, companies are likely to incur high opportunity costs and will not keep pace with inflation. Businesses should therefore consider the time value of money when making capital budgeting decisions.4.Accrual accounting is designed to achieve the proper matching of revenues and expenses, as well as to report assets, liabilities, and equities at their proper amounts. As a result, the timing of cash flows is somewhat less important. The timing of cash flows usually can be ignored in a short-run accounting cycle, but management pays close attention to cash flows when interest rates are high to ensure the effective use of cash. When long-term cash flows are emphasized, the time value of money should not be ignored.5.When discounted cash flow methods are used, depreciation is not considered in the calculations, except indirectly through the tax savings it creates. This is because the discounted cash flow methods consider the full amount of an investment as an outflow initially; therefore, the periodic expensing of the investment through depreciation expense would double-count the cost of the project.6.Cost savings and increased revenues are related in that they both are considered cash inflows, and they both increase the profit potential of an investment alternative.7.Four capital budgeting methods are (a) the payback method, (b) the unadjusted rate of return method, (c) the net present value method, and (d) the internal rate of return method. The net present value and the internal rate of return methods are considered superior to the other methods because they recognize the time value of money. They provide better estimates of whether the projects under consideration will meet the companys goals and maximize the return on investment.8.The payback method is inferior to the discounted cash flow methods because it does not compare cash inflows and outflows, does not take into account the time value of money, and does not determine the quality of an investment in terms of a desired rate of return.The payback method may be helpful when a business is in a tight cash position, such as when the economy is slow or during seasonal peaks. During these timeswhen a company does not have excess funds and needs to accelerate the returns on the cash it does havethe payback method can help management compare alternative investments in terms of the length of time that the companys money will be tied up. However, to overcome its deficiencies, the payback method should be used along with a discounted cash flow method.9.The major weakness of the unadjusted rate of return method is that it does not consider the time value of money.10.No. A net present value of zero indicates that an investment yields the exact return of the discount rate used in the calculation of net present value. Since the discount rate is the minimum acceptable rate, the project may be satisfactory.11.No. As the desired rate of return increases, the discount rate increases, and the discount factors used in capital budgeting techniques decrease. As a result, cash inflows are multiplied by smaller numbers and are therefore lower. The initial costs of investments are always considered at full cost. Thus, lower discounted cash inflows are matched with the full cost of investments being considered, and the net present value is lower.12.An investment with a negative net present value might be accepted when the company is faced with a least-cost decisionthat is, when the company is forced to choose among alternative projects, none of which has a positive net present value. An example of this would be if the government required a steel factory to install pollution- control equipment. The company would select the particular equipment that would be least costly. Qualitative factors could also cause a firm to accept a project with a negative net present value.13.The internal rate of return is the discount rate that gives a net present value of zero. The internal rate of return is determined by interpolation from table values or, if uneven cash flows are involved, by trial and error. A good business calculator (in the hands of a skillful user) can also be used to compute the internal rate of return.14.A companys hurdle rate is the companys acceptable minimum discount rate, usually its cost of capital. An investment must provide a return greater than or equal to the hurdle rate in order to be accepted by the company.15.Quality and time considerations can sometimes dictate that a capital investment should be made even though financial returns are marginal. If making an investment means that there will be fewer defects, higher quality, faster delivery of products or services, and therefore more satisfied customers, the investment may be a good one.16.Some qualitative factors, other than quality and time considerations, that may affect strategic and capital investment decisions are consumer and worker safety, personal preferences of company management, pollution and other environmental factors, civic responsibilities, philanthropic interests, and the public relations of the business. These factors are important to the business because they may affect its long-term profitability and its sense of citizenship.17.*Sensitivity analysis helps a firm deal with uncertainties in capital budgeting decisions. It is a method of looking at the effects of possible changes or errors on the results of a capital budgeting analysis.18.*The screening function of capital budgeting determines whether or not an investment project is acceptable. The ranking function determines which project among acceptable alternatives is best.19.*A profitability index is helpful in ranking acceptable investment projects when a company is not able to undertake all acceptable projects because of capital rationing or other constraints.20.*Income taxes influence capital budgeting decisions because they change the amount of cash inflows and outflows. For example, an investment may allow a company to qualify for an expense deduction for the cost of the asset or for repairs.Consequently, the cash inflows and outflows involved in capital budgeting decisions should be converted to after-tax amounts before the present values are computed in order to obtain a realistic measure of net present value.*Relates to expanded material.PRACTICE EXERCISESPE 221 (LO1)Capital Investment Decisions in PlanningThe correct answer is B. Although the success of capital investments may be tied to management bonus plans, this is not a reason why a company should carefully plan its capital investment decisions. Companies normally do not make capital investments to benefit individual members of the management team.PE 222 (LO1)Screening, Ranking, and DiscountingThe correct answer is D.a.False. The process described is ranking, not screening.b.False. The process described is screening, not ranking.c.False. For the comparison of cash flows to be accurate, all amounts should be stated at their value at a common point in time.d.True.e.False. Managers use relatively high discount rates when evaluating investments that involve a high degree of risk.PE 223 (LO1)Discounting Cash OutflowsPresentPresentTimeCashValueValue ofPeriodOutflowsFactorCash OutflowsInitial cash outlayToday$55,0001.0000$55,000.00Future cash outlaysYears 1512,0003.4331*41,197.20Total present valueof cash outflows$96,197.20*From Table II, five years at 14%.Alternatively, one may use a business calculator to calculate this same present value amount.Business Calculator Keystrokes for Present Value of an Annuity:12,000: Press PMT (this is the amount of the annual payments).5: Press N (number of payments).14: Press I (interest rate).Press PV for the answer = $41,196.9716 = $41,196.97 (rounded).PE 224 (LO1)Discounting Cash InflowsPresentPresent TimeCashValueValue of PeriodInflowsFactorCash InflowsRevenuesYears 15$24,0003.4331*$82,394.40Salvage valueYear 520,0000.5194*10,388.00Total present valueof cash inflows$92,782.40*From Table II, five years at 14%.*From Table I, five years at 14%.The company should NOT make this investment because the present value of the cash inflows ($92,782.40) is less than the present value of the cash outflows ($96,197.20) as computed in PE 223.Alternatively, one may use a business calculator to calculate these same present value amounts. Business Calculator Keystrokes for Present Value of an Annuity:24,000: Press PMT (this is the amount of the annual payments).5: Press N (number of payments).14: Press I (interest rate).Press PV for the answer = $82,393.9433 = $82,393.94 (rounded).Business Calculator Keystrokes for Present Value of a Single Payment:20,000: Press FV (this is the amount of the future payment).5: Press N (number of years).14: Press I (interest rate).Press PV for the answer = $10,387.3733 = $10,387.37 (rounded).PE 225 (LO2)Payback MethodPayback period = = = 5.95 yearsPE 226 (LO2)Unadjusted Rate of Return MethodAnnual depreciation = = = $5,000Unadjusted rate of return= = = 6.8%PE 227 (LO1)Cost of CapitalThe companys average cost of capital is 14.45%, as shown below:Cost ofAverage CostTypeCapitalWeight=of CapitalDebt (bonds)8%40%=3.20%Equity (stocks)2045=9.00Equity (retained earnings)1515=2.25Average cost of capital100%14.45%PE 228 (LO3)Net Present Value MethodThe correct answer is D. Because the investment has a negative net present value of ($729), the company would reject the investment. The net present value of each scenario is as follows:Present ValuePresent ValueNet Presentof Inflowsof Outflows=Valuea.$35,740$32,023=$3,717b.$452,800$450,020=$2,780c.$1,003,840$1,003,810=$30d.$125,114$125,843=($729)e.$85,084$82,000=$3,084PE 229 (LO3)Least-Cost DecisionsThe company should choose the second alternative because it has a lower outlay cost, in present value terms, as shown below:Annual cash outflowsDiscount factor=Present value$45,0003.9927*=$179,672Initial cost75,000Outlay cost at net present value$254,672*From Table II, five years at 8%.Alternatively, one may use a business calculator to calculate this same present value amount.Business Calculator Keystrokes for Present Value of an Annuity:45,000: Press PMT (this is the amount of the annual payments).5: Press N (number of payments).8: Press I (interest rate).Press PV for the answer = $179,671.95167 = $179,672 (rounded).PE 2210 (LO3)Calculating Internal Rate of ReturnThe internal rate of return is 9%. Because the investment is for eight years, find row 8 on Table II and move across the row until you come to the factor 5.5348. This is the factor for 9%.Business Calculator Keystrokes for Internal Rate of Return:55,348: Press PV (you must enter the cash outflow as a negative number).10,000: Press PMT (this is the annual cash inflow).8: Press N (number of years).Press I/YR for the answer = 9.0001%.PE 2211 (LO3)Internal Rate of Return InterpolationPresent value factor = = = 6.5212Present Value FactorsRate of ReturnHigh andHigh and Low(Discount Rate)True FactorsFactorsHigh factor8%6.71016.7101True factor6.5212Low factor96.4177Differences1%0.18890.2924To estimate the internal rate of return, make the following calculation:()Internal rate of return = 0.08 + 0.01 = 0.08646 or 8.6% (rounded)Alternatively, one may use a business calculator to calculate the internal rate of return.Business Calculator Keystrokes for Internal Rate of Return:538,000: Press PV (you must enter the cash outflow as a negative number).82,500: Press PMT (this is the annual cash inflow).10: Press N (number of years).Press I/YR for the answer = 8.63794%.PE 2212 (LO3)Uneven Cash Flows and Internal Rate of ReturnThe internal rate of return is 14%. You probably had to do some trial and error to compute this number. The following is the net present value at a 14% rate of return.PresentPresentTimeCashValueValue ofPeriodFlowsFactorCash FlowsPresent value of cash inflows:Net revenuesYears 18$50,0004.6389*$231,945Salvage valueYear 851,5090.3506*18,059Total cash inflows$250,004Present value of cash outflows:Initial costToday$250,0001.0000($250,000)Net present value$0*From Table II, eight years at 14%.*From Table I, eight years at 14%.*Difference is due to rounding in the present value tables.Alternatively, one may use a business calculator to calculate the internal rate of return.Business Calculator Keystrokes for Internal Rate of Return:250,000: Press PV (you must enter the cash outflow as a negative number).50,000: Press PMT (this is the annual cash inflow).51,509: Press FV (this is the salvage value).8: Press N (number of years).Press I/YR for the answer = 14.00002%.PE 2213 (LO4)Qualitative Factors in Strategic and Capital Investment DecisionsThe correct answer is E. Managers cannot rely solely upon quantitative data to make their investment decisions.PE 2214 (LO5)Uncertain Expected Cash Flows*The company must have a net annual cash inflow of $101,800 to break even, as shown below.PresentPresentTimeCashValueValue ofPeriodInflowsFactorCash InflowsSalvage valueYear 10$137,7140.5083*$70,000*From Table I, 10 years at 7%.Initial cost$785,000Discounted salvage value(70,000)Net cost of investment$715,000$715,000 7.0236 (present value factor for an annuity of 10 years at 7%) = $101,800 (rounded) cash flow return in order to break even.Alternatively, one may use a business calculator to calculate the cash flow return in order to break even.Business Calculator Keystrokes:785,000: Press PV (you must enter the cash outflow as a negative number).137,714: Press FV (this is the salvage value).7: Press I/YR (this is the annual interest rate).10: Press N (number of years).Press PMT for the answer = $101,798.94423 = $101,799 (rounded).PE 2215 (LO5)Uncertain Useful Life*The investment will need to last between 8 and 9 years to break even, as shown below: = = 5.5556 at 10%= Between 8 and 9 years of useful lifeAlternatively, one may use a business calculator to calculate the useful life required to break even.Business Calculator Keystrokes:500,000: Press PV (you must enter the cash outflow as a negative number).90,000: Press PMT (this is the annual cash inflow).10: Press I/YR (this is the annual interest rate).Press N for the answer = 8.5083 years.*Relates to expanded material.PE 2216 (LO6)Ranking by the Internal Rate of Return Method*Projects V, X, and Y are below the required internal rate of return and would be rejected. Because these projects are rejected, they should not be ranked. The following table shows all of the projects and the ranking of the five remaining projects.ExpectedScreeningRankingProjectRate of ReturnDecisionDecisionS14%Accept5T24Accept1U20Accept2V10RejectW17Accept4X9RejectY12RejectZ18Accept3PE 2217 (LO6)Profitability Index*Profitability index = = = 1.38PE 2218 (LO6)Ranking Using the Profitability Index*All projects with a profitability index less than 1 should be rejected. The following table shows the screening and ranking decisions for the four projects.Project JProject KProject LProject MPresent value of net cash inflows$1,000,0