Suture Corporation's discount rate is 12%. If Suture has a 5-year investment project that has a project profitability index of zero, this means that:

Suture Corporation's discount rate is 12%. If Suture has a 5-year investment project that has a project profitability index of zero, this means that:

            A)      the net present value of the project is equal to zero.

            B)      the internal rate of return of the project is equal to the discount rate.

            C)      the payback period of the project is equal to the project's useful life.

            D)      both A and B above are true.

           

            Ans:  D     AACSB:  Analytic     AICPA BB:  Critical Thinking     AICPA FN:  Reporting     LO:  1,2,4,5     Level:  Hard

      17. Amster Corporation has not yet decided on the required rate of return to use in its capital budgeting. This lack of information will prevent Amster from calculating a project's:

           

	Payback	Net Present Value	Internal Rate of Return
A)	No	No	No
B)	Yes	Yes	Yes
C)	No	Yes	Yes
D)	No	Yes	No

            Ans:  D     AACSB:  Analytic     AICPA BB:  Critical Thinking     AICPA FN:  Reporting     LO:  1,2,5     Level:  Medium     Source:  CMA, adapted

      18. If income taxes are ignored, how is depreciation used in the following capital budgeting techniques?

           

	Internal Rate of Return	Net Present Value
A)	Excluded	Excluded
B)	Excluded	Included
C)	Included	Excluded
D)	Included	Included

            Ans:  A     AACSB:  Analytic     AICPA BB:  Critical Thinking     AICPA FN:  Reporting     LO:  1,2     Level:  Medium     Source:  CPA, adapted

      19. If the net present value of a project is zero based on a discount rate of 16%, then the internal rate of return is:

            A)      equal to 16%.

            B)      less than 16%.

            C)      greater than 16%.

            D)      cannot be determined from this data.

           

            Ans:  A     AACSB:  Analytic     AICPA BB:  Critical Thinking     AICPA FN:  Reporting     LO:  1,2     Level:  Medium

      20. Three potential investment projects (A, B, and C) at Nit Corporation all require the same initial investment, have the same useful life (3 years), and have no expected salvage value. Expected net cash inflows from these three projects each year is as follows:

		A	B	C
	Year 1........	$1,000	$2,000	$3,000
	Year 2........	$2,000	$2,000	$2,000
	Year 3........	$3,000	$2,000	$1,000

            What can be determined from the information provided above?

            A)      the net present value of project C will be the highest.

            B)      the internal rate of return of projects A and C cannot be computed.

            C)      the net present value and the internal rate of return will be the same for all three projects.

            D)      both A and B above.

           

            Ans:  A     AACSB:  Analytic     AICPA BB:  Critical Thinking     AICPA FN:  Reporting     LO:  1     Level:  Hard

      21. A project's net present value, ignoring income taxes, is affected by:

            A)      the net book value of an asset that is replaced.

            B)      the depreciation on an asset that is replaced.

            C)      the depreciation to be taken on assets used directly on the project.

            D)      proceeds from the sale of an asset that is replaced.

           

            Ans:  D     AACSB:  Analytic     AICPA BB:  Critical Thinking     AICPA FN:  Reporting     LO:  1     Level:  Easy     Source:  CPA, adapted

      22. A company has unlimited funds to invest at its discount rate. The company should invest in all projects having:

            A)      an internal rate of return greater than zero.

            B)      a net present value greater than zero.

            C)      a simple rate of return greater than the discount rate.

            D)      a payback period less than the project's estimated life.

           

            Ans:  B     AACSB:  Reflective Thinking     AICPA BB:  Critical Thinking     AICPA FN:  Reporting     LO:  1     Level:  Easy     Source:  CMA, adapted

      23. When the cash flows are the same every period after the initial investment in a project, the payback period is equal to:

            A)      the net present value.

            B)      the simple rate of return.

            C)      the factor of the internal rate of return.

            D)      the payback rate of return.

           

            Ans:  C     AACSB:  Analytic     AICPA BB:  Critical Thinking     AICPA FN:  Reporting     LO:  2,5     Level:  Hard     Source:  CMA, adapted

      24. The internal rate of return method assumes that a project's cash flows are reinvested at the:

            A)      internal rate of return.

            B)      simple rate of return.

            C)      required rate of return.

            D)      payback rate of return.

           

            Ans:  A     AACSB:  Reflective Thinking     AICPA BB:  Critical Thinking     AICPA FN:  Reporting     LO:  2     Level:  Medium     Source:  CMA, adapted

      25. (Ignore income taxes in this problem.) Which of the following would be used in the calculation of the internal rate of return of an investment in new machinery to replace old machinery?

            A)      The annual depreciation expense on the new machinery.

            B)      The cost of an overhaul that would be needed on the old machinery in three years.

            C)      The salvage value of the old machinery in ten years.

            D)      both B and C above.

           

            Ans:  D     AACSB:  Analytic     AICPA BB:  Critical Thinking     AICPA FN:  Reporting     LO:  2     Level:  Medium

      26. The project profitability index and the internal rate of return:

            A)      will always result in the same preference ranking for investment projects.

            B)      will sometimes result in different preference rankings for investment projects.

            C)      are less dependable than the payback method in ranking investment projects.

            D)      are less dependable than net present value in ranking investment projects.

           

            Ans:  B     AACSB:  Analytic     AICPA BB:  Critical Thinking     AICPA FN:  Reporting     LO:  4,5     Level:  Medium

      27. Zonifugal Corporation needs to purchase a new conveyor system for its factory. Four different conveyor systems have been proposed. Which calculation would be the best one for Zonifugal to use to determine which system to purchase?

            A)      payback period

            B)      simple rate of return

            C)      net present value

            D)      project profitability index

           

            Ans:  D     AACSB:  Analytic     AICPA BB:  Critical Thinking     AICPA FN:  Reporting     LO:  4     Level:  Medium

      28. A preference decision:

            A)      is concerned with whether a project clears the minimum required rate of return hurdle.

            B)      comes before the screening decision.

            C)      is concerned with determining which of several acceptable alternatives is best.

            D)      responses A, B, and C are all correct.

           

            Ans:  C     AACSB:  Analytic     AICPA BB:  Critical Thinking     AICPA FN:  Reporting     LO:  4     Level:  Easy

      29. In an equipment investment decision, which of the following amounts would be unaffected by a change in the tax rate?

            A)      the present value of the initial investment in the equipment.

            B)      the present value of the increase in working capital needed.

            C)      the present value of the salvage value of the equipment.

            D)      both A and B above.

           

            Ans:  D     AACSB:  Analytic     AICPA BB:  Critical Thinking     AICPA FN:  Reporting     Appendix:  14C     LO:  8     Level:  Medium

      30. When evaluating a project, the portion of the fixed corporate headquarters expense that would be allocated to the project should be:

            A)      included as a cash outflow on an after-tax basis by multiplying the expense by one minus the tax rate.

            B)      included as a cash outflow on an after-tax basis by multiplying the expense by the tax rate.

            C)      included as a cash outflow on a before-tax basis.

            D)      ignored.

           

            Ans:  D     AACSB:  Analytic     AICPA BB:  Critical Thinking     AICPA FN:  Reporting     Appendix:  14C     LO:  8     Level:  Hard

      31. (Ignore income taxes in this problem.) Given the following data:

           

	Cost of equipment.............	$55,750
	Annual cash inflows..........	$10,000
	Internal rate of return.........	16%

            The life of the equipment must be:

            A)      it is impossible to determine from the data given

            B)      15 years

            C)      12.5 years

            D)      5.75 years

           

            Ans:  B     AACSB:  Analytic     AICPA BB:  Critical Thinking     AICPA FN:  Reporting     LO:  2     Level:  Hard

            Solution:

            The internal rate of return factor is 5.575, or $55,750 ÷ $10,000. In the table for the Present Value of an Annuity of $1 in Arrears, the factor of 5.575 can be found in the 16% column in the 15^th row; 15 then represents the life of the equipment.