Evergreen Company has two investment opportunities. Both investments cost $5,000 and will provide the same total future cash inflows. The cash receipt schedule for each investment is given below:

All of the following statements describe qualities of relevance except:

Explanation

The most useful information is both relevant and precise. Totally inaccurate information is useless. Likewise, irrelevant information is useless regardless of its accuracy.

Evergreen Company has two investment opportunities. Both investments cost $5,000 and will provide the same total future cash inflows. The cash receipt schedule for each investment is given below:
 

	Investment I						Investment II
Period 1		$	1,100					$	3,220
Period 2			1,100						2,160
Period 3			2,160						2,160
Period 4			4,240						1,060
Total		$	8,600					$	8,600

Select the correct statement.

 

Explanation

The expected cash flows are equal in the two investment opportunities. The time value of money concept recognizes that the present value of a dollar received in the future is less than a dollar. As a result, the cash flows expected from Investment II are preferable to those expected from Investment I since the cash flows occur earlier during the four periods.

Benitez Company currently outsources a relay switch that is a component in one of its products. The switches cost $29 each. The company is considering making the switches internally at the following projected annual production costs:
 

Unit-level material cost	$	5
Unit-level labor cost	$	4
Unit-level overhead	$	3
Batch-level set-up cost (6,000 units per batch)	$	37,000
Product-level supervisory salaries	$	43,500
Allocated facility-level costs	$	32,000

 

The company expects an annual need for 6,000 switches. If the company makes the product, it will have to utilize factory space currently being leased to another company for $2,700 a month. If the company decides to make the parts, total costs will be:

 

Explanation

Outsourced cost of the relay switches:

$29 per unit × 6,000 units = $174,000

Relevant cost for expected production of the relay switches:

Unit-level costs [($5 + $4 + $3) × 6,000 units]	$	72,000
Batch-level costs ($37,000 × 1 batch)		37,000
Product-level costs (supervisory salaries)		43,500
Facility-level costs (rent of factory space of $2,700 × 12 months)		32,400
Total relevant costs	$	184,900

The allocated factory-level costs are not relevant because the company will incur them whether it accepts or rejects the special order.

If the company decides to make the parts, total costs will be $10,900 (= $184,900 − $174,000) more than if the switches are purchased.

An investment that costs $34,500 will produce annual cash flows of $11,530 for a period of 4 years. Given a desired rate of return of 9%, what will the investment generate?

Explanation

Net present value = (Expected annual cash flows × PV factor) − Cost of investment
Net present value = ($11,530 × 3.239720) − $34,500 = $2,854 (rounded)
PV factor from Appendix Table 2 (n = 4, i = 9)

Bates Company plans to add a new item to its line of consumer product offerings. Two possible products are under consideration. Each unit of Product A costs $54 to produce and has a contribution margin of $27, while each unit of Product B costs $84 and has a contribution margin of $28. What is the differential revenue for this decision?  

Explanation

Revenue – Variable cost = Contribution margin

Revenue = Variable cost + Contribution margin

Product A Revenue = $54 + $27 = $81

Product B Revenue = $84 + $28 = $112

Differential revenue = $112 – $81 = $31

When would a variance be labeled as unfavorable?

Thanks