A proposed investment is not expected to have any salvage value at the end of its 5-year life. Because of realistic depreciation practices, the net carrying amount and the salvage value are equal at the end of each year. For present value purposes, cash flows are assumed to occur at the end of each year. The company uses a 12% after-tax target rate of return.The traditional payback period is
Answer(s): B
The payback period is the number of years required to complete the return of the original investment. The cash flows are not time adjusted. When the annual cash flows are not uniform, a cumulative computation is necessary. Thus, the total paybackafter2years is $456,000 ($240,000 + $216,000), and another $44,000 ($500,000 -- $456,000) must be recovered in the third year. The third year fraction is found by assuming that cash flows occur evenly throughout the period. Dividing $44,000 by the $192,000 of third year inflows yields a ratio of .23. Hence, the payback period is 2.23 years.
A proposed investment is not expected to have any salvage value at the end of its 5-year life. Because of realistic depreciation practices, the net carrying amount and the salvage value are equal at the end of each year. For present value purposes, cash flows are assumed to occur at the end of each year. The company uses a 12% after-tax target rate of return.The profitability index is
Answer(s): D
The profitability index is the present value of the estimated net cash inflows over the investment's life divided by the present value of the net initial investment. If the profitability index is greater than 1.0, the investment project should be accepted. The present value of the cash inflows is $712,320, which is calculated as follows: Based on the interest factors for the present value of $1 at 12% and the annual after-tax cash flows, the NPV of the project over its 5-year life isThus, the profitability index is 1.425 ($712,320 + $500,000 net initial investment).
A proposed investment is not expected to have any salvage value at the end of its 5-year life. Because of realistic depreciation practices, the net carrying amount and the salvage value are equal at the end of each year. For present value purposes, cash flows are assumed to occur at the end of each year. The company uses a 12% after-tax target rate of return.Which statement about the internal rate of return of the investment is true?
The NPV method discounts the expected cash flows from a project using the required rate of return. A project is acceptable if its NPV is positive. Based on the interest factors for the present value of $1 at 12% and the annual after-tax cash flows, the NPV of the project over its 5-year life isGiven that the NPV is positive, the investment project should be accepted assuming no capital rationing. Furthermore, the IRR (the discount rate that reduces the NPV to $0) must be greater than the 12% hurdle rate that produced a positive NPV). The higher the discount rate, the lower the NPV.
Yipann Corporation is reviewing an investment proposal. The initial cost, as well as other related data for each year. are presented in the schedule below. All cash flows are assumed to take place at the end of the year. The salvage value of the investment at the end of each year is equal to its net book value, and there will be no salvage value at the end of the investments life.The average annual cash inflow at which Yipann would be indifferent to the investment (rounded to the nearest dollar) is
Answer(s): C
This problem requires the use of the net present value (NPV) method of investment analysis. The objective is to determine what average annual net cash inflow will equal the initial cost when discounted at a rate of 24%. Given that the investment has an expected life of5years, the appropriate time value of money factor is that for the present value of an ordinarjannuityfor5years at 24%. In this case, the annual net cash inflow is unknown, but the product of the factor (2.74) and the inflow is $105,000. Thus, dividing $105000 by 2.74 results in an average annual net cash inflow of $38,321. In other words, if annual inflows are $38,321 per year, the present value is $105,000. This present value is equal to the initial cost, and the net present value is zero. Ata net present value of zero, the investor is indifferent as to whether to undertake the investment.
Yipann Corporation is reviewing an investment proposal. The initial cost, as well as other related data for each year. are presented in the schedule below. All cash flows are assumed to take place at the end of the year. The salvage value of the investment at the end of each year is equal to its net book value, and there will be no salvage value at the end of the investments life.The accounting rate of return for the investment proposal over its life using the initial value of the investment is
The accounting rate of return (or unadjusted rate of return) is computed by dividing the annual increase in accounting net income by the required investment. The average net income over the life of the investment is $19,000 [($15,000 + $17,000 + $19,000 + $21,000 + $23,000) 5 years]. Conse-quently, the accounting rate of return is 18.1% ($19,000 + $105,000).
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