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Chapter 26: Q5SE (page 1465)
Using the payback method to make capital investment decisions
Refer to the Hunter Valley Snow Park Lodge expansion project in Short Exercise S26-4. Compute the payback for the expansion project. Round to one decimal place.
The payback period is4.1 years.
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Using ARR to make capital investment decisions Refer to the Henry Hardware information in Exercise E26-20. Assume the project has no residual value. Compute the ARR for the investment. Round to two places.
Henry Hardware is adding a new product line that will require an investment of \(1,512,000. Managers estimate that this investment will have a 10-year life and generate net cash inflows of \)310,000 the first year, \(270,000 the second year, and \)240,000 each year thereafter for eight years.
Question: Using payback to make capital investment decisions Consider the following three projects. All three have an initial investment of \(800,000.
| Net Cash Inflows | ||||||
| Project L | Project M | Project N | ||||
Year | Annual | Accumulated | Annual | Accumulated | Annual | Accumulated |
1 | \) 100,000 | \( 100,000 | \) 200,000 | \( 200,000 | \) 400,000 | $ 400,000 |
2 | 100,000 | 200,000 | 250,000 | 450,000 | 400,000 | 800,000 |
3 | 100,000 | 300,000 | 350,000 | 800,000 | ||
4 | 100,000 | 400,000 | 400,000 | 1,200,000 | ||
5 | 100,000 | 500,000 | 500,000 | 1,700,000 | ||
6 | 100,000 | 600,000 | ||||
7 | 100,000 | 700,000 | ||||
8 | 100,000 | 800,000 | ||||
Requirements
Question: Defining capital investments and the capital budgeting process
Match each capital budgeting method with its definition.
Methods
1. Accounting rate of return
2. Internal rate of return
3. Net present value
4. Payback
Definitions
Match the following business activities to the steps in capital budgeting process.
Steps in the capital budgeting process:
a. Develop strategies
b. Plan
c. Direct
d. Control
Business activities:
1. A manager evaluates progress one year into the project.
2. Employees submit suggestions for new investments.
3. The company builds a new factory.
4. Top management attends a retreat to set long-term goals.
5. Proposed investments are analyzed.
6. Proposed investments are ranked.
7. New equipment is purchased.
Refer to Short Exercise S26-4. Assume the expansion has no residual value. What is the project’s NPV (round to nearest dollar)? Is the investment attractive? Why or why not?
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