I.
COST OF INVESTMENT
1. Bravado Company is considering to replace its old equipment with a new one.
The old equipment has a net book value of P100, 000 and 4 remaining useful
years with P25,000 depreciation each year. The old equipment can be sold at
P80, 000. The new equipment costs, P160,000 have a 4 year life. Cash savings
on operating expenses before 40% taxes amount to P50, 000 per year. What is
the amount of investment in the new equipment?
b.
P160,000
c.
P 72,000
d.
P 80,000
e.
P 68,000
2. The Miracle Company is planning to purchase a new machine which it will
depreciate for book purposes, on a straight-line basis over a ten year period with
no salvage value and a full year depreciation taken in the year of acquisition. The
new machine is expected to produce cash flow from operations, net of income
taxes of P66,000 a year in each of the next ten years. The accounting (book
value) rate of return on the initial investment is expected to be 12 percent. How
much will the new machine cost?
a. P300,000
b. P660,000
c. P550,000
d. P792,000
3.
Fermin printers, Inc. is planning to replace its present printing equipment with a
more efficient unit. The new equipment will cost P400,000, with a five-year
useful life, no salvage value. The old unit was acquired three years ago for
P500,000. The company uses the straight-line method in depreciable assets.
The old unit is being depreciated at P62,500 per year. If the new equipment is
acquired, the old one will be sold for P100,000. Otherwise, the company will just
continue using it for 5 years. Cash operating costs are P100,000 and P220,000
for new and old equipment, respectively. Income tax is at the rate of 32% of
income before tax. What is the net cost of investment in the new equipment for
decision-making purposes?
a. P232,000
b. P400,000
c. P300,000
d. P368,000
1
4.
Pepin Company is considering replacing a machine that has the following
characteristics.
Book value
Remaining useful life
Annual straight-line depreciation
Current market value
P100,000
5 years
P ??
P 60,000
The replacement machine would cost P150,000, have a five-year life, and save
P50,000 per year in cash operating costs. It would be depreciated using the
straight-line method. The tax rate is 40%. What is the net investment required
to replace the existing machine?
5.
a.
P74,000
b.
P73,500
c.
P65,000
d.
P75,000
Rusk Company is considering replacing a machine that has the following
characteristics.
Book value
Remaining useful life
Annual straight-line depreciation
Current market value
P200,000
4 years
P ???
P160,000
The replacement machine would cost P300,000, have a four-year life, and save
P37,500 per year in cash operating costs. It would be depreciated using the
straight-line method. The tax rate is 40%. What is the net investment required
to replace the existing machine?
a.
P124,000
b.
P125,000
c.
P123,000
d.
P142,000
2
II.
TAX EFFECT
1.
Myrid Company is considering replacing its old machine with a new and more
efficient one. The old machine has a book value of P100, 000, a remaining
useful life of 4 years, and annual straight line depreciation of P25, 000. The
existing machine has a current market value of P80, 000. The replacement
machine would cost P160, 000 have a 4 year life, and will save P50, 000 per
year in cash operating costs. If the replacement machine would be depreciated
using the straight line method and tax rate is 40%, what should be the increase
in annual income tax?
a. P14,000
b. P28,000
c. P40,000
d. P 4,000
2.
Rusk Company is considering replacing a machine that has the following
characteristics.
Book value
Remaining useful life
Annual straight-line depreciation
Current market value
P200,000
4 years
P ???
P160,000
The replacement machine would cost P300,000, have a four-year life, and save
P37,500 per year in cash operating costs. It would be depreciated using the
straight-line method. The tax rate is 40%. What is the increase in annual income
taxes if the company replaces the machine?
a. P6,000
b. P5,000
c. P6,500
d. P5,600
3.
Pepin Company is considering replacing a machine that has the following
characteristics.
Book value
Remaining useful life
Annual straight-line depreciation
Current market value
P100,000
5 years
P ???
P 60,000
3
The replacement machine would cost P150,000, have a five-year life, and save
P50,000 per year in cash operating costs. It would be depreciated using the
straight-line method. The tax rate is 40%. What is the increase in annual
income taxes if the company replaces the machine?
a.
b.
c.
d.
P18,000
P16,000
P15,500
P25,000
4
III. PAYBACK
PERIOD
1. If an asset costs P35, 000 and is expected to have a P5, 000 salvage value at the
end of its ten year life. And generates annual net cash inflows of P5, 000 each
year. The payback period is:
a. 8 years
b. 7 years
c. 6 years
d. 5 years
2. Umali Corporation is considering an investment in a new cheese cutting machine
to replace its existing cheese cutter. Information on the existing machine and
replacement machine follow:
Cost of the new machine
P400,000
Net annual savings in operating costs
90,000
Salvage value now of the old machine
60,000
Salvage value of the old machine in 8 years
0
Salvage value of the new machine in 8 years
50,000
Estimated life of the new machine
8 years
What is the expected payback period for the new machine?
a. 4.44 years
b. 8.50 years
c. 2.67 years
d. 3.78 years
3. For P4,500,000, Siren Corporation purchased a new machine with an estimated
useful life of five years with no salvage value at its retirement. The machine is
expected to produce cash flow from operations, net of income taxes as follows;
First year
P900,000
5
Second year
1,200,000
Third year
1,500,000
Fourth year
900,000
Fifth year
800,000
Siren will use the sum of the year’s digits method to depreciate the new
machine as follows;
First year
Second year
P1,500,000
1,200,000
Third year
900,000
Fourth year
600,000
Fifth year
300,000
What is the payback period for the machine?\
a. 3 years
b. 4 years
c. 5 years
d. 2 years
4. Consider a project that requires cash outflow of P50, 000 with a life of eight years
and a salvage value of P5, 000. Annual before tax cash inflows amounts to
P10,000. Salvage valued is ignored in computing depreciation. Assuming a tax
rate of 30% and a required rate return of 8% what is the payback period for the
project?
a. 5.0 years
b. 5.6 years
c. 6.0 years
d. 6.6 years
5. Machine Manufacturing Company considers a projects that will require an initial
investment of P500,000 and is expected to generate future cash flows of
6
P200,000 for year 1 through 3 and P100,000 for year 4 through 7. The project’s
payback period is
a. 2.50 years
b. 3.50 years
c. 1.67 years
d. 3.33 years
6. Vhong Corporation has determined that if a new equipment costing P120,000 is
purchased, the company’s net income will increase by P10,000 per year. If the
new equipment will be depreciated using the straight-line method over a period of
six years to a zero salvage value, the payback period is
a.
6.00 years
b. 12.00 years
7.
c.
0.25 years
d.
4.00 years
Coffee Co. has the opportunity to introduce a new product. Coffee Co. expects
the product to sell for P100 and to have per-unit variable costs of P60 and
annual cash fixed costs of P4,000,000. Expected annual sales volume is
200,000 units. The equipment needed to bring out the new product costs
P6,000,000, has a four-year life and no salvage value, and would be
depreciated on a straight-line basis. Coffee Co. cost of capital is 12% and its
income tax rate is 40%.What is the payback period on this project?
a.2 years
b.1.75 years
c.2.2 years
d.1.8 years
8.
Willow Company is considering the purchase of a machine with the following
characteristics.
Cost
Estimated useful life
Expected annual cash cost savings
P150,000
10 years
P35,000
Market tax rate is 40%, its cost of capital is 12%, and it will use straight-line
depreciation for the new machine. What is the Payback period?
7
a. 3.35 years
b. 5.65 years
c. 5.56 years
d. 6.66 years
9.
Bilt-Rite Co. has the opportunity to introduce a new product. Bilt-Rite expects
the product to sell for P60 and to have per-unit variable costs of P40 and
annual cash fixed costs of P3,000,000. Expected annual sales volume is
250,000 units. The equipment needed to bring out the new product costs
P5,000,000, has a four-year life and no salvage value, and would be
depreciated on a straight-line basis. Bilt-Rite's cost of capital is 10% and its
income tax rate is 40%. What is the Payback period?
a. 2.75 years
b. 2.94 years
c. 3.23 years
d. 2.12 years
IV.
ANNUAL CASH FLOW
8
1.
Vinson Industries Inc. requires all its capital investment projects to have a
payback period of 5 years or shorter. Vinson is currently considering an
equipment purchase that has an initial cost of P900, 000. The equipment is
expected to have a ten year life and a salvage value of P50, 000. Assuming
cash flows are equal, how much annual cash inflows are necessary in order to
meet the payback period requirement?
a. P180,000
b. P170,000
c. P190,000
d. P 90,000
2.
Coffee Co. has the opportunity to introduce a new product. Coffee Co. expects
the product to sell for P100 and to have per-unit variable costs of P60 and
annual cash fixed costs of P4,000,000. Expected annual sales volume is
200,000 units. The equipment needed to bring out the new product costs
P6,000,000, has a four-year life and no salvage value, and would be
depreciated on a straight-line basis. Coffee Co. cost of capital is 12% and its
income tax rate is 40%. What is the increase in annual after-tax cash flows for
this opportunity?
a. P2,500,000.00
b. P3,000,000.00
c. P1,750,000.00
d. P2,255,000.00
3. Willow Company is considering the purchase of a machine with the following
characteristics.
Cost
Estimated useful life
Expected annual cash cost savings
P150,000
10 years
P35,000
Market tax rate is 40%, its cost of capital is 12%, and it will use straight-line
depreciation for the new machine. What is the annual after-tax cash flows?
a. P27,000
b. P27,500
c. P30,000
d. P28,500
4.
Bilt-Rite Co. has the opportunity to introduce a new product. Bilt-Rite expects
9
the product to sell for P60 and to have per-unit variable costs of P40 and
annual cash fixed costs of P3,000,000. Expected annual sales volume is
250,000 units. The equipment needed to bring out the new product costs
P5,000,000, has a four-year life and no salvage value, and would be
depreciated on a straight-line basis. Bilt-Rite's cost of capital is 10% and its
income tax rate is 40%. What is the increase in annual after-tax cash flows?
a. P1,700,000
b. P1,500,000
c. P1,070,000
d. P2,215,000
5.
Pepin Company is considering replacing a machine that has the following
characteristics.
Book value
Remaining useful life
Annual straight-line depreciation
Current market value
P100,000
5 years
P ???
P 60,000
The replacement machine would cost P150,000, have a five-year life, and save
P50,000 per year in cash operating costs. It would be depreciated using the
straight-line method. The tax rate is 40%. What is the increase in annual net
cash flows if the company replaces the machine?
a. P44,000
b. P34,000
c.
P33,000
d. P28,000
6.
Frank Co. has the opportunity to introduce a new product. Frank expects the
product to sell for P60 and to have per-unit variable costs of P35 and annual
cash fixed costs of P4,000,000. Expected annual sales volume is 275,000
units. The equipment needed to bring out the new product costs P6,000,000,
has a four-year life and no salvage value, and would be depreciated on a
straight-line basis. Frank's cost of capital is 14% and its income tax rate is
40%. What is the annual net cash flows for the investment?
a. P2,115,000
b. P2,765,000
c. P2,335,000
d. P2,325,000
10
7.
Rusk Company is considering replacing a machine that has the following
characteristics.
Book value
Remaining useful life
Annual straight-line depreciation
Current market value
P200,000
4 years
P ???
P160,000
The replacement machine would cost P300,000, have a four-year life, and save
P37,500 per year in cash operating costs. It would be depreciated using the
straight-line method. The tax rate is 40%. What is the increase in annual net
cash flows if the company replaces the machine?
a. P23,000
b. P32,000
c. P23,500
d. P32,500
11
V.
NET PRESENT VALUE
1. Consider a project that requires an initial cash outflows of P500,000 with a life of
eight years and salvage value of P20,000 upon its retirement. Annual cash inflow
before tax amounts to P100,000 and a tax rate of 30 percent will be applicable.
The required minimum rate of return for this type of investment is 8 percent. The
present value of 1 and the annuity of 1, discounted at 8 percent for 8 periods are
0.54 and 5.747 respectively. Salvage value is ignored in computing deprecation.
The net present value amount to
a. P 7,560
b. P10,050
c. P17,606
d. P20,050
2. By the end of December 31, 2018, Alay Foundation is considering the purchase
of a copying machine for P80,000. The expected annual cash savings are
expected to be P32, 000 in the next four years. At the end of the four years the
machine will be discarded without any salvage value. All the cash savings are
state in number of pesos at December 31, 2019. The company expected that the
inflation rate is constantly 5 percent each year. Hence, the first year’s cash
inflow was adjusted for 5 inflation. For simplicity all cash inflows are assumed to
be at year end.
The present value at 14% of 1 of 4 period is 2.91371. The present value of 1 at
end of each period are;
Period 1
0.87719
Period 2
0.76947
Period 3
0.67497
Period 4
0.59208
Using the normal rate of return of 14 percent the net present value for this
machine is
a. P12,239
b. P19,670
c. P13,419
d. P27,936
12
3.
Zambales Mines Inc. is contemplating the purchase of a piece of equipment to
exploit a mineral deposit that is located on land to which the company has
minerals rights. Based on an engineering and cost analysis, the following cash
flows associated with operating a mine in the area are expected
Cost of new equipment and timbers
2,750,000
Working capital acquired
1,000,000
Net annual cash receipts*
1,200,000
Cost of construct new road in three years
400,000
Salvage value of equipment in 4 years
650,000
*receipts from sales of ore, less out of pocket costs for salaries, utilities,
insurance etc.
It is estimated that the mineral deposit would be exhausted after four years of
mining. *At that point the working capital would be released for reinvestment
elsewhere. The company’s discount rate is 20%. The net present value for the
project is
a. P454,620
b. P(79,303)
c. P(561,553)
d. P(204,688)
4.
Coffee Co. has the opportunity to introduce a new product. Coffee Co. expects
the product to sell for P100 and to have per-unit variable costs of P60 and
annual cash fixed costs of P4,000,000. Expected annual sales volume is
200,000 units. The equipment needed to bring out the new product costs
P6,000,000, has a four-year life and no salvage value, and would be
depreciated on a straight-line basis. Coffee Co. cost of capital is 12% and its
income tax rate is 40%. What is the NPV for this project?
a. P2,134,000.00
b. P3,335,250.00
c. P3,111,000.00
d. P4,000,000.00
13
5.
Bilt-Rite Co. has the opportunity to introduce a new product. Bilt-Rite expects
the product to sell for P60 and to have per-unit variable costs of P40 and
annual cash fixed costs of P3,000,000. Expected annual sales volume is
250,000 units. The equipment needed to bring out the new product costs
P5,000,000, has a four-year life and no salvage value, and would be
depreciated on a straight-line basis. Bilt-Rite's cost of capital is 10% and its
income tax rate is 40%. What is the NPV?
a. P344,000
b. P125,000
c. P389,000
d. P535,000
6.
Frank Co. has the opportunity to introduce a new product. Frank expects the
product to sell for P60 and to have per-unit variable costs of P35 and annual
cash fixed costs of P4,000,000. Expected annual sales volume is 275,000
units. The equipment needed to bring out the new product costs P6,000,000,
has a four-year life and no salvage value, and would be depreciated on a
straight-line basis. Frank's cost of capital is 14% and its income tax rate is
40%. What is the NPV of the project?
a. P775,050
b. P725,050
c. P732,050
d. P765,050
7.
ABC News Affair is considering some new equipment whose data are shown
below. The equipment has a 3-year tax life and would be fully depreciated by
the straight-line method over 3 years, but it would have a positive pre-tax
salvage value at the end of Year 3, when the project would be closed down.
Also, some new working capital would be required, but it would be recovered at
the end of the project's life. Revenues and other operating costs are expected
to be constant over the project's 3-year life.
WACC
Net investment in fixed assets (depreciable basis)
Required new working capital
Straight-line deprec. rate
Sales revenues, each year
Operating costs (excl. deprec.), each year
Expected pretax salvage value
14
10.0%
P70,000
P10,000
33.333%
P75,000
P30,000
P5,000
Tax rate
35.0%
What is the Net Present Value?
a. P23,005
b. P23,500
c. P20,500
d. P25,300
15
MANAGEMENT CONSULTANCY
1. Which of the following is not a characteristic of MAS?
a. In MAS engagement, the nature of work involve requires a lesser need
for junior assistance.
b. A wider variety of assignments are encountered in MAS than in audit
engagements.
c. MAS engagements are recurring.
d. In MAS, actions to be taken are identified, the benefits of which will be
received in the future.
2. Management Services of certified public accountants covers all of the
following except:
a. Audit, tax and legal services
b. Organizational Development
c. Systems design, development and implementation
d. Project feasibility studies and planning
3. Which of the following relates to management advisory services by CPAs?
a. Cost analysis of major investment decision
b. Design and/or installation of accounting systems
c. Financial analysis for project feasibility studies
d. All of the above
4. The following characterized management advisory services, except:
a. MAS utilizes more junior staff than senior members of the firm
b. MAS involves decision for the future
c. MAS is broader in scope and varied in nature
d. MAS relates to specific problems where expert help is required
5. A CPA engaged in MAS practice may not:
a. Disclose confidential information unless authorized or legally obligated
b. Act as independent auditor of the same client firm
c. Accept other employment while serving as management consultant
d. Be independent in mental attitude
16
PROJECT FEASIBILITY STUDY
1. The attributes of a good feasibility study are as follows, except:
a. Comprehensive
b. Objective
c. Single
d. Accurate
2. Which of the following best identifies the reason for using probability
analysis in preparing a project feasibility study?
a. Time value of money
b. Uncertainty
c. Unavailability of relevant data
d. Government incentive
3. It is a thorough and systematic analysis of all factors to ascertain the
viability of a new business venture or major modification of an existing
product line or product line acquisition.
a. Project feasibility study
b. Product planning
c. Production management
d. Market analysis
4. These are explicit statements about the possible future behavior of certain
variables affecting a project which serve as the premise for projecting
probable financial results.
a. Conclusion
b. Recommendation
c. Assumptions
d. Theories
5. It is a systematic gathering and analysis of data concerning a proposed
project and the formulation of conclusion for the purpose of determining
whether or not the project is viable, and if so, its degree of profitability.
a. Budgeting
b. Feasibility study
c. Viable costing
d. Profit planning
17
ANSWERS:
I. COST OF INVESTMENT
1. B
Initial amount of investment
Less
Cash inflow
MV of old equipment
Tax benefits on loss on sales (20,000
x .4)
Net investment
160,000
80,000
8,000
88,000
72,000
2. A
Annual cash inflow
Accounting Rate of return
Depreciation rate
P66,000
12%
10%
Initial investment
22%
P300,000
3. A
Cost of new equipment
Less
Proceed from sales of old
equipment:
Proceed from sales
Tax savings
(P100,000 –
(500,000- 187,500) * 32%
P400,000
P100,000
68,000
Net cost of Investment
4. A
Net investment: P74,000
[P150,000 - P60,000 - 40%(P100,000 - 60,000)]
5.
A
Net investment: P124,000
[P300,000 - P160,000 - 40% x (P200,000 - 160,000)]
18
168,000
P232,000
II. TAX EFFECT
1. A
Annual savings on expenses
Less:
additional
depreciation
(40,000 – 25,000)
Additional taxable income
x
Tax rate
Additional tax
2.
P50,000
15,000
35,000
40%
P14,000
B
Increase in income taxes: P5,000
[40% x (P37,500 pretax flow - P75,000 depreciation + P50,000 lost
depreciation)]
3.
B
Increase in income taxes: P16,000
[40% x (P50,000 pretax flow - P30,000 depreciation + P20,000 lost
depreciation)]
19
III. PAYBACK PERIOD
1. B
Initial amount of investment s
÷
P35,000
Annual after tax cash flow
5,000
Payback period
7 years
2. D
Cost of the new machine
Less
Salvage value
Net investment
÷
Annual savings
Payback period
P400,000
60,000
P340,000
90,000
3.78
3. B
Cash inflow
Unrecovered out
flow
Initial investment
(4,500,000)
First year
900,000
(3,600,000)
Second year
1,200,000
(2,400,000)
Third year
1,500,000
900,000
900,000
0
Fourth year
Hence, the Payback period is at the end of 4 periods, wherein, the initial
outflows are fully recovered
4. B
Initial investment
÷ Annual after tax cash inflow
Cash inflow after tax
(P10,000 ÷ 70%)
Ad Tax shield on
d
Depreciation (50,000 ÷
8 years) * 30%
P50,000
7,000
1,875
Payback period
20
8,875
5.6 years
5. A
Cash inflow
Cash outflow
Outflows
Cash Inflows
(500,000)
Year 1
200,000
Year 2
200,000
Year 3
200,000
Payback period; 2+ (100,000/200,000) 2.50 years
(300,000)
(100,000)
100,000
6. D
Initial investment
÷
P120,000
Annual net cash inflow
Net income
P10,000
Add: Depr
20,000
Payback period
30,000
4 years
7. A
Payback period: 2.0 years (P6,000,000/P3,000,000)
8. C
Payback period: 5.56 years (P150,000/P27,000)
9. B
Payback period: 2.94 years (P5,000,000/P1,700,000)
21
IV.
ANNUAL CASH FLOW
1. A
Initial investment
÷
Payback period
Required annual cash inflows
P900,000
5 years
P180,000
2. B
Increase in annual cash flows: P3,000,000
Sales (200,000 x P100)
Less: Variable cost (200,000 x P60)
Contribution margin
Less: Fixed cost
Depreciation expense
P20,000,000
12,000,000
P 8,000,000
P4,000,000
1,500,000
Net Income before tax
Less: Tax (40%)
Net Income after tax
Add: Depreciation expense
Annual cash return
5,500,000
P2,500,000
1,000,000
P1,500,000
1,500,000
P3,000,000
3. A
Annual cash flows: P27,000
[P35,000 - 40% x (P35,000 - P15,000)]
4. A
Increase in annual cash flows: P1,700,000
Income before taxes, 250,000 x (P60 - P40)
- P3,000,000 - P5,000,000/4
Income tax
Net income
Plus depreciation
Net cash flow
5. B
Increase in cash flows: P34,000
(P50,000 - P16,000: increase in income taxes)
22
P 750,000
(300,000)
P 450,000
1,250,000
P1,700,000
6. D
Annual net cash flows: P2,325,000
[P2,875,000 pretax - 40% x (P2,875,000 - P1,500,000 depreciation)]
Pretax income = 275,000 x (P60 - P35) - P4,000,000 = P2,875,000
7. D
Increase in cash flows: P32,500
(P37,500 - P5,000 increase in income taxes)
23
V.
NET PRESENT VALUE
1. C
Computation of Net Present Value
PV of ATCF; 88,750 x 5.747
PV of after tax salvage Value; 20,000 x 0.70 x 0.54
Total
Investment
Net Present value
510,046
7,560
517,606
500,000
17,606
2. B
Period
1
2
32,000x1.05
3
32,000x1.05²
4
32,000x1.05³
Total
Less: Investment
Net Present Value
32,000 x 0.87790
33,600 x 0.76947
35,280 x 0.67497
37.044 x 0.59208
28,070.08
25,854.19
23,812.94
21,933.01
99,670.22
80,000.00
19,670.22
3. B
PV of annual cash receipts (1,200,000 x 2.58872
3,106,463
Add/(Deduct):
PV of salvage value (650,000 x 0.48225)
313,462
482,250
PV of return of working capital (1,000,000 x
0.48225)
Cost of new equipment & timbers
-2,750,000
Working capital
-1,000,000
PV of cost of construction of road (400,000
x 0.5787)
Negative Net Present Value
4. C
NPV: P3,111,000
[(P3,000,000 x 3.0370) – P6,000,000]
24
-231,480
-79,303
5. C
NPV: P389,000
[(P1,700,000 x 3.170) - P5,000,000]
6. A
NPV: P775,050
[(P2,325,000 x 2.914) - P6,000,000]
7. A
NPV:
P23,005
t=0
Investment in fixed assets
WACC = 10%
Investment in net working capital
Sales revenues
− Operating costs (excl. deprec.)
Depreciation
Rate = 33.333%
Operating income (EBIT)
− Taxes
Rate = 35%
After-tax EBIT
+ Depreciation
Cash flow from operations
Recovery of working capital
Salvage value, pre-tax
− Tax on salvage value Rate = 35%
Total cash flows
NPV:
P23,005
25
t=1
-P70,000
t=2
t=3
-P80,000
P75,000
-30,000
-23,333
P21,667
7,583
P14,083
23,333
P37,417
P75,000
-30,000
-23,333
P21,667
7,583
P14,083
23,333
P37,417
-P80,000
P37,417
P37,417
P75,000
-30,000
-23,333
P21,667
7,583
P14,083
23,333
P37,417
10,000
5,000
1,750
P50,667
-10,000
MANAGEMENT CONSULTANCY
1. C
2. A
3. D
4. A
5. A
PROJECT FEASIBILITY
1. D
2. B
3. A
4. C
5. B
26