Chapter 10 Making Capital Investment Decisions
Chapter 10 Quiz A Student Name _________________________
Student ID ____________
Round all answers to whole dollars.
________ 1.
You just purchased some new equipment costing $459,000. The equipment is classified as 7-year property for
MACRS. What is the total accumulated depreciation expense at the end of year 2?
MACRS 7-year property
Year
Rate
1
14.29%
2
24.49%
3
17.49%
4
12.49%
5
8.93%
6
8.93%
7
8.93%
8
4.45%
a. $112,409
b. $178,000
c. $197,282
d. $281,000
________ 2.
A proposed project is expected to decrease accounts receivable by $10,000, decrease inventory by $4,000,
and increase accounts payable by $6,000. What is the amount of the initial cash flow for this project?
a. -$12,000
b. $0
c. $8,000
d. $20,000
________ 3.
Last year, Bottlers, Inc. purchased land located beside their factory at a price of $1,500,000 plus $250,000 in
real estate fees. Today, the land has a market value of $2,000,000. The company is now considering building
a new warehouse on that land. The construction cost of the warehouse is estimated at $675,000. In addition,
$90,000 worth of grading will be required to prepare the construction site. What is the initial cash flow of this
project?
a. -$2,515,000
b. -$2,765,000
c. -$3,015,000
d. -$4,515,000
________ 4.
You are analyzing a proposed 4-year project. You expect to sell 20,000 units per year at an average selling
price of $5 per unit. The initial cash outlay for fixed assets will be $120,000. These assets will be depreciated
using straight-line depreciation to a zero book value over the life of the project. The fixed assets will be
worthless at the end of the project. Fixed costs are expected to be $8,000 and variable costs should be $1.90
per unit. The project requires an initial investment in net working capital of $10,000 which will be recovered
in full at the end of the project’s life. What is the total project cash flow at the end of year 4 if the tax rate is
35 percent?
a. $24,000
b. $34,000
c. $45,600
d. $55,600
________ 5.
You purchased some fixed assets six years ago at a cost of $165,700. You have been depreciating these
assets using straight-line depreciation to a zero book value over 10 years. Today, you are selling these assets
for $62,500. What is the after-tax cash flow from this sale if the applicable tax rate is 35 percent?
a. $61,177
b. $62,500
c. $63,823
d. $66,280
________ 6.
You are considering a project that will generate sales of $89,000, costs of $56,000, and annual depreciation of
$26,000. What is the value of the operating cash flow if the tax rate is 34 percent?
a. $28,380
b. $30,620
c. $47,780
d. $59,000
________ 7.
You need a new oven for your bakery. Your current oven is worn out so you are trying to decide which one of
two ovens to buy as a replacement. Whichever oven you purchase will be replaced after its useful life. Oven
A costs $25,000 and costs $3,000 a year to operate over an 8-year life. Oven B costs $20,000 and costs
$4,500 a year to operate over a 6-year life. Given this information, which one of the following statements is
correct if the applicable discount rate is 10 percent?
a. The equivalent annual cost of oven A is -$7,481.
b. The equivalent annual cost of oven B is -$8,209.
c. Oven A cuts the annual cost by $1,406 as compared to oven B.
d. Oven B cuts the annual cost by $1,598 as compared to oven A.
10-1
Chapter 10 Making Capital Investment Decisions
________ 8.
A retail greeting card shop is considering expanding its operations to include the sale of unique gift items.
Which of the following should be included in the initial cash outflow of the proposed expansion project?
I. increase in card sales which result from offering gift items
II. initial cost of gift inventory
III. cost to expand the showroom to allow space for displaying the gift items
IV. salary for one additional employee to staff the gift section
a. I and III only
b. II and IV only
c. II and III only
d. III and IV only
e. I and IV only
________ 9.
Which one of the following is a correct method of computing operating cash flow (OCF)? Assume there is no
interest expense.
a. EBIT + Taxes − Depreciation
b. (Sales − Costs) × (1 − T) + Depreciation × T
c. Net income − Depreciation
d. Sales − Costs + Taxes
________ 10. Which one of the following is an example of erosion?
a. loss of sales due to a temporary ban on curbside parking in front of a retail establishment
b. a store’s decline in wool sweater sales because the store started selling fleece jackets
c. declining sales for a fast food restaurant because a competitor opened across the street
d. declining fast food sales because customers became more health conscious
10-2
Chapter 10 Making Capital Investment Decisions
Chapter 10 Quiz A
1.
2.
3.
4.
b
d
b
d
5.
c
6.
b
7.
c
Answers
Total depreciation at the end of year 2 = $459,000 × (.1429 + .2449) = $178,000.20 = $178,000
Initial net working capital = $10,000 + $4,000 + $6,000 = $20,000
CF0 = -$2,000,000 − $675,000 − $90,000 = -$2,765,000
Annual depreciation = $120,000 / 4 = $30,000
EBIT = [20,000  ($5.00 − $1.90)] − $8,000 − $30,000 = $24,000
Tax = $24,000  .35 = $8,400
OCF = $24,000 + $30,000 − $8,400 = $45,600
Total project cash flow at the end of year 4 = $45,600 + $10,000 = $55,600
Book value of asset at time of sale = (4 / 10) × $165,700 = $66,280
Tax savings = ($66,280 − $62,500) × .35 = $1,323
After-tax cash flow = $62,500 + $1,323 = $63,823
OCF = [($89,000 − $56,000) × (1 − .34)] + (26,000 × .34) = $30,620


1  1 /(1  .10 )8 
NPVA  -$25,000  - $3,000   
  $41,004 .78
.10




1  1 /(1  .10 )8 

  $7,686 .10 = -$7,686
.10


1  1 /(1  .10 ) 6 
NPVB  -$20 ,000  - $4,500   
  $39 ,598 .67
.10


6
1  1 /(1  .10 ) 
- $39 ,598 .67  EAC  
  $9,092 .15 = -$9,092
.10


- $41,004 .78  EAC A 




Oven A lowers the annual cost of the equipment by about $1,406, which is (-$7,686.10) minus (-$9,092.15).
8. c
9. b
10. b
10-3
Chapter 10 Making Capital Investment Decisions
Chapter 10 Quiz B Student Name _________________________
Student ID ____________
Round all answers to whole dollars.
________ 1.
You purchased some fixed assets four years ago at a cost of $119,200. You have been depreciating these
assets using straight-line depreciation to a zero book value over 10 years. Today, you are selling these assets
for $69,000. What is the after-tax cash flow from this sale if the applicable tax rate is 35 percent?
a. $68,118
b. $69,000
c. $69,882
d. $70,638
________ 2.
You are considering a project that will generate sales of $58,000, costs of $41,000, and annual depreciation of
$9,000. What is the value of the operating cash flow if the tax rate is 34 percent?
a. $11,720
b. $14,280
c. $16,940
d. $20,060
________ 3.
You need a new oven for your bakery. Your current oven is worn out so you are trying to decide which one of
two ovens to buy as a replacement. Whichever oven you purchase will be replaced after its useful life. Oven
A costs $20,000 and costs $2,500 a year to operate over a 7-year life. Oven B costs $23,000 and costs $1,500
to operate over a 6-year life. Given this information, which one of the following statements is correct if the
applicable discount rate is 12 percent?
a. The equivalent annual cost of oven A is -$6,436.
b. The equivalent annual cost of oven B is -$7,109.
c. Oven B cuts the annual cost by $187 as compared to oven A.
d. Oven A cuts the annual cost by $212 as compared to oven B.
________ 4.
You just purchased some new equipment costing $255,000. The equipment is classified as 7-year property for
MACRS. What is the total accumulated depreciation expense at the end of year 3?
MACRS 7-year property
Year
Rate
1
14.29%
2
24.49%
3
17.49%
4
12.49%
5
8.93%
6
8.93%
7
8.93%
8
4.45%
a. $44,600
b. $98,889
c. $143,489
d. $210,400
________ 5.
A proposed project is expected to increase accounts receivable by $12,000, decrease inventory by $5,000,
and decrease accounts payable by $3,000. What is the amount of the initial cash flow for this project?
a. -$14,000
b. -$10,000
c. -$4,000
d. $4,000
________ 6.
Last year, Bottlers, Inc. purchased land located beside their factory at a price of $900,000 plus $75,000 in
real estate fees. Today, the land has a market value of $1,100,000. The company is now considering building
a new warehouse on that land. The construction cost of the warehouse is estimated at $250,000. In addition,
$20,000 worth of grading will be required to prepare the construction site. What is the initial cash flow of this
project?
a. -$975,000
b. -$1,245,000
c. -$1,370,000
d. -$1,445,000
________ 7. You are analyzing a proposed 4-year project. You expect to sell 35,000 units per year at an average selling
price of $8.50 per unit. The initial cash outlay for fixed assets will be $180,000. These assets will be
depreciated using straight-line depreciation to a zero book value over the life of the project. The assets will be
worthless at the end of the project. Fixed costs are expected to be $13,000 and variable costs should be $3.40
per unit. The project requires an initial investment in net working capital of $15,000 which will be recovered
in full at the end of the project’s life. What is the total project cash flow at the end of year 4 if the tax rate is
34 percent?
a. $109,530
b. $120,500
c. $124,530
d. $139,530
10-4
Chapter 10 Making Capital Investment Decisions
________ 8.
Which one of the following is the tax shield approach to computing the operating cash flow (OCF)? Assume
there is no interest expense.
a. EBIT + Depreciation −Taxes
b. (Sales − Costs) × (1 − T) + Depreciation × T
c. Net income + Depreciation
d. Sales − Costs − Taxes
________ 9.
Which one of the following decreases net income and increases the operating cash flow?
a. costs
b. interest expense
c. taxes
d. depreciation
________ 10. Which one of the following best describes an opportunity cost?
a. the loss of sales of one product because you commence selling another product
b. the current market value of equipment you own that you want to use for a new project
c. repairs made last year to a vehicle which you want to sell this year
d. copier machine lease for the next twelve months
10-5
Chapter 10 Making Capital Investment Decisions
Chapter 10 Quiz B
1.
c
2.
b
3.
d
Answers
Book value of asset at time of sale = (6 / 10) × $119,200 = $71,520
Tax savings = ($71,520 − $69,000) × .35 = $882
After-tax cash flow = $69,000 + $882 = $69,882
OCF = [($58,000 − $41,000) × (1 − .34)] + (9,000 × .34) = $14,280


1  1 /(1  .12 ) 7 
NPVA  -$20 ,000  ( $2,500 )  
  $31,409 .39
.12




1  1 /(1  .12 ) 7 
- $31,409 .39  EAC A  
  $6,882 .35  $6,882
.12




1  1 /(1  .12 ) 6 
NPVB  -$23,000  (-$1,500)  
  $29 ,167 .11
.12


- $29 ,167 .11  EAC 


1  1 /(1  .12 ) 6 

  $7,094 .19  $7,094
.12


Oven A lowers the annual cost of the equipment by about $212, which is (-$6,882.35) minus (-$7,094.19).
4.
5.
6.
7.
c
b
c
d
Total depreciation at the end of year 3 = $255,000 × (.1429 + .2449 + .1749) = $143,488.50 = $143,489
Initial net working capital = -$12,000 + $5,000 – $3,000 = -$10,000
CF0 = -$1,100,000 − $250,000 − $20,000 = -$1,370,000
Annual depreciation = $180,000 / 4 = $45,000
EBIT = [35,000  ($8.50 − $3.40)] − $13,000 − $45,000 = $120,500
Tax = $120,500  .34 = $40,970
OCF = $120,500 + $45,000 − $40,970 = $124,530
Total project cash flow at the end of year 4 = $124,530 + $15,000 = $139,530
8. b
9. d
10. b
10-6
Chapter 10 Making Capital Investment Decisions
Chapter 10 Quiz C Student Name _________________________
Student ID ____________
Round all answers to whole dollars.
________ 1.
You just purchased some new equipment costing $745,000. The equipment is classified as 7-year property for
MACRS. What is the total accumulated depreciation expense at the end of year 2?
MACRS 7-year property
Year
Rate
1
14.29%
2
24.49%
3
17.49%
4
12.49%
5
8.93%
6
8.93%
7
8.93%
8
4.45%
a. $106,461
b. $182,451
c. $288,911
d. $456,089
________ 2.
A proposed project is expected to decrease accounts receivable by $8,000, increase inventory by $3,000,
and increase accounts payable by $5,000. What is the amount of the initial cash flow for this project?
a. $0
b. $6,000
c. $10,000
d. $16,000
________ 3.
Last year, Bottlers, Inc. purchased land located beside their factory at a price of $750,000 plus $85,000 in
real estate fees. Today, the land has a market value of $900,000. The company is now considering building a
new warehouse on that land. The construction cost of the warehouse is estimated at $150,000. In addition,
$30,000 worth of grading will be required to prepare the construction site. What is the initial cash flow of this
project?
a. -$835,000
b. -$930,000
c. -$1,080,000
d. -$1,165,000
________ 4.
You are analyzing a proposed 4-year project. You expect to sell 15,000 units per year at an average selling
price of $6.25 per unit. The initial cash outlay for fixed assets will be $160,000. These assets will be
depreciated using straight-line depreciation to a zero book value over the life of the project. The assets will be
worthless at the end of the project. Fixed costs are expected to be $10,000 and variable costs should be $1.25
per unit. The project requires an initial investment in net working capital of $12,000 which will be recovered
in full at the end of the project’s life. What is the total project cash flow at the end of year 4 if the tax rate is
35 percent?
a. $25,000
b. $37,000
c. $56,250
d. $68,250
________ 5.
You purchased some fixed assets three years ago at a cost of $371,600. You have been depreciating these
assets using straight-line depreciation to a zero book value over 8 years. Today, you are selling these assets
for $225,000. What is the after-tax cash flow from this sale if the applicable tax rate is 34 percent?
a. $220,655
b. $222,535
c. $225,000
d. $227,465
________ 6.
You are considering a project that will generate sales of $112,600, costs of $89,200, and annual depreciation
of $33,000. What is the value of the operating cash flow if the tax rate is 34 percent?
a. $26,664
b. $29,730
c. $34,620
d. $48,400
________ 7.
You need a new oven for your bakery. Your current oven is worn out so you are trying to decide which one of
two ovens to buy as a replacement. Whichever oven you purchase will be replaced after its useful life. Oven
A costs $15,000 and costs $1,000 a year to operate over a 7-year life. Oven B costs $10,000 and costs $2,000
to operate over a 5-year life. Given this information, which one of the following statements is correct if the
applicable discount rate is 11 percent?
a. Oven A cuts the annual cost by $522 as compared to oven B.
b. Oven B cuts the annual cost by $618 as compared to oven A.
c. The equivalent annual cost of oven A is -$4,233.
d. The equivalent annual cost of oven B is -$3,979.
10-7
Chapter 10 Making Capital Investment Decisions
________ 8.
Which one of the following is NOT considered when evaluating the cash flows from a proposed project?
a. depreciation expense
b. taxes
c. opportunity costs
d. interest expense
________ 9.
Which one of the following will increase the operating cost flow from a project?
a. increase in variable costs
b. increase in depreciation expense
c. decrease in sales
d. increase in fixed costs
________ 10. Which one of the following is an example of erosion?
a. the loss of sit-down restaurant sales when the restaurant begins to offer take-out service
b. the current market value of equipment you own that you want to use for a new project
c. the advertising expenses incurred in introducing a new product
d. the rental income you can receive if you decide not to use a building which you own for a new project
10-8
Chapter 10 Making Capital Investment Decisions
Chapter 10 Quiz C
1.
2.
3.
4.
c
c
c
d
5.
d
6.
a
7.
a
Answers
Total depreciation at the end of year 2 = $745,000 × (.1429 + .2449) = $288,911
Initial net working capital = $8,000 – $3,000 + $5,000 = $10,000
CF0 = -$900,000 − $150,000 − $30,000 = -$1,080,000
Annual depreciation = $160,000 / 4 = $40,000
EBIT = [15,000  ($6.25 − $1.25)] − $10,000 − $40,000 = $25,000
Tax = $25,000  .35 = $8,750
OCF = $25,000 + $40,000 − $8,750 = $56,250
Total project cash flow at the end of year 4 = $56,250 + $12,000 = $68,250
Book value of asset at time of sale = (5 / 8) × $371,600 = $232,250
Tax savings = ($232,250 − $225,000) × .34 = $2,465
After-tax cash flow = $225,000 + $2,465 = $227,465
OCF = [($112,600 − $89,200) × (1 − .34)] + (33,000 × .34) = $26,664


1  1 /(1  .11) 7 
NPVA  -$15,000  (-$1,000)  
  $19 ,712 .20
.11




1  1 /(1  .11) 7 

  $4,183 .23  $4,183
.11


1  1 /(1  .11)5 
NPVB  -$10 ,000  (-$2,000)  
  $17 ,391 .79
.11


5
1  1 /(1  .11) 
- $17 ,391 .79  EAC  
  $4,705 .70  $4,706
B
.11


- $19 ,712 .20  EAC A 




Oven A lowers the annual cost of the equipment by about $522, which is (-$4,183.23) minus (-$4,705.70).
8. d
9. b
10. a
10-9