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Unformatted text preview: CHAPTER 21 CAPITAL BUDGETING AND COST ANALYSIS 2116 Exercises in compound interest, no income taxes. The answers to these exercises are printed after the last problem, at the end of the chapter. 2117 (22–25 min.) Capital budget methods, no income taxes. 1a. The table for the present value of annuities (Appendix C, Table 4) shows: 5 periods at 12% = 3.605 Net present value = $60,000 (3.605) – $160,000 = $216,300 – $160,000 = $56,300 1b. Payback period = $160,000 ÷ $60,000 = 2.67 years 1c. Internal rate of return: $160,000 = Present value of annuity of $60,000 at R% for 5 years, or what factor (F) in the table of present values of an annuity (Appendix C, Table 4) will satisfy the following equation. $160,000 = $60,000F F = 000 , 60 $ 000 , 160 $ = 2.667 211 On the 5year line in the table for the present value of annuities (Appendix C, Table 4), find the column closest to 2.667; it is between a rate of return of 24% and 26%. Interpolation is necessary: Present Value Factors 24% 2.745 2.745 IRR rate –– 2.667 26% 2.635 –– Difference 0.110 0.078 Internal rate of return = 24% + 110 . 078 . (2%) = 24% + (0.7091) (2%) = 25.42% 1d. Accrual accounting rate of return based on net initial investment: Net initial investment = $160,000 Estimated useful life = 5 years Annual straightline depreciation = $160,000 ÷ 5 = $32,000 return of rate accounting Accrual = investment initial Net income operating annual average expected in Increase = 000 , 160 $ 000 , 32 $ 000 , 60 $ = 000 , 160 $ 000 , 28 $ = 17.5% Note how the accrual accounting rate of return, whichever way calculated, can produce results that differ markedly from the internal rate of return. 2. Other than the NPV, rate of return and the payback period on the new computer system, factors that Riverbend should consider are: • Issues related to the financing the project, and the availability of capital to pay for the system. • The effect of the system on employee morale, particularly those displaced by the system. Salesperson expertise and realtime help from experienced employees is key to the success of a hardware store. • The benefits of the new system for customers (faster checkout, fewer errors). • The upheaval of installing a new computer system. Its useful life is estimated to be 5 years. This means that Riverbend could face this upheaval again in 5 years. Also ensure that the costs of training and other “hidden” startup costs are included in the estimated $160,000 cost of the new computer system. 212 2118 (30 min.) Capital budgeting methods, no income taxes. The table for the present value of annuities (Appendix C, Table 4) shows: 10 periods at 14% = 5.216 1a. Net present value = $28,000 (5.216) – $110,000 = $146,048 – $110,000 = $36,048 b. Payback period = 000 , 28 $ 000 , 110 $ = 3.93 years c. Internal rate of return: $110,000 = Present value of annuity of $28,000 at R% for 10 years, or what factor (F) in the table of present values of an annuity...
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 Spring '09
 Staff
 Cost Accounting, Taxes, Net Present Value

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