CapExp_Tutorial Questions_2011

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Unformatted text preview: THEUNIVERSITYOFNEWSOUTHWALES SCHOOLOFACCOUNTING ACCT2522ManagementAccounting1 Session1,2011  TutorialWeek11–CapitalExpenditureDecisions  OverallTheme  Thisweek we discussthenatureandpurposeofinvestmentin long ­term resources, andexplore thedecisionrelevantcostsandbenefitsofsuchdecisions.   DesiredLearningOutcomesandEssentialReading   CAPITALEXPENDITUREDECISIONS Aftercompletingthistopic,youshouldbeableto: TextbookMaterials:  1. Understandthenatureandpurposeofcapitalexpendituredecisions 2. Describeatypicalcapitalexpenditureprocess 3. Apply and understand the benefits/limitations of various capital budgetingtechniques 4. Understand the value of post ­implementation and post ­completion auditsofcapitalexpenditureprojects Mowenetal.(2011) Chapter17pp.689 ­717 5. UnderstandtheconflictbetweenusingDCFforprojectevaluationsand accrualaccountingdataforevaluatingmanagerperformance   SelfStudyQuestions(completeinyourowntime)  Pleasenotethatthediscounttablesprovidedinyourtext(p.p778 ­9)onlygoto3decimalplaces(d.p)–in theexamthetableswillhavenumbersto4d.p,andyoushouldusethecompletenumbergiven.  Question1:17.3(excludingpart4) Question2:17.11part1only Question3:Problem17.15 Question4:Problem17.20part1only,butassumingthattheplanehasanexpectedsalvage valueof$0,andthecompanytaxrateis30%.   TutorialQuestions(mustbepreparedpriortothetutorial)  Question1:17.24(ignorethelastsentenceofpart2aboutChapter12)     1 SolutionstoSelfStudyQuestions  Question1:17.3(excludingpart4)  1  Paybackperiod =Originalinvestment/Annualcashinflow =$1680000/($2730000–$2100000) =$1680000/$630000 =2.67years 2 a Initialinvestment(Averagedepreciation=$336000):   Accounting rateofreturn    =Averageaccountingincome/Investment =($630000–$336000)/$1680000 =17.5% b Averageinvestment: Accounting rateofreturn =($630000–$336000)/[($1680000+$0)/2] =$294000/$840000 =35%  3 NPV=($630,000x3.791) ­1680000=$708,330      Question2:17.11part1only  Depreciation tNC 1 Year 1 $4000 $ 1200 2 4000 1200 3 4000 1200 NPV df 0.893 0.797 0.712 Present Value $ 1072 952 854 $2878 *Sincethebenefitisthesameeachyear,youcouldalsoapplyadiscountfactorof2.402;NPV= $2882.4(slightlydifferentduetorounding)    2 Question3:Problem17.15  1 Accountingrateofreturn  * Merits: The ARR method is relatively simple to use and easy to understand. It considers the profitabilityoftheprojectsunderconsideration. *Limitations:Itignorescash flowsandthetimevalueofmoney.  Internalrateofreturn  *Merits: It considers the time value of money. It measures the true rate of return of the project and productivity of the capital invested. Furthermore, managers are accustomed to working withratesofreturn. * Limitations: It is stated as a percentage rather than a dollar amount. It assumes that cash flows are reinvested at the IRR of the project. It may not select the project that maximises firmvalue.  Netpresent value method  * Merits: It considers the time value of money and the size of the investment. It measures the true economic return of the project, the productivity of the capital, and the change in wealth oftheshareholders. * Limitations: It does not calculate a project’s rate of return, and it assumes that all the cash flowsarereinvestedattherequiredrateofreturn.  Paybackmethod  *Merits:Itprovidesameasureoftheliquidity andriskofaproject. * Limitations:  It ignores the time value of money. It ignores cash flows beyond the payback periodand,thus,ignorestheprofitabilityofaproject.   2 Nathan Skousen and Jake Murray are basing their judgment on the results of the net present value and internal rate of return calculations. These are both considered better measures because they include cash flows, the time value of money, and the project’s profitability. ProjectBisbetterthanProjectAforbothofthesemeasures.   3.At least three qualitative considerations that should generally be considered in capital budgetingevaluationsinclude:  *Quickerresponsetomarketchangesandflexibilityinproduction capacity. *Strategic fit and long ­term competitive improvement fromtheproject,or the negative impact tothecompany’scompetitivenessorimageifitdoesnotmake theinvestment. *Risksinherentintheproject,business,orcountryfortheinvestment.     3 Question4:17.20part1only,butassumingthattheplanehasanexpectedsalvagevalueof $0,andthecompanytaxrateis30%. 1. Days of operation each year: 365 – 15 = 350 Revenue per day: $200 × 2 × 150 = $60 000 Annual revenue: $60 000 × 350 = $21 000 000 Annual cash flow = Revenues – Operating costs = $21 000 000 – $2 500 000 = $18 500 000 After tax = 18 500 000 x 0.7 = $12,950,000 Depreciation = $100 000 000 /20 = $5 000 000 per year Cash effect of Depreciation = $5 000 000 x 0.3 = $1,500,000 saving in outflow (reduced tax) Annual after-tax cash flow = $12,950,000 + $1,500,000 = $14,450,000 NPV = P – I = (6.623 × $14 450 000) – $100 000 000 = $95 702 350 - $100 000 000 = - $4 297 650 No, the aircraft should not be purchased. 4 ...
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This note was uploaded on 07/13/2011 for the course ACCT 2522 at University of New South Wales.

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