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222 CH 12 HW Solutions 5th edition

# 222 CH 12 HW Solutions 5th edition - CHAPTER 12 Planning...

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CHAPTER 12 Planning for Capital Investments Homework Solutions ANSWERS TO QUESTIONS (2, 5, 11, 13) 2. The cash payback technique is relatively easy to compute and understand. However, it should not ordinarily be the only basis for the capital budgeting decision because it ignores the expected profitability of the investment and the time value of money. 5. The decision rule is: Accept the project when net present value is zero or positive; reject the project when net present value is negative. 11. A post-audit is a thorough evaluation of how well a project’s actual performance matches the original projections. Performing post-audits can be valuable because: (1) managers are more likely to submit reasonable and accurate data if they know that their estimates will be evaluated subsequently, (2) they provide a process for determining whether projects should be continued, and (3) they improve the development of future investment proposals because, by evaluating their past successes and failures, managers improve their estimation techniques. 13. Under the internal rate of return method, the objective is to find the rate that will make the present value of the expected net annual cash flows equal the present value of the proposed capital expenditure. The decision rule under the internal rate of return method is: Accept the project when the internal rate of return is equal to or greater than the required rate of return, and reject the project when the internal rate of return is less than the required rate. SOLUTIONS TO BRIEF EXERCISES (1, 3, 7, 8) BRIEF EXERCISE 12-1 \$450,000 ÷ \$55,000 = 8.2 years BRIEF EXERCISE 12-3 Cash Flows X 10% Discount Factor = Present Value Present value of net annual cash flows Present value of salvage value Capital investment Net present value \$25,000 70,000 X X 3.79079 .62092 = = \$ 94,770 43,464 138,234 136,000 \$ 2,234 Since the net present value is positive, the project is acceptable.

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BRIEF EXERCISE 12-7 When net annual cash flows are expected to be equal, the internal rate of return
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