CHAPTER 11
MANAGING LONG-LIVED RESOURCES: CAPITAL BUDGETING
TRUE/FALSE
1. Money is not a productive asset because it is not a long-lived resource.
LO1 – False Money is a productive asset.
2. The opportunity of cash is the time value of money.
LO1 – True
3. It is not difficult to match the supply and demand for capacity resources over a period of months or
even years.
LO1 – False It is difficult to match the supply and demand for capacity resources over a period of
months or even years.
4. Cost allocations ignore the “lumpy” nature of capacity resources, and estimate costs as if we can
match supply and demand continuously and smoothly.
LO1 – True
5. Strategic plans specify how the company intends to achieve its long-term objectives, and dictate
what resources the firm needs to execute its plans.
LO1 – True
6. As it relates to capital expenditure decisions, cost of capital is the opportunity cost of capital
required for the proposed investment.
LO2 – True
7. The initial outlay for an asset does not include the cost of installation and training charges.
LO2 – False The initial outlay includes all costs incurred to ready the asset for its intended use.
8. The salvage of an asset is the residual value from disposing of the asset at the end of its useful life.
LO2 – True
9. Setting an estimated life expectancy of an asset too low understates the profitability of the
investment and could result in the firm rejecting profitable opportunities.
LO2 – True
10. The cost of capital is measured as the total of all costs incurred to ready an asset for its intended
use, including purchase price, shipping and delivery, taxes, and any installation and training costs.
LO2 – False The cost of capital is measured as the rate of return that providers of capital expect
from their investment.
11. The two main discounted cash flow techniques used in capital budgeting are net present value (NPR)
and cost-volume-profit (CVP).
LO3 – False The two main discounted cash flow techniques used in capital budgeting are net present
value (NPV) and internal rate of return (IRR).
11-1
,Balakrishnan Managerial Accounting
12. When analyzing capital investments using the NPV method, the first step is to discount the initial
investment.
LO3 – False The initial investment account is already at its present value. It requires no discount.
13. The present value factor is also known as the discount factor.
LO3 – True.
14. Unlike the Cost-Volume-Profit method, the NPV method does not allow users to perform “what-if”
sensitivity analysis with respect to various estimates and assumptions, and to examine alternative
scenarios.
LO3 – False Like the CVP method, the NPV method allows the user to perform “what-if” sensitivity
analysis with respect to various estimates and assumptions, and to examine alternative
scenarios.
15. Like the Net Present Value method, the Internal Rate of Return method assumes that the initial cash
outflow takes place at the beginning of the period.
LO3 – True
16. Under the payback method to evaluate investments, we compute how long it takes to recoup the
initial investment using discounted cash flows.
LO4 – False Under the payback method to evaluate investments, we compute how long it takes to
recoup the initial investment using undiscounted cash flows.
17. The greatest advantage of the payback method is that the payback period is easy to compute and to
understand.
LO4 – True
18. The modified payback method accumulates the present value of future cash flows over time and
compares the cumulative value with the initial cash outlay.
LO4 – True
19. The greatest advantage of the modified payback method is that it considers all future cash flows
from a project as does the NPV method.
LO4 – False The modified payback method does not consider all future cash flows from a project as
the NPV method does.
20. The accounting rate of return is relatively straightforward to compute, but ignores the time value of
money.
LO4 – True
21. Regardless of the method used to evaluate long-lived resources, firms need to consider one very
important factor: present value.
LO5 – False Regardless of the method they use to evaluate projects, firms need to consider one very
important factor: taxes.
22. Net cash flows typically equal accounting income.
LO5 – False Net cash flows do not typically equal accounting income.
8-2
,23. Taxes affect both the amount and timing of cash flows.
LO5 – True
24. Depreciation offers a tax shield that reduces the cash outflow associated with tax payments.
LO5 – True
25. U.S. tax laws only allow depreciation deductions using the Modified Accelerated Cost Recovery
System (MACRS).
LO5 – False In addition to straight-line depreciation method, U.S. tax laws also allow depreciation
deductions as stipulated by the Modified Accelerated Cost Recovery System (MACRS).
26. The hurdle rate reflects the minimum expected rate of return of the management from any project.
LO6 – True
27. Estimating future cash inflows and outflows, and identifying the appropriate discount rate for
present value calculations is generally all companies need to evaluate a given capital expenditure.
LO6 – False Estimating future cash inflows and outflows, and identifying the appropriate discount
rate for present value calculations is not enough. Companies also need to determine
the future non-financial costs and benefits from a capital expenditure.
28. Ignoring future benefits because they are hard to quantify can lead to lost opportunities.
LO6 – True
29. Some firms accept low rates of return to compensate for the risk from taking on long-lived capital
investments.
LO6 – False Some firms demand high rates of return to compensate for the risk from taking on
capital investments with longevity.
30. Real option analysis is a collection of mathematical techniques for valuing the flexibility associated
with a project.
LO6 – True
31. Assume you inherit cash from a relative and invest the money in a stock fund that promises an
expected annual return. If you want to know how much the money will grow if you reinvest any
interim proceeds in the same fund, use the Present Value Table for “Future Value of an Annuity in
Arrears” to determine the amount.
Appendix A – False Use the Present Value Table for “Future Value of an Investment” to determine
the amount.
32. Suppose you want to have $100,000 15 years from now. To determine the amount you need to
invest now at an expected rate of return, use the Present Value of a Future Financial Need.
Appendix A – True
33. When you were a high school senior, your parents estimated that your college tuition would $6,000
per year, and the amount would be due at the start of each year for the next four years. To
determine how much your parents needed to invest when you were a high school senior, they used
the table for Present Value of a Future financial Need.
Appendix A – False They used the table for Present Value of an Annuity in Arrears.
8-3
, Balakrishnan Managerial Accounting
34. An annuity is a stream of cash flow with the property that the cash flows are equal per period.
Appendix A – True
35. The only way to compute future values is using the built-in formula in spreadsheet programs.
Appendix A – False We can compute future values by using the built-in formula in spreadsheet
programs or looking up the value factor from a table.
1
36. The formula for the Present Value of $1 is:
(1 + r)n
Appendix B – True
37. The formula for the Future Value of $1 is (1 – r)n
Appendix B – False The formula for the Future Value of $1 is (1 + r)n.
1 – (1+r)n-1
38. The formula for the Present Value of an Annuity of $1 in Arrears is:
r
Appendix B – True
1 – (1+r)-n - 1
39. The formula for the Future Value of an Annuity of $1 in Arrears is:
r
Appendix B – True
8-4
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