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# Carte Blanco Company is evaluating an investment of \$1,000,000 which will yield cash flows

Carte Blanco Company is evaluating an investment of \$1,000,000 which will yield cash flows of \$257,000 per year for 5 years with no residual value.

 Present Value of an Annuity of \$1 5% 6% 7% 8% 9% 10% 1 0.952 0.943 0.935 0.926 0.917 0.909 2 1.859 1.833 1.808 1.783 1.759 1.736 3 2.723 2.673 2.624 2.577 2.531 2.487 4 3.546 3.465 3.387 3.312 3.240 3.170 5 4.329 4.212 4.100 3.993 3.890 3.791

If Carte Blanco has a hurdle rate of 10%, they should accept the investment because its internal rate of return is higher than 10%.

Explanation:  Calculations:  \$1,000,000/\$257,000 = 3.891

Diff: 2

LO:  21-4

EOC Ref:  E21-24

AACSB:  Analytic Skills

AICPA Functional:  Measurement

16) Osterwitz Company is evaluating an investment of \$1,000,000 which will yield cash flows of \$142,400 per year for 10 years with no residual value.

 Present Value of an Annuity of \$1 5% 6% 7% 8% 9% 10% 1 0.952 0.943 0.935 0.926 0.917 0.909 2 1.859 1.833 1.808 1.783 1.759 1.736 3 2.723 2.673 2.624 2.577 2.531 2.487 4 3.546 3.465 3.387 3.312 3.240 3.170 5 4.329 4.212 4.100 3.993 3.890 3.791 6 5.076 4.917 4.767 4.623 4.486 4.355 7 5.786 5.582 5.389 5.206 5.033 4.868 8 6.463 6.210 5.971 5.747 5.535 5.335 9 7.108 6.802 6.515 6.247 5.995 5.759 10 7.722 7.360 7.024 6.710 6.418 6.145

If Osterwitz has a hurdle rate of 6%, they should accept the investment because it has an internal rate of return greater than 6%.

Explanation:  Calculations:  \$1,000,000/\$142,400 = 7.022

Diff: 2

LO:  21-4

EOC Ref:  E21-24

AACSB:  Analytic Skills

AICPA Functional:  Measurement

17) Allied Chemicals has a hurdle rate of 9% for new investments.  The production manager suggests that an equipment upgrade costing \$84,460 would yield net cash flows of \$40,000 in the first year, \$30,000 in the second year, \$20,000 in the third year, and \$10,000 in the fourth and final year.

 Present Value of \$1 5% 6% 7% 8% 9% 10% 1 0.952 0.943 0.935 0.926 0.917 0.909 2 0.907 0.890 0.873 0.857 0.842 0.826 3 0.864 0.840 0.816 0.794 0.772 0.751 4 0.823 0.792 0.763 0.735 0.708 0.683 5 0.784 0.747 0.713 0.681 0.650 0.621

The investment meets the company&#39;s hurdle rate requirement and should be adopted.

18) If an investment project&#39;s IRR is higher than the company&#39;s hurdle rate, the company should go forward with the investment.

Diff: 1

LO:  21-4

EOC Ref:  E21-24

AACSB:  Reflective Thinking

AICPA Functional:  Measurement

19) The rate of return and payback methods DO NOT take into consideration the time value of money.  Discounted cash flow methods DO make use of the time value of money.

Diff: 1

LO:  21-4

EOC Ref:  E21-22

AACSB:  Analytic Skills

AICPA Functional:  Measurement

20) Which of the following is TRUE of discounted cash flow methods like NPV and IRR?

A) They use simple interest calculations.

B) They use net income amounts rather than cash flows.

C) They focus on the payback period.

D) They incorporate compound interest calculations.

Diff: 1

LO:  21-4

EOC Ref:  E21-22

AACSB:  Analytic Skills

AICPA Functional:  Measurement

21) Compound interest used in discounted cash flow calculations assumes that companies will reinvest future cash flows when they are received.

Diff: 1

LO:  21-4

EOC Ref:  E21-22

AACSB:  Analytic Skills

AICPA Functional:  Measurement

22) Which of the following is TRUE of discounted cash flow methods like NPV and IRR?

A) They use simple interest calculations.

B) They assume that cash flows will be reinvested when received.

C) They focus on the payback period.

D) They must follow the rules of GAAP.

Diff: 1

LO:  21-4

EOC Ref:  E21-22

AACSB:  Analytic Skills

AICPA Functional:  Measurement

23) Cash flows used in NPV and IRR analyses include all of the following EXCEPT:

A) future increased sales.

B) future cost savings.

C) depreciation expense.

D) residual value.

Diff: 1

LO:  21-4

EOC Ref:  E21-22

AACSB:  Analytic Skills

AICPA Functional:  Measurement

24) An investment would be considered a good prospect under which of the following conditions?

A) The present value of the cash flows exceeds the initial investment.

B) The IRR is lower than the hurdle rate.

C) The cash inflows are greater than the initial investment.

D) It has a residual value.

Diff: 1

LO:  21-4

EOC Ref:  E21-22

AACSB:  Analytic Skills