ACCA FM - Chapter FM Investment Appraisal

A company is considering investing in a two‐year project. Machine set‐up costs will be $125,000, payable immediately. Working capital of $4,000 is required at the beginning of the contract and will be released at the end.

Given a cost of capital of 10%, what is the minimum acceptable contract price (to the nearest thousand dollar) to be received at the end of the contract?

• $151,000

• $154,000

• $152,000

• $186,000

Which of the following statements is correct?

• Tax allowable depreciation is a relevant cash flow when evaluating borrowing to buy compared to leasing as a financing choice

• Asset replacement decisions require relevant cash flows to be discounted by the after‐tax cost of debt

• If capital is rationed, divisible investment projects can be ranked by the profitability index when determining the optimum investment schedule

• Government restrictions on bank lending are associated with soft capital rationing

A company has 31 December as its accounting year end. On 1 January 20X5 a new machine costing $2,000,000 is purchased. The company expects to sell the machine on 31 December 20X6 for $350,000.

The rate of corporation tax for the company is 30%. Tax‐allowable depreciation is obtained at 25% on the reducing balance basis, and a balancing allowance is available on disposal of the asset. The company makes sufficient profits to obtain relief for tax‐allowable depreciation as soon as they arise.

If the company’s cost of capital is 15% per annum, what is the present value of the tax‐ allowable depreciation at 1 January 20X5 (to the nearest thousand dollars)?

• $391,000

• $248,000

• $263,000

• $719,000

An investment project has a cost of $12,000, payable at the start of the first year of operation. The possible future cash flows arising from the investment project have the following present values and associated probabilities:

What is the expected value of the net present value of the investment project?

• $11,850

• $28,700

• $11,100

• $76,300

A company has a ‘money’ cost of capital of 21% per annum. The inflation is currently estimated at 8% per annum.

What is the ‘real’ cost of capital?

• 21%

• 12%

• 11%

• 9%

A company is considering a project which has an initial outflow followed by several years of cash inflows, with a cash outflow in the final year.

How many internal rates of return could there be for this project?

• Either zero or two

• Either one or two

• Zero, one or two

• Only two

A project consists of a series of cash outflows in the first few years followed by a series of positive

cash inflows. The total cash inflows exceed the total cash outflows. The project was originally evaluated assuming a zero rate of inflation.

If the project were re‐evaluated on the assumption that the cash flows were subject to a positive rate of inflation, what would be the effect on the payback period and the internal rate of return?

• Payback period - Increase, IRR - Increase

• Payback period - Decrease, IRR - Decrease

• Payback period - Decrease, IRR - Increase

• Payback period - Increase, IRR - Decrease

The lower risk of a project can be recognised by increasing which of the following?

• The cost of the initial investment of the project

• The estimates of future cash inflows from the project

• The internal rate of return of the project

• The required rate of return of the project

A company has the following pattern of cash flow for a project:

The company uses a discount rate of 10%. In what year does discounted payback occur?

• Year 2

• Year 3

• Year 4

• Year 5

Sudan Co wishes to undertake a project requiring an investment of $732,000 which will generate equal annual inflows of $146,400 in perpetuity.

If the first inflow from the investment is a year after the initial investment, what is the IRR of the project?

• 20%

• 25%

• 400%

• 500%