NEW
Font size
WorksheetsFM - Investment Appraisal (2023)
Total questions: 37
Worksheet time: 1hrs 25mins
The initial investment is 5,000. In the first year the firm paid back 1,000 in the second year 2,000 and the third year 3,000. Calculate the payback period
2 years
3 years
3 years 4 months
2 years 8 months
Calculate the ARR.
Initial investment is £12m.
17.2
16.5
17.5
21.4
Which of the following is NOT relevant to the use of the NPV method of investment appraisal?
It relies on discounted cash flows
It’s expressed as a percentage for easier comparison
Its value will fall if interest rates rise
A financially viable investment has a positive value
Guilder Co is appraising four different projects but is experiencing capital rationing in Year 0. No capital rationing is expected in future periods but none of the four projects that Guilder Co is considering can be postponed, so a decision must be made now. Guilder Co’s cost of capital is 12%.
Match the project to its correct ranking in terms of its profitability index.
Amster - First
Eind - Second
Utrec - Third
Tilbur - Fourth
Amster - Fourth
Eind - Third
Utrec - First
Tilbur - Second
mster - Fourth
Eind - First
Utrec - Second
Tilbur - Third
Amster - Fourth
Eind - Third
Utrec - First
Tilbur - Second
Guilder Co is appraising four different projects but is experiencing capital rationing in Year 0. No capital rationing is expected in future periods but none of the four projects that Guilder Co is considering can be postponed, so a decision must be made now. Guilder Co’s cost of capital is 12%.
Which of the following statements about Guilder Co’s decision to use PI is true?
The PI takes account of the absolute size of the individual projects
PI highlights the projects which are slowest in generating returns
PI can only be used if projects are divisible
PI allows for uncertainty about the outcome of each project
Guilder Co is appraising four different projects but is experiencing capital rationing in Year 0. No capital rationing is expected in future periods but none of the four projects that Guilder Co is considering can be postponed, so a decision must be made now. Guilder Co’s cost of capital is 12%.
The following information is available.
Project Outlay in Year 0 PV NPV
$ $ $
Amster 100,000 111,400 11,400
Eind 56,000 62,580 6,580
Utrec 60,000 68,760 8,760
Tilbur 90,000 102,400 12,400
Several years later, there is no capital rationing and Guilder Co decides to replace an existing machine. Guilder Co has the choice of either a Super machine (lasting 4 years) or a Great machine (lasting 3 years).
What is the equivalent annual cost (EAC) of the Super machine (to the nearest whole number)?
$Nil
$320,117
$105,410
$105,406
Guilder Co is appraising four different projects but is experiencing capital rationing in Year 0. No capital rationing is expected in future periods but none of the four projects that Guilder Co is considering can be postponed, so a decision must be made now.
Guilder Co’s cost of capital is 12%.
Identify, by clicking on the relevant box in the table below, whether each of the following statements about Guilder Co’s use of equivalent annual cost is true or false.
1. The use of equivalent annual cost is appropriate in periods of high inflation
2. The equivalent annual cost method assumes that the machine can be replaced by exactly the same machine in perpetuity
TRUE & FALSE
FALSE & TRUE
TRUE & TRUE
FALSE & FALSE
Guilder Co is appraising four different projects but is experiencing capital rationing in Year 0. No capital rationing is expected in future periods but none of the four projects that Guilder Co is considering can be postponed, so a decision must be made now. Guilder Co’s cost of capital is 12%.
The following potential cash flows are predicted for maintenance costs for the Great machine:
Year Cash flow Probability
($)
2 19,000 0.55
2 26,000 0.45
3 21,000 0.3
3 25,000 0.25
3 31,000 0.45
What is the expected present value of the maintenance costs for year 2 (to the nearest whole number)?
$ 26,000
$ 19,000
$ 22,150
$ 17,654
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
Which of the following statements is NOT correct?
Return on capital employed can be defined as profit before interest and tax divided by the sum of shareholders’ funds and prior charge capital
Return on capital employed is the product of net profit margin and net asset turnover
Dividend yield can be defined as dividend per share divided by the ex dividend share price
Return on equity can be defined as profit before interest and tax divided by shareholders’ funds
Which of the following statements are correct?
(1) The sensitivity of a project variable can be calculated by dividing the project net present value by the present value of the cash flows relating to that project variable
(2) The expected net present value is the value expected to occur if an investment project with several possible outcomes is undertaken once
(3) The discounted payback period is the time taken for the cumulative net present value to change from negative to positive.
1 and 2 only
1 and 3 only
2 and 3 only
1, 2 and 3
A company is evaluating an investment project with the following forecast cash flows:
what is the internal rate of return of the investment project?
15·8%
17·2%
17·8%
19·4%
An education authority is considering the implementation of a CCTV (closed circuit television) security system in one of its schools.
Details of the proposed project are as follows:
Life of project 5 years
Initial cost $75,000
Annual savings:
Labour costs $20,000
Other costs $5,000
NPV at 15% $8,800
What is the internal rate of return for this project to the nearest 1%?
16%
18%
20%
22%
An investor has a cost of capital of 10%. She is due to receive a five year annuity starting in three year's time of $7,000 per annum.
What lump sum amount would you need to offer today to make her indifferent between the annuity and your offer?
$26,537
$19,936
$16,667
$21,924
A newspaper reader has won first prize in a national competition and they have a choice as to how they take the prize:
Option 1 Take $90,000 per annum indefinitely starting in three years' time (and bequeath this right to their children and so on); or
Option 2 Take a lump sum of $910,000 in one year's time
Assuming a cost of capital of 10%, which would you advise and why?
Option 1 because $90,000 pa indefinitely is an infinite amount of money compared to a one-off payment.
Option 1 because it is worth more in present value terms.
Option 2 because it is worth more in present value terms.
Option 2 because the lump sum has the flexibility to be invested and earn a larger return than $90,000 pa
JCW Co is appraising an opportunity to invest in some new machinery that has the following cash flows.
Initial investment $40,000
Net cash inflows for five years in advance $12,000 per annum
Decommissioning costs after five years $15,000
At a cost of capital of 10% what is the net present value of this project (to the nearest $100)?
Negative $3,800
Positive $14,800
Positive $700
Negative $11,275
JCW Co is appraising an opportunity to invest in some new machinery that has the following cash flows.
Initial investment $40,000
Net cash inflows for five years in advance $12,000 per annum
Decommissioning costs after five years $15,000
What is the internal rate of return of the project (to the nearest whole %)?
12%
10%
14%
9%
Four mutually exclusive projects have been appraised using net present value (NPV), internal rate of return (IRR), return on capital employed (ROCE) and payback period (PP).
The company objective is to maximise shareholder wealth.
Which should be chosen?
Project A - NPV-$1m, IRR-40%, ROCE-34%, PP- 4 years
Project B - NPV-$1.1m, IRR-24%, ROCE-35%, PP- 2.5 years
Project C - NPV-$0.9m, IRR-18%, ROCE-25%, PP- 3 years
Project A - NPV-$1.5m, IRR-12%, ROCE-18%, PP- 7 years
Which of the following are advantages of the internal rate of return (IRR) approach to investment appraisal?
1 Clear decision rule
2 Takes into account the time value of money
3 Assumes funds are re-invested at the IRR
4 Considers the whole project
1, 2 and 4 only
2, 3 and 4 only
2 and 4 only
1, 2 and 3 only
A project has an initial outflow followed by years of inflows.
What would be the effect on net present value and the internal rate of return of an increase in the cost of capital?
NPV - Decrease IRR - Decrease
NPV - Increase IRR - Decrease
NPV - Decrease IRR - No change
NPV - Increase IRR - No change
A lease agreement has a net present value of ($26,496) at a rate of 8%. The lease involves an immediate down payment of $10,000 followed by four equal annual payments.
What is the amount of the annual payment?
$11,020
$4,981
$11,513
$14,039
Which of the following statements about net present value (NPV) and internal rate of return (IRR) is accurate?
Two NPV calculations are needed to estimate the IRR using linear interpolation.
The graphical approach to IRR is only an estimate; linear interpolation using the formula is required for a precise answer.
The IRR is unique.
An IRR graph with NPV on the 'Y' axis and discount rate on the 'X' axis will have a negative slope.
Paulo plans to buy a holiday villa in five years' time for cash. He estimates the cost will be $1.5m. He plans to set aside the same amount of funds each year for five years, starting immediately and earning a rate of 10% interest per annum compound.
To the nearest $100, how much does he need to set aside each year?
$223,400
$245,600
$359,800
$395,600
SW Co has a 31 December year end and pays corporation tax at a rate of 30%, 12 months after the end of the year to which the cash flows relate. It can claim tax allowable depreciation at a rate of 25% reducing balance. It pays $1m for a machine on 31 December 20X4. SW Co's cost of capital is 10%.
What is the present value on 31 December 20X4 of the benefit of the first portion of tax allowable depreciation?
$250,000
$227,250
$68,175
$75,000
A company receives a perpetuity of $20,000 per annum in arrears, and pays 30% corporation tax 12 months after the end of the year to which the cash flows relate.
At a cost of capital of 10%, what is the after tax present value of the perpetuity?
$140,000
$145,454
$144,000
$127,274
A project has the following projected cash inflows. Year 1 100,000 Year 2 125,000 Year 3 105,000 Working capital is required to be in place at the start of each year equal to 10% of the cash inflow for that year. The cost of capital is 10%.
What is the present value of the working capital?
$Nil
$(30,036)
$(2,735)
$33,000
AW Co needs to have $100,000 working capital in place immediately for the start of a two year project. The amount will stay constant in real terms. Inflation is running at 10% per annum, and AW Co's money cost of capital is 12%.
What is the present value of the cash flows relating to working capital?
$(21,260)
$(20,300)
$(108,730)
$(4,090)
NCW Co is considering investing $10,000 immediately in a one year project with the following cash flows.
Income $100,000
Expenses $35,000
The cash flows will arise at the end of the year. The above are stated in current terms. Income is subject to 10% inflation; expenses will not vary. The real cost of capital is 8% and general inflation is 2%.
Using the money cost of capital to the nearest whole percentage, what is the net present value of the project?
$68,175
$60,190
$58,175
$78,175
AM Co will receive a perpetuity starting in two years' time of $10,000 per annum, increasing by the rate of inflation (which is 2%).
What is the present value of this perpetuity assuming a money cost of capital of 10.2%?
$90,910
$125,000
$115,740
$74,403
FW Co is expecting a net of tax receipt of $10,000 (in real terms) in one year's time.
If FW Co expects inflation to increase, what impact will this have on the present value of that receipt?
Nil
Reduce
Increase
Cannot say
Shadowline Co has a money cost of capital of 10%. If inflation is 4%, what is Shadowline Co's real cost of capital?
6%
5.8%
14%
14.4%
Juicy Co is considering investing in a new industrial juicer for use on a new contract. It will cost $150,000 and will last two years. Juicy Co pays corporation tax at 30% (as the cash flows occur) and, due to the health benefits of juicing, the machine attracts 100% tax allowable depreciation immediately.
Given a cost of capital of 10%,
what is the minimum value of the pre-tax contract revenue receivable in two years which would be required to recover the net cost of the juicer?
$150,000
$105,000
$127,050
$181,500
Which of the following is true about the 'inflation' figure that is included in the money cost of capital?
It is historic and specific to the business.
It is historic general inflation suffered by the investors.
It is expected and specific to the business.
It is expected general inflation suffered by the investors.
The following financial information relates to an investment project:
$'000
Present value of sale revenue 50,025
Present value of variable costs 25,475
Present value of contribution 24,550
Present value of fixed costs 18,250
Present value of operating income 6,300
Initial investment 5,000
Net present value 1,300
What is the sensitivity of the net present value of the investment project to a change in sales volume?
7.1%
2.6%
5.1%
5.3%
