Capital Budgeting and Managerial Decisions

Planning plant asset investments is called capital budgeting.

True / False
True
The payback period of an investment is determined by dividing the cost of the investment by the revenues generated from the investment.

True / False
False
If the cost of an investment is $12,000 and the expected annual sales from the investment is $4,000, then the payback period is 3.0 years.

True / False
False
It is possible to determine a payback period when the net cash flows from the project are uneven.

True / False
True
The major weaknesses of using the payback period as the sole criteria for capital budgeting decisions is that it ignores the timing of the cash flows, the risk involved, and the extent or amount of the cash flows beyond the payback period.

True / False
True
The result of dividing the annual, after-tax income that results from using an asset by the average investment in the asset is known as the accounting rate of return or the rate of return on average investment.

True / False
True
The return on average investment for an investment in production machinery will be lower if the ending book value is used in place of the final year's book value, when determining the average investment.

True / False
False
Using an accounting rate of return is limited because of its failure to distinguish between two investments with the same average annual net income but where one yields higher amounts in the early years and the other in later years.

True / False
True
A project is acceptable if the total present value of its cash flows exceeds the amount to be invested.

/ False
True
There is no advantage to using accelerated amortization methods for tax reporting in so far as the present value of cash flows are affected.

True / False
False
The use of the net present value method for investment decisions is limited to those investments that generate equal annual net cash flows over the life of the investment.

True / False
False
When using the internal rate of return to evaluate capital investments, the user must determine the hurdle rate that the internal rate must exceed for the capital investment to be acceptable.

True / False
True
A sunk cost arises from a past decision and cannot be avoided or changed.

True / False
True
A cost incurred as a consequence of a past irrevocable decision and that, therefore, cannot be avoided is known as an opportunity cost.

True / False
False
Opportunity costs, like sunk costs, are irrelevant to decision making.

True / False
False
In a decision to accept an additional volume of business, the costs relevant to reaching a decision are the incremental or differential costs.

True / False
True
In make or buy decisions, the predetermined overhead rate should be ignored when determining the overhead associated with making a product.

True / False
True
Costs incurred in manufacturing units of product not meeting quality standards are sunk costs and are irrelevant in any decision of whether to sell the units as scrap or rework them so they meet quality standards.

True / False
True
The decision between selling units as scrap or reworking them so that they meet the quality standards necessary for them to be sold will be influenced by the sunk costs incurred in manufacturing the units that did not meet the quality standards.

True / False
False
Opportunity costs are not a factor in a rework or scrap decision.

True / False
False
The amount of incremental revenue is the determining factor in a 'sell or process further' decision.

True / False
False
In all cases where a company can manufacture more than one product, and the company has no excess capacity, it should manufacture only the most profitable product.

True / False
False
Avoidable and escapable costs are same costs.

True / False
True
A decision rule regarding eliminating a segment is that a segment is a candidate for elimination if its revenues are less than its unavoidable expense.

True / False
False
Break-even time (BET) is a method of determining the payback period in terms of discounted cash flows.

True / False
True
An expense (or cost) that would not be incurred if the department, product, or service is eliminated is called a(n) ________________ cost.
AVOIDABLE
The process of analyzing alternative investments and deciding which assets to acquire or sell is called ________________ budgeting.

CAPITAL
If the company accepts an additional volume of business that will increase variable costs by $15,000, the variable cost increase can be referred to as an ________________ cost.

INCREMENTAL
The ________________ value is a dollar amount used to evaluate the acceptability of an investment; it is an estimate of an asset's value to the company.

NET PRESENT
If you have given up 6 hours of work at $12 an hour to attend your accounting class, the $72 of foregone wages is an ________________ cost to you of attending class.

OPPORTUNITY
A cost incurred or avoided as a result of management's decisions is called an ________________ cost.

OUT-of-POCKET
The net cash inflows from a $20,000 investment will be $5,000 per year, which results in a ________________ period of 4 years.

PAYBACK
Amortization expense, which cannot be avoided or changed in any way because it arises from a past decision, is an example of a ________________ cost.

SUNK
________________ expenses (or costs) will continue even if the department, product, or service is eliminated.

UNAVOIDABLE
An out-of-pocket cost/expense that requires a future outlay of cash and is relevant for future decision making: costs/expenses that would not be incurred if the department/product/service were eliminated.
Avoidable costs/expenses
A rate used to evaluate the acceptability of an investment; equals the after-tax periodic income from the project divided by the average investment in the asset; also called return on average investment.

Accounting rate of return
A time-based measurement used to evaluate the acceptability of an investment; equals the time expected to pass before the present value of the net cash flows from an investment equals its initial cost.
Break-even time (BET)
The process of analyzing alternative investments and deciding which assets to acquire or sell.
Capital budgeting
The process or restating future cash flows in terms of their present value.
Discounting
A minimum acceptable rate of return; used when interpreting the internal rate of return.
Hurdle rate
An additional cost incurred only if the company accepts the additional volume.
Incremental cost
A dollar amount used to evaluate the acceptability of an investment; an estimate of an asset's value to the company; computed by discounting the future cash flows from the investment at a satisfactory rate and then subtracting the intital cost of the investment.
Net present value
The costs that represent the potential benefits lost by choosing an alternative course of action.
Opportunity cost
A cost incurred or avoided as a result of management's decisions.
Out-of-pocket cost
A time-based measurement used to evaluate the acceptability of an investment; the time expected to pass before the net cash flows from an investment return its initial cost.
Payback period
The additional or incremental revenue that is generated by selecting a particular course of action over another.

Relevant benefits
A future cost that differs between alternatives in a particular business decision. A relevant cost can be eliminated by choosing one alternative over another and is sometimes called an avoidable cost or differential cost.
Relevant cost
Contribution margin less traceable fixed costs.
Segment margin
A cost that cannot be avoided or changed in any way because it arises from a past decision; irrelevant to future decisions.
Sunk cost
No further out-of-pocket cost/expense required regardless of future decison making, cost/expenses that would continue even if the department/product/service were eliminated.
Unavoidable costs/expenses