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ACCTCY 2037: chapter 24
capital investment analysis (capital budgeting) |
the process by which management plans, evaluates, and controls investments in fixed assets |
time value of money concept |
recognizes that an amount of cash invested today will earn income and therefore has value over time |
average rate of return (accounting rate of return) |
a measure of the average income asa percent of the average investment in fixed assets |
cash payback period |
the expected period of time that will pass the date of an investment and the complete recovery in cash (or equivalent) of the amount invested in |
net cash flow |
the excess of the cash flowing in from revenue over the csh flowing out for expenses |
present value concepts |
can be divided into the present value of an amount and the present value of an annuity. annuity |
annuity |
a series of equal net cash flows at fixed time intervals |
present value of an annuity |
the sum of the present values of each cash flow |
net present value method (discounted cash flow method) |
analyzes capital investment proposals by comparing the initial cash investment with the present value of the net cash flows |
present value index |
calculated by dividing the total present value of the net cash flow by the amount to be invested |
initial rate of return method (time-adjusted rate of return method) |
uses present value concepts to compute the rate of return form the net cash flows expected from capital investment proposals |
inflation |
occurs when general price levels are rising |
currency exchange rates |
the rates at which currency in another country can be exchanged for U.S. dollars |
capital rationing |
the process by which management allocates these funds among competing capital investment proposals |
methods evaluating capital investment proposals that ignore present value include... |
average rate of return
cash payback |
management is considering a $100,000 investment in a project with a 5-year life and no residual value. if the total income from the project is expected to be $60,000 and recognition is given to the effect of straight-line depreciation on the investment, the average rate of return is... |
(60,000/5)/(100,000-0)/2 = 24% |
the expected period of time that will elapse between the date of a capital investment an the complete recovery of the amount of cash invested is called... |
the cash payback period |
average rate of return |
a measure of the anticipated profitability of a proposal |
net present value method |
reduces the expected future net cash flows originating from ta proposal to their present values |
internal rate of return method |
uses present value concepts to compute the rate of return from the net cash flows expected from the investment |
a project that will cost $120,000 is estimated to generate cash flows of $25,000 per year for eight years. what is the net present value for the project, assuming an 11% required rate of return? |
page 1016 for answer |
a project is estimated to generate cash flows of $40,000 per year for 10 years. the cost of the project is $226,009. What is the internal rate of return for this project? |
226,009/40,000 = 5.65022 |