Polenar Budgeting-Assignment

GERALD D.
POLENAR ACT121 K5-2 DECEMBER 15, 2022

STRATEGIC COST MANAGEMENT
Exercise 13-1 Payback Method

Required:
1. Determine the payback period of the investment.
Year Investment Cash Inflow Unrecovered Investment

1 $15,000 $1,000 $14,000
2 $ 8,000 $2,000 $20,000
3 $2,500 $17,000
4 $4,000 $13,500
5 $5,000 $ 8,500
6 $6,000 $ 2,500
7 $5,000 $0
8 $4,000 $0
9 $3,000 $0
10 $2,000 $0
As the calculation on the payback period above, on the 7 th year the investment will be
fully recovered.
2. Would the payback period be affected if the cash inflow in the last year were several times
as large?
After the 6.5-year repayment period, all additional cash inflows are ignored or have no
bearing on the payback period.
Exercise 13-2 Net Present Value Method
Required:
1. Determine the net present value of the investment in the machine.
Now 1 2 3 4 5
Purchase of machine $(27,000)
Reduced operating $7,000 $7,000 $7,000 $7,000 $7,000
costs
Total cash flows (a) $(27,000) $7,000 $7,000 $7,000 $7,000 $7,000
Discount factor (12%) 1,000 0.893 0.797 0.712 0.636 0.567
(b)
Present Value (a)x(b) $(27,000) $6,251 $5,579 $4,984 $4,452 $3,969
Net present value $(1,765)
2. What is the difference between the total, undiscounted cash inflows and cash outflows over
the entire life of the machine?
Item Cash Flow Years Total Cash
Flows
Annual cost $7,000 5 $35,000
savings
Initial $ (27,000) 1 (27,000)
investment
Net cash low $8,000
Exercise 13-3 Internal Rate of Return
Required:
1. What would be the total annual cash inflows associated with the new machine for capital
budgeting purposes?
Annual savings in part-time help $3,800

Added contribution margin from expanded sales (1000 x 1.20)
Annual cash inflows $5,000.00
2. Find the internal rate of return promised by the new machine to the nearest whole percent.
Factor of the internal rate of return = Investment required

Annual net cash inflow
= $18,600
5,000
= 3.720 represent 16% internal rate or return
3. In addition to the data given previously, assume that the machine will have a $9,125
salvage value at the end of six years. Under these conditions, compute the internal rate of
return to the nearest whole percent. (Hint: You may find it helpful to use the net present
value approach; find the discount rate that will cause the net present value to be closest to
zero.)
Internal rate of return = 15%
Exercise 13-5 Preference Ranking

Required:
1. Compute the project profitability index for each investment proposal.
Investment Net Present Value Investment Project

Proposal (a) Required (b) Profitability Index
(a) ÷ (b)
A $77,400 $190,000 0.41
B $69,400 $180,000 0.39
C $89,300 $170,000 0.53
D $297,500 $900,000 0.33
2. Rank the proposals in terms of preference.

Investment Proposal Project Profitability Index
C 0.53
A 0.41
B 0.39
D 0.33
Exercise 13-6 Simple Rate of Return Method

Required:
Compute the simple rate of return on the new automated bottling machine.
Operating cost of old machine $30,000
Less operating cost of new machine 12,000
Less annual depreciation on the new
machine ($120,000 ÷ 10 years) 12,000
Annual incremental net operating income $6,000
Cost of the new machine $120,000
Scrap value of old machine. 40,000
Initial investment $ 80,000
Simple rate of return = Annual incremental net operating income / Incremental initial
investment
= $6,000 / $80,000
= 7.5%
Exercise 13-7 Net Present Value Analysis of Two Alternatives

Required:
Which investment alternative (if either) would you recommend that the company accept? Show
all computations using the net present value format. Prepare separate computations for each project.
In Project A:
Now 1 2 3 4 5 6
Purchase
In Project B:$(100,000)
of
equipment Now 1 2 3 4 5 6
Working Annual $(100,000 $21,000 $21,000 $21,000 $21,00 $21,000 $21,000
capital cash ) 0
investedinflows
Annual Salvage
cash $16,000 $16,000 $16,000 $16,000 $16,000 8,000
$16,000
inflows value
Total cash $(100,000) $21,000 $21,000
Working $21,000 $21,00 $21,000 $29,000
capitalflows (a) 0 $100,000
Discount
released 1.000 0.877 0.769 0.675 0.592 0.519 0.456
Total factor
cash (b) $(100,000 $16,000 $16,000 $16,000 $16,000 $16,000 $16,000
Present
flows (a) $(100,000)
) $18,417 $16,149 $14,175 $12,43 $10,899 $13,224
value (a x
Discount 1.000 0.877 0.769 0.675 2
0.592 0.519 0.456
b)
factor (14%)
(b) Net present $(14,704)
value
Present value $(100,000 $14,032 $12,304 $10,800 $9,472 $8,304 $52,896
(a x b) )
Net present $7,808
value
Since Project B produced a positive net present value as compared to Project A's negative present
value, it is the favoured investment option of the two projects.
Exercise 13-8 Payback Period and Simple Rate of Return

Required:
1. Assume that Nick’s Novelties, Inc., will not purchase new games unless they provide a
payback period of five years or less. Would the company purchase the new games?
The answer is yes because, if the payback term is five years or less, the investment would be repaid
in four years. The company will then buy new games after that.
2. Compute the simple rate of return promised by the games. If the company requires a simple rate
of return of at least 12%, will the games be purchased?
Simple rate of return = Annual incremental / Ney income Initial Investment
= 31,500 / 225,000
Net operating income $40,000
Add noncash deduction for depreciation $ 35,000
= Annual net cash inflow $75,000 14%
Yes, the company will keep purchasing the game because it provides a 14%
return as opposed to a 12% return.
Exercise 13-11 Preference Ranking of Investment Projects
Required:
1. Compute the project profitability index for each project.
A B C D
Net Present value $ 44,323 $ 42,000 $ 35,035 $ 38,136
Divide:
Investment 160,000 135,000 100,000 175,000
required
Project
0.28 0.31 0.35 0.22
profitability index
2. In order of preference, rank the four projects in terms of:

Net present value Project profitability index.Internal rate of return.
First preference 1 3 4
Second preference 2 2 3
Third preference 4 1 1
Fourth preference 3 4 2
2. Which ranking do you prefer? Why?

3.
Project C, which has the lowest capital investment requirements, the highest project
profitability index, and the second-best internal rate of return of the four, is the one I would
want to be authorized first.

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GERALD D.

POLENAR ACT121 K5-2 DECEMBER 15, 2022

Exercise 13-1 Payback Method

Year Investment Cash Inflow Unrecovered Investment

Annual savings in part-time help $3,800

Factor of the internal rate of return = Investment required

Internal rate of return = 15%

Exercise 13-5 Preference Ranking

Investment Net Present Value Investment Project

2. Rank the proposals in terms of preference.

Exercise 13-6 Simple Rate of Return Method

Exercise 13-7 Net Present Value Analysis of Two Alternatives

Exercise 13-8 Payback Period and Simple Rate of Return

2. In order of preference, rank the four projects in terms of:

2. Which ranking do you prefer? Why?

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