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Principles of Accounting, Volume 2: Managerial Accounting

Thought Provokers

Principles of Accounting, Volume 2: Managerial AccountingThought Provokers

Thought Provokers

TP 1.

LO 11.1What is the benefit(s) of the accountant’s involvement in the capital investment decision?

TP 2.

LO 11.1Austin’s cell phone manufacturer wants to upgrade their product mix to encompass an exciting new feature on their cell phone. This would require a new high-tech machine. You are excited about his new project and are recommending the purchase to your board of directors. Here is the information you have compiled in order to complete this recommendation:

According to the information, the project will last 10 years and require an initial investment of $800,000, depreciated with straight-line over the life of the project until the final value is zero. The firm’s tax rate is 30% and the required rate of return is 12%. You believe that the variable cost and sales volume may be as much as 10% higher or lower than the initial estimate. Your boss understands the risks but asks you to explain the alternatives in a brief memo to the board. Write a memo to the Board of Directors objectively weighing out the pros and cons of this project and make your recommendation(s).

TP 3.

LO 11.3Would you rather have $7,500 today or at the end of 20 years after it has been invested at 15%? Explain your answer.

The following are independent situations. For each capital budgeting project, indicate whether management should accept or reject the project and list a brief reason why.

TP 4.

LO 11.4Midas Corp. evaluated a potential investment and determined the NPV to be zero. Midas Corp.’s required rate of return is 9.1% and its cost of capital is 6.4%.

TP 5.

LO 11.4Giorgio Co. is looking at an investment project with an internal rate of return of 10.8%. The initial outlay for the investment is $90,000. The hurdle rate or minimum acceptable rate of return is 10.2%.

TP 6.

LO 11.4Dinaro Inc. is looking at an investment project that has an NPV of ($5,000). The hurdle rate is 8%.

TP 7.

LO 11.4You begin a new job at Cabrera Medical Supplies. The company is considering a new accounting system, with an initial investment of about half a million dollars for new software and hardware. You are excited for the opportunity to apply your managerial accounting skills regarding screening and preference methods to decide on the best system for the company. Your boss is a little old-school, and when you mention some of the things you learned in managerial accounting, he says, “Discounted cash flow methods are not the only way to approach this. I have more of a gut reaction approach that blows most managers out of the water when they become absorbed by discounted cash flow methods (DCF).”

How would you react and what would you discuss with your boss?

TP 8.

LO 11.5Fenton, Inc., has established a new strategic plan that calls for new capital investment. The company has a 9.8% required rate of return and an 8.3% cost of capital. Fenton currently has a return of 10% on its other investments. The proposed new investments have equal annual cash inflows expected. Management used a screening procedure of calculating a payback period for potential investments and annual cash flows, and the IRR for the 7 possible investments are shown. Each investment has a 6-year expected useful life and no salvage value.

  1. Identify which project(s) is/are unacceptable and briefly state the conceptual justification as to why each of your choices is unacceptable.
  2. Assume Fenton has $330,000 available to spend. Which remaining projects should Fenton invest in and in what order?
  3. If Fenton was not limited to a spending amount, should they invest in all of the projects given the company is evaluated using return on investment?
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