IMANET IMANET Certifications IMANET-CMA Questions & Answers

• Question 11:

  Capital budgeting is concerned with?

  A. Decisions affecting only capital intensive industries.

  B. Analysis of short-range decisions.

  C. Analysis of long-range decisions.

  D. Scheduling office personnel in office buildings.

  Correct Answer: C

  Capital budgeting is concerned with long-range decisions, such as whether to add a product line, to build new facilities, or to lease or buy equipment Any decision regarding cash inflows and outflows over a period of more than 1 year probably needs capital budgeting analysis.

• Question 12:

  Which of the following is irrelevant in projecting the cash flows of the final year of a capital project?

  A. Cash devoted to use in project.

  B. Disposal value of equipment purchased specifically for project

  C. Depreciation tax shield generated by equipment purchased specifically for project.

  D. Historical cost of equipment disposed of in the projects first year.

  Correct Answer: D

  Once an old piece of equipment has been disposed of, its histoncal cost no longer has an impact on a firms cash flows.

• Question 13:

  Assume that the old equipment must be sold in order to purchase the new equipment. Given a constant effective corporate income tax rate and straight-line depreciation on both disposed and newly purchased pieces of equipment, the depreciation tax shield dung the later years of a capital project, assuming the old equipment was not yet full depreciated when it was disposed of, is general?

  A. Greater than that during the earlier years.

  B. Less than that during the earlier years

  C. The same as that during the earli or years.

  D. Not determinable from the information given.

  Correct Answer: A

  Older equipment that is being disposed of is reaching the end of its productive he. Thus, in the early years of the project, the depreciation expense on the new equipment only provides an incremental tax benefit since there was some depreciation expense still being recognized on the old equipment. Once the time of the old equipment's useful life has passed, all the depreciation tax shield is being provided by the (higher) expense being recognized on the new equipment.

• Question 14:

  A firm is exploring the possibility of engaging in a new capital project. A salvage company is offering the him more for its old equipment than the equipment's book value. If the firm accepts the salvage company's offer, the reduction to the net initial investment in the project will be?

  A. Less than if the salvage company's offer had resulted in a loss.

  B. Greater than if the salvage company's offer had resulted in a loss

  C. The same as if the salvage company's offer had reused in a loss.

  D. Not determinable from the information given.

  Correct Answer: A

  Since the salvage company's offer is for more than the book value of the equipment, an accrual- basis gain would result A loss on disposal of old equipment results in a tax benefit, since the loss reduces accrual basis income. Therefore, a gain. which increases accrual-basis income, results in a tax detriment, and the reduction to the net initial investment will be less than if the salvage company's offer had resulted in a loss.

• Question 15:

  A firm is considering a capital project for which the following information is available: An existing piece of equipment that would be disposed of to make room for new equipment has a historical cost of $370,000. It has a salvage value of $10000 and has been depreciated on a straight-line basis for 16 of the estimated 18 years of its useful life. The new equipment has a cost of $500,000 and the firm expects it will have to devote $20,000 in cash and $24,000 in accounts receivable to the new project. The firm's effective tax rate is 40%. The required net initial irwestrnent in the new project is?

  A. $544,000

  B. $534,000

  C. $518,000

  D. $498,000

  Correct Answer: C

• Question 16:

  Calamit4' Cauliflower Corporation is considering undertaking a capital project. The company would have to commit $24,000 of working capital in addition to an immediate outlay of $160,000 for new equipment. The project is expected to generate $100,000 of annual income for 10 years. At the end of that time, the new equipment, which will be depreciated on a straight-line basis, is expected to have a salvage value of $10,000. The existing equipment that would be sold to make room for the project has a historical cost of $220,000 and accumulated depreciation of $208,000. It has an estimated remaining useful life of 2 years and the remaining book value is being depreciated on a straight-tine basis. A scrap dealer has agreed to buy it for $8,000. The company's effective tax rate is 40%. Calamity Cauliflower's expected total cash inflow in the final year of the project is?

  A. $100,000

  B. $96,000

  C. $84,000

  D. $66,000

  Correct Answer: B

  The expected total cash inflow in the final year of the project consists of(1) $60,000 of cash flows from ongoing operations [$100,000 gross cash inflow x (1.0-- .40 tax rate)], (2) a $6,000 depreciation t shield [($15,000 annual depreciation expense on new equipment) x .40], (3) the after-tax cash inflow from disposal of the new equipment, in this case $6,000 [$10,000 disposal value x (1.0-- .40 tax rate)], and (4) recovery of the working capital set aside for the project ($24 000). The expected total cash inflow in the final year of the project is thus $96,000 ($6O.O00 + $6,000 + $6,000 + $24,000).

• Question 17:

  Calamity Cauliflower Corporation is considering undertaking a capital project. The company would have to commit $24,000 of working capital in addition to an immediate outlay of $160,000 for new equipment. The project is expected to generate $100.000 of annual income for 10 years. At the end of that time, the new equipment, which will be depreciated on a straight-line basis, is expected to have a salvage value of $10,000. The existing equipment that would be sold to make room for the project has a historical cost of $220,000 and accumulated depreciation of $208,000. It has an estimated remaining useful life of 2 years and the remaining book value is being depreciated on a straight-line basis A scrap dealer has agreed to buy it for $8,000. The company's effective tax rate is 40%. Calamity Cauliflowers expected net cash inflow for the first year of the project is

  A. $100,000

  B. $65,200

  C. $60,000

  D. $54,800

  Correct Answer: B

  The annual expected net cash inflow from a capital project consists of the after-tax cash inflow from operations {f$100.000 gross cash inflow--($100,000 x .40) income tax expense] = $60,000} plus the depreciation tax shield [($15,000 annual depreciation expense on new equipment --$2,000 annual depreciation expense on old equipment) x .40 $5.2O0],_or $65,200.

• Question 18:

  Calamity Cauliflower Corporation is considering undertaking a capital project. The company would have to commit $24 .000 of working capital in addition to an immediate outlay' of $160,000 for new equipment. The project is expected to generate $100,000 of annual income for 10 years. At the end of that time, the new equipment, which will be depreciated on a straight-line basis, is expected to have a salvage value of $10,000. The existing equipment that would be sold to make room for the project has a historical cost of $220,000 and accumulated depreciation of $208,000. It has an estimated remaining useful life of 2 years and the remaining book value is being depreciated on a straight-line basis.A scrap dealer has agreed to buy it for $8,000. The company's effective tax rate is 40%. Calamity Cauliflower's expected depreciation tax shield for the final year of the project is

  A. $6,000

  B. $5.200

  C. $2,000

  D. $0

  Correct Answer: A

  The old equipment has a remaining useful life of two years, after which it will be fully depreciated and no longer generating depreciation expense. Thus, the depreciation tax shield in the project's last year consists only of the annual depreciation expense on the new equipment [($160,000 historical cost ? $10,000 estimated salvage value) 10 years $15,000] Limes the tax rate (.40), or $6,000.

• Question 19:

  Calamity Cauliflower Corporation is considering undertaking a capital project, The company would have to commit $24,000 of working capital in addition to an immediate outlay of $160,000 for new equipment. The project ts expected to generate $100,000 of annual income for 10 years. At the end of that time, the new equipment, which will be depreciated on a straight-line basis, is expected to have a salvage value of $10,000. The existing equipment that would be sold to make room for the project has a histoncal cost of $220,000 and accumulated depreciation of $208,000. It has an estimated remaining useful life of 2 years and the remaining book value is being depreciated on a straight-line basis. A scrap dealer has agreed to buy it for $8,000. The company's effective tax rate is 40%. Calamity Cauliflowers expected additional depreciation tax shield for the first year of the project is?

  A. $13,000

  B. $6,000

  C. $5,200

  D. $2,000

  Correct Answer: C

  The new equipment has a depreciable base of $150,000 ($160,000 historical cost- $10,000 estimated salvage value), and has an estimated 1 0-year useful life, so annual depreciation expense is expected to be `$15,000. The old equipment has a depreciable base of $4,000 ($12,000 book value -- $8,000 salvage value) being depreciated on a straight-line basis over the remaining useful life o12 years results in $2,000 depreciation expense for the next 2 years. The depreciation tax shield for the first year is thus the difference in the two depreciation expense amounts times the tax rate [($15,000-$2,000) x .40 = $5,200].

• Question 20:

  Calamity Cauliflower Corporation is considering undertaking a capital project. The company would have to commit $24000 of working capital in addition to an immediate outlay of $160 .000 for new equipment. The project is expected to generate $100 .000 of annual income for 10 years. At the end of that time, the new equipment, witch will be depreciated on a straight-line basis, is expected to have a salvage value of $

  10.000. The existing equipment that would be sold to make room for the project has a historical cost of $220,000 and accumulated depreciation of $208,000. It has an estimated remaining useful life of 2 years and the remaining book value is being depreciated on a straight-line basis. A scrap dealer has agreed to buy it for $8,000. The company's effective tax rate is 40%. Calamity Cauliflower's relevant after-tax annual cash inflow from the ongoing operations of the project is

  A. $100,000

  B. $60,000

  C. $40,000

  D. $0

  Correct Answer: B

  The relevant after-tax annual cash inflow for the project consists of the gross cash inflow ,($10O.000) minus income tax expense ($100,000 x AO). or $60,000.