Capital Rationing Decision for a Service Company Involving Four Proposals Renaissance Capital Group is considering allocating a limited amount of capital investment funds among four proposals. The amount of proposed investment, estimated income from operations, and net cash flow for each proposal are as follows: Investment Year Income from Operations Net Cash Flow Proposal A: $680,000 1 $64,000 $200,000 2 64,000 200,000 3 64,000 200,000 4 24,000 160,000 5 24,000 160,000 $240,000 $920,000 Proposal B: $320,000 1 $26,000 $90,000 2 26,000 90,000 3 6,000 70,000 4 6,000 70,000 5 (44,000) 20,000 $20,000 $340,000 Proposal C: $108,000 1 $33,400 $55,000 2 31,400 53,000 3 28,400 50,000 4 25,400 47,000 5 23,400 45,000 $142,000 $250,000 Proposal D: $400,000 1 $100,000 $180,000 2 100,000 180,000 3 80,000 160,000 4 20,000 100,000 5 0 80,000 $300,000 $700,000 The company's capital rationing policy requires a maximum cash payback period of three years. In addition, a minimum average rate of return of 12% is required on all projects. If the preceding standards are met, the net present value method and present value indexes are used to rank the remaining proposals. Present Value of $1 at Compound Interest Year 6% 10% 12% 15% 20% 1 0.943 0.909 0.893 0.870 0.833 2 0.890 0.826 0.797 0.756 0.694 3 0.840 0.751 0.712 0.658 0.579 4 0.792 0.683 0.636 0.572 0.482 5 0.747 0.621 0.567 0.497 0.402 6 0.705 0.564 0.507 0.432 0.335 7 0.665 0.513 0.452 0.376 0.279 8 0.627 0.467 0.404 0.327 0.233 9 0.592 0.424 0.361 0.284 0.194 10 0.558 0.386 0.322 0.247 0.162 Required: 1. Compute the cash payback period for each of the four proposals. Cash Payback Period Proposal A: Proposal B: Proposal C: Proposal D: 2. Giving effect to straight-line depreciation on the investments and assuming no estimated residual value, compute the average rate of return for each of the four proposals. If required, round your answers to one decimal place. Average Rate of Return Proposal A: fill in the blank 5 % Proposal B: fill in the blank 6 % Proposal C: fill in the blank 7 % Proposal D: fill in the blank 8 % 3. Using the following format, summarize the results of your computations in parts (1) and (2) by placing the calculated amounts in the first two columns on the left and indicate which proposals should be accepted for further analysis and which should be rejected. If required, round your answers to one decimal place. Proposal Cash Payback Period Average Rate of Return Accept or Reject A fill in the blank 10 % B fill in the blank 13 % C fill in the blank 16 % D fill in the blank 19 % 4. For the proposals accepted for further analysis in part (3), compute the net present value. Use a rate of 15% and the present value of $1 table above. Round to the nearest dollar. Note: Select the proposals in alphabetic order. Select the proposal accepted for further analysis. Present value of net cash flow total $fill in the blank 23 $fill in the blank 24 Less amount to be invested $fill in the blank 25 $fill in the blank 26 Net present value $fill in the blank 27 $fill in the blank 28 5. Compute the present value index for each of the proposals in part (4). If required, round your answers to two decimal places. Note: Select the proposals in alphabetic order. Select proposal to compute Present value index. Present value index (rounded) fill in the blank 31 fill in the blank 32 6. Rank the proposals from most attractive to least attractive, based on the present values of net cash flows computed in part (4). Rank 1st Rank 2nd 7. Rank the proposals from most attractive to least attractive, based on the present value indexes computed in part (5). Rank 1st Rank 2nd 8. The present value indexes indicate that although Proposal has the larger net present value, it is not as attractive as Proposal in terms of the amount of present value per dollar invested. Proposal requires the larger investment. Thus, management should use investment resources for Proposal before investing in Proposal , absent any other qualitative considerations that may impact the decision.
Dividend Policy
A dividend is a part of the profit paid to the shareholder in an organization. The management of the organization has the right to decide the policy for giving a dividend from the earnings to the shareholder. However, an organization is not in the obligation to declare a dividend for the investor. Dividend policy differs from organization to organization. As the management has the only authority to decide dividend rate, dividend amount, and time of dividend payout by considering all other elements that create an impact on the payment of a dividend.
Stocks And Dividends
Stock or equities are generally sold and bought in the Stock Exchange or which is popularly known as the stock market. Stocks are issued in the Stock Exchange for the sole purpose of raising funds for the Corporation or the company itself. Now since an individual has purchased a portion of the Corporation or company, he or she may claim to be a part of the earnings or profit of the company.
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Capital Rationing Decision for a Service Company Involving Four Proposals
Renaissance Capital Group is considering allocating a limited amount of capital investment funds among four proposals. The amount of proposed investment, estimated income from operations, and net cash flow for each proposal are as follows:
| Investment | Year | Income from Operations | Net Cash Flow | |||
| Proposal A: | $680,000 | 1 | $64,000 | $200,000 | ||
| 2 | 64,000 | 200,000 | ||||
| 3 | 64,000 | 200,000 | ||||
| 4 | 24,000 | 160,000 | ||||
| 5 | 24,000 | 160,000 | ||||
| $240,000 | $920,000 | |||||
| Proposal B: | $320,000 | 1 | $26,000 | $90,000 | ||
| 2 | 26,000 | 90,000 | ||||
| 3 | 6,000 | 70,000 | ||||
| 4 | 6,000 | 70,000 | ||||
| 5 | (44,000) | 20,000 | ||||
| $20,000 | $340,000 | |||||
| Proposal C: | $108,000 | 1 | $33,400 | $55,000 | ||
| 2 | 31,400 | 53,000 | ||||
| 3 | 28,400 | 50,000 | ||||
| 4 | 25,400 | 47,000 | ||||
| 5 | 23,400 | 45,000 | ||||
| $142,000 | $250,000 | |||||
| Proposal D: | $400,000 | 1 | $100,000 | $180,000 | ||
| 2 | 100,000 | 180,000 | ||||
| 3 | 80,000 | 160,000 | ||||
| 4 | 20,000 | 100,000 | ||||
| 5 | 0 | 80,000 | ||||
| $300,000 | $700,000 |
The company's capital rationing policy requires a maximum cash payback period of three years. In addition, a minimum average
| Present Value of $1 at |
|||||
| Year | 6% | 10% | 12% | 15% | 20% |
| 1 | 0.943 | 0.909 | 0.893 | 0.870 | 0.833 |
| 2 | 0.890 | 0.826 | 0.797 | 0.756 | 0.694 |
| 3 | 0.840 | 0.751 | 0.712 | 0.658 | 0.579 |
| 4 | 0.792 | 0.683 | 0.636 | 0.572 | 0.482 |
| 5 | 0.747 | 0.621 | 0.567 | 0.497 | 0.402 |
| 6 | 0.705 | 0.564 | 0.507 | 0.432 | 0.335 |
| 7 | 0.665 | 0.513 | 0.452 | 0.376 | 0.279 |
| 8 | 0.627 | 0.467 | 0.404 | 0.327 | 0.233 |
| 9 | 0.592 | 0.424 | 0.361 | 0.284 | 0.194 |
| 10 | 0.558 | 0.386 | 0.322 | 0.247 | 0.162 |
Required:
1. Compute the cash payback period for each of the four proposals.
| Cash Payback Period | |
| Proposal A: | |
| Proposal B: | |
| Proposal C: | |
| Proposal D: |
2. Giving effect to straight-line
| Average Rate of Return | |
| Proposal A: | fill in the blank 5 % |
| Proposal B: | fill in the blank 6 % |
| Proposal C: | fill in the blank 7 % |
| Proposal D: | fill in the blank 8 % |
3. Using the following format, summarize the results of your computations in parts (1) and (2) by placing the calculated amounts in the first two columns on the left and indicate which proposals should be accepted for further analysis and which should be rejected. If required, round your answers to one decimal place.
| Proposal | Cash Payback Period | Average Rate of Return | Accept or Reject | |
| A | fill in the blank 10 | % | ||
| B | fill in the blank 13 | % | ||
| C | fill in the blank 16 | % | ||
| D | fill in the blank 19 | % |
4. For the proposals accepted for further analysis in part (3), compute the net present value. Use a rate of 15% and the present value of $1 table above. Round to the nearest dollar.
Note: Select the proposals in alphabetic order.
| Select the proposal accepted for further analysis. | ||
| Present value of net cash flow total | $fill in the blank 23 | $fill in the blank 24 |
| Less amount to be invested | $fill in the blank 25 | $fill in the blank 26 |
| Net present value | $fill in the blank 27 | $fill in the blank 28 |
5. Compute the present value index for each of the proposals in part (4). If required, round your answers to two decimal places.
Note: Select the proposals in alphabetic order.
| Select proposal to compute Present value index. | ||
| Present value index (rounded) | fill in the blank 31 | fill in the blank 32 |
6. Rank the proposals from most attractive to least attractive, based on the present values of net cash flows computed in part (4).
| Rank 1st | |
| Rank 2nd |
7. Rank the proposals from most attractive to least attractive, based on the present value indexes computed in part (5).
| Rank 1st | |
| Rank 2nd |
8. The present value indexes indicate that although Proposal has the larger net present value, it is not as attractive as Proposal in terms of the amount of present value per dollar invested. Proposal requires the larger investment. Thus, management should use investment resources for Proposal before investing in Proposal , absent any other qualitative considerations that may impact the decision.
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