Foundations of Finance (9th Edition) (Pearson Series in Finance)
9th Edition
ISBN: 9780134083285
Author: Arthur J. Keown, John D. Martin, J. William Petty
Publisher: PEARSON
expand_more
expand_more
format_list_bulleted
Concept explainers
Videos
Textbook Question
Chapter 10, Problem 27SP
(Capital rationing) The Cowboy Hat Company of Stillwater, Oklahoma, is considering seven capital investment proposals for which the total funds available are limited to a maximum of $12 million. The projects are independent and have the following costs and profitability indexes associated with them:
- a. Under strict capital rationing, which projects should be selected?
- b. What problems are there with capital rationing?
Expert Solution & Answer
Want to see the full answer?
Check out a sample textbook solution
Students have asked these similar questions
Barnard Manufacturing is considering three capital investment proposals. At this time, Barnard only has funds available to pursue one of the three investments.
|(Click the icon to review the proposals.)
Which investment should Barnard pursue at this time? Why?
Since each investment requires a different initial investment and presents a positive NPV, Barnard Manufacturing should use the profitability index to compare
the profitability of each investment.
Select the labels for the evaluation measure you determined above. Enter the amounts into the formula, beginning with Equipment A, and calculate the amount
you will use to evaluate each investment. (Enter all amounts as positive numbers. Round the evaluation measure to two decimal places, X.XX.)
- X
Data Table
Equipment A
Equipment B
Equipment C
Present value of net cash inflows
1,832,478 S
1,865,471 $
2,169,724
(1,650,881)
(1,516,643)
(1,749,777)
Initial Investment
181,597 S
348,828 S
419,947
NPV
Print
Done
Managers are evaluating two independent
projects. Project X has a NPV of $282,500 and a
profitability index of 2.1. Project Y has a NPV of $
320,000 and a profitability index of 1.7. Which of
the following statements are correct?
Multiple select question.
If funds are not limited, the company should only
invest in the project Y.
If funds are limited, Project Y should be selected
because it has the highest net present value.
If funds are limited, Project X should be selected
because it has the highest profitability index.
If funds are not limited, the company should
consider investing in both projects.
A company is considering three alternative Investment projects with different net cash flows. The present value of net cash flows is
calculated using Excel and the results follow.
Potential Projects
Present value of net cash flows (excluding initial investment)
Initial investment
Complete this question by entering your answers in the tabs below.
a. Compute the net present value of each project.
b. If the company accepts all positive net present value projects, which of these will It accept?
c. If the company can choose only one project, which will it choose on the basis of net present value?
Required A Required B
Compute the net present value of each project.
Potential Projects
Project A
Present value of net cash flows
Initial investment
Net present value
Required C
Project E
Project C
$10,685
(10,000)
Chapter 10 Solutions
Foundations of Finance (9th Edition) (Pearson Series in Finance)
Ch. 10 - Why is capital budgeting such an important...Ch. 10 - What are the disadvantages of using the payback...Ch. 10 - Prob. 4RQCh. 10 - What are mutually exclusive projects? Why might...Ch. 10 - Prob. 6RQCh. 10 - When might two mutually exclusive projects having...Ch. 10 - Prob. 1SPCh. 10 - Prob. 2SPCh. 10 - Prob. 3SPCh. 10 - (NPV, PI, and IRR calculations) Fijisawa Inc. is...
Ch. 10 - (Payback period, NPV, PI, and IRR calculations)...Ch. 10 - (NPV, PI, and IRR calculations) You are...Ch. 10 - (Payback period calculations) You are considering...Ch. 10 - (NPV with varying required rates of return)...Ch. 10 - Prob. 9SPCh. 10 - (NPV with varying required rates of return) Big...Ch. 10 - (NPV with different required rates of return)...Ch. 10 - (IRR with uneven cash flows) The Tiffin Barker...Ch. 10 - (NPV calculation) Calculate the NPV given the...Ch. 10 - (NPV calculation) Calculate the NPV given the...Ch. 10 - (MIRR calculation) Calculate the MIRR given the...Ch. 10 - (PI calculation) Calculate the PI given the...Ch. 10 - (Discounted payback period) Gios Restaurants is...Ch. 10 - (Discounted payback period) You are considering a...Ch. 10 - (Discounted payback period) Assuming an...Ch. 10 - (IRR) Jella Cosmetics is considering a project...Ch. 10 - (IRR) Your investment advisor has offered you an...Ch. 10 - (IRR, payback, and calculating a missing cash...Ch. 10 - (Discounted payback period) Sheinhardt Wig Company...Ch. 10 - (IRR of uneven cash-flow stream) Microwave Oven...Ch. 10 - (MIRR) Dunder Mifflin Paper Company is considering...Ch. 10 - (MIRR calculation) Arties Wrestling Stuff is...Ch. 10 - (Capital rationing) The Cowboy Hat Company of...Ch. 10 - Prob. 28SPCh. 10 - (Size-disparity problem) The D. Dorner Farms...Ch. 10 - (Replacement chains) Destination Hotels currently...Ch. 10 - Prob. 33SPCh. 10 - Prob. 34SPCh. 10 - Why is the capital-budgeting process so important?Ch. 10 - Prob. 2MCCh. 10 - What is the payback period on each project? If...Ch. 10 - What are the criticisms of the payback period?Ch. 10 - Prob. 5MCCh. 10 - Prob. 6MCCh. 10 - Prob. 7MCCh. 10 - Prob. 8MCCh. 10 - Prob. 9MCCh. 10 - Determine the IRR for each project. Should either...Ch. 10 - How does a change in the required rate of return...Ch. 10 - Caledonia is considering two investments with...
Knowledge Booster
Learn more about
Need a deep-dive on the concept behind this application? Look no further. Learn more about this topic, finance and related others by exploring similar questions and additional content below.Similar questions
- Hardchoice Corp. is a firm considering prospective capital budgeting projects. Selected data on the projects follow: Image attached 1b) Ignoring the information in question (1a), assume instead that projects A and C are independent, Hardchoice is subject to capital rationing (i.e., it may not be able to afford both projects), and the relevant discount rate is 10%. a) What is the IRR of Project A? Project C? b) How would you rank Project A compared to Project C? Pls show formula used. Final dollar answers should be rounded to two decimal places. Interest rate answers should be rounded to 6 decimal places if expressed as a decimal or 4 decimal places if expressed as a percent. Use timeline if necessary. No excel .Thanks!arrow_forwardNile Inc. wants to choose the bettter of two mutually exclusive projects that expand warehouse capacity. The projects cash flows are shown in the following table attached. The cost of capital is 14% a. Calculate the IRR for each of the projects . Assess the acceptabiity of each project on the basis of the IRRs. b. Which project is preferred?arrow_forwardEvaluate the projects using each of the following criteria, stating which project(s) Carrium Insights Inc. should choose under each criteria and why: i.Discounted Payback ii.Net Present Valuearrow_forward
- Ruba Nasser SAOG is planning to invest in project as part of the organization's growth strategy to enhance the financial sustainability of the organization. The organization has two options available. Option 1– Project A – Increase the capacity in Division A Option 2 – Project B – Increase the capacity in Division B. Both projects are mutually exclusive. The available capital investment for the Project is RO 250,000. Due to the limited funds the organization needs to decide on a suitable investment project which will be part of the sustainable growth strategy. Below are the details for both Projects Project A - Increase in machine capacity in Division A Cost of Investment – RO 250,000 Useful Life – 4 Years Year Operating Profit Before Depreciation (RO) 55,000 65,000 80,000 80,000 1 2 3 4 The project has a scrap value of OMR 75,000. Project B – Increase in Machine Capacity in Division B Cost of Investment – RO 250,000 Operating Profit Before Depreciation (RO) 75,000 75,000 78,000 82.000…arrow_forwardWalsh Company is considering three independent projects, each of which requires a $5 million investment. The estimated internal rate of return (IRR) and cost of capital for these projects are presented here: Project H (high risk): Project M (medium risk): Cost of capital = 15% Cost of capital = 13% Project L (low risk): Cost of capital = 7% IRR = 8% Note that the projects' costs of capital vary because the projects have different levels of risk. The company's optimal capital structure calls for 35% debt and 65% common equity, and it expects to have net income of $11,329,500. If Walsh establishes its dividends from the residual dividend model, what will be its payout ratio? Round your answer to two decimal places. % IRR = 22% IRR = 12%arrow_forwardThe following table contains information about four projects in which Reynolds Corporation has the opportunity to invest. This information is based on estimates that different managers have prepared about their potential project. (Click the icon to view the projects information.) Requirements 1. Rank the four projects in order of preference by using the a. net present value. d. payback period. b. project profitability index. e. accounting rate of return. c. internal rate of return. 2. Which method(s) do you think is best for evaluating capital investment projects in general? Why? Data table Requirement 1. Rank the projects in order of preference. (a) (b) Net Present Profitability Value Index (c) Internal Rate of Return (d) Payback Period (e) Net Internal Payback Accounting Accounting of Retur 5 Investment Present Life of Rate of Profitability Period in Project Required Value Project Return Project A $205,000 $ 61,770 Rate of Index Years Return 24% 1.30 2.77 19% 1st preferred Project B…arrow_forward
- Mustafa Inc. has three potential investment projects but can choose only one to invest in. Below is financial information on these projects: Project Investment Net Present Value 1 $300,000 $61,500 2 $325,000 $77,000 3 $215,000 $62,000 Use the profitability index, which project should the company choose?arrow_forwardExplain...arrow_forwardThe management of Winstead Corporation is considering the following three investment projects (Ignore income taxes.): Project Q Project R Project S Investment required $ 57,200 $ 97,200 $ 176,000 Present value of cash inflows $ 62,092 $ 111,792 $ 193,320 The only cash outflows are the initial investments in the projects. Required: Rank the investment projects using the project profitability index.arrow_forward
- 1. Calvulate the internal rate of return(IRR) of each project and based on this criterion. Indicate which project you would recommend or acceptance.arrow_forwardYokam Company is considering two alternative projects. Project 1 requires an initial investment of $400,000 and has a present value of cash flows of $1,100,000. Project 2 requires an initial investment of $4,000,000 and has a present value of cash flows of $6,000,000. 1. Compute the profitability index for each project. 2. Based on the profitability index, which project should the company prefer? Complete this question by entering your answers in the tabs below. Required 1 Required 2 Compute the profitability index for each project. Project 1 Project 2 Choose Numerator: Profitability Index T 7 Choose Denominator: 4 of 5 180 # Next > G Oarrow_forwardWalsh Company is considering three independent projects, each of which requires a $3 million investment. The estimated internal rate of return (IRR) and cost of capital for these projects are presented here: Project H (high risk): Cost of capital = 17% Project M (medium risk): Cost of capital = 15% Project L (low risk): Cost of capital = 7% Note that the projects' costs of capital vary because the projects have different levels of risk. The company's optimal capital structure calls for 45% debt and 55% common equity, and it expects to have net income of $14,800,500. If Walsh establishes its dividends from the residual dividend model, what will be its payout ratio? Round your answer to two decimal places. IRR = 21% IRR = 12% IRR = 8% LO (Ctrl) -arrow_forward
arrow_back_ios
SEE MORE QUESTIONS
arrow_forward_ios
Recommended textbooks for you
Managerial Accounting: The Cornerstone of Busines...AccountingISBN:9781337115773Author:Maryanne M. Mowen, Don R. Hansen, Dan L. HeitgerPublisher:Cengage Learning
Managerial AccountingAccountingISBN:9781337912020Author:Carl Warren, Ph.d. Cma William B. TaylerPublisher:South-Western College Pub
Financial And Managerial AccountingAccountingISBN:9781337902663Author:WARREN, Carl S.Publisher:Cengage Learning,
Managerial Accounting: The Cornerstone of Busines...
Accounting
ISBN:9781337115773
Author:Maryanne M. Mowen, Don R. Hansen, Dan L. Heitger
Publisher:Cengage Learning
Managerial Accounting
Accounting
ISBN:9781337912020
Author:Carl Warren, Ph.d. Cma William B. Tayler
Publisher:South-Western College Pub
Financial And Managerial Accounting
Accounting
ISBN:9781337902663
Author:WARREN, Carl S.
Publisher:Cengage Learning,
Capital Budgeting Introduction & Calculations Step-by-Step -PV, FV, NPV, IRR, Payback, Simple R of R; Author: Accounting Step by Step;https://www.youtube.com/watch?v=hyBw-NnAkHY;License: Standard Youtube License