1449 others answered this question

MC Question 28

The following information relates to an investment project which is being evaluated by the directors of Fence Co, a listed company. The initial investment, payable at the start of the first year of operation, is $3·9 million.

Year 1 2 3 4
Net operating cash flow ($000) 1,200 1,500 1,600 1,580
Scrap value ($000) 100

The directors believe that this investment project will increase shareholder wealth if it achieves a return on capital employed greater than 15%. As a matter of policy, the directors require all investment projects to be evaluated using both the payback and return on capital employed methods. Shareholders have recently criticised the directors for using these investment appraisal methods, claiming that Fence Co ought to be using the academically-preferred net present value method.

The directors have a remuneration package which includes a financial reward for achieving an annual return on capital employed greater than 15%. The remuneration package does not include a share option scheme.

Which of the following statements about investment appraisal methods is correct?

A. The return on capital employed method considers the time value of money
B. Return on capital employed must be greater than the cost of equity if a project is to be accepted
C. Riskier projects should be evaluated with longer payback periods
D. Payback period ignores the timing of cash flows within the payback period