chapter 6 Homework
rejected
If a project's profitability index is less than one, then the project should be ____
zero, one
If the net present value of a project is ___ , then the profitability index will equal ___.
payback method
Many firms today continue to use the ___ ___ but also employ the NPV or IRR methods, especially when large projects are being analyzed.
payback method
One drawback of the __ ___ is that some cash flows may be ignored.
D
Project Alpha has an internal rate of return (IRR) of 15 percent. Project Beta has an IRR of 14 percent. Both projects have a required return of 12 percent. Which of the following statements is MOST correct? A. Project Beta has a higher profitability index than Project Alpha. B. If the required return were less than 12 percent, Project Beta would have a higher IRR than Project Alpha. C. Project Alpha must have a higher NPV than Project Beta. D. Both projects have a positive net present value (NPV).
main disadvantage
The __ __ of the NPV method is the need for detailed, long-term forecasts of free cash flows generated by prospective projects.
discounted payback period
The ___ ___ ___ takes the time value of money into account in that it uses discounted free cash flows rather than actual undiscounted free cash flows in calculating the payback period.
profitability index
The ___ ___ is the ratio of the present value of the future free cash flows to the initial investment.
profitability index
The ___ ___ provides an advantage over the net present value method by reporting the present value of benefits per dollar invested.
internal rate of return
The ____ ____ ___ ___ is the discount rate that equates the present value of the project's future free cash flows with the project's initial outlay.
free cash flows, initial cash outlay
The internal rate of return is the discount rate that equates the present value of the project's __ ___ __ with the project's __ __ __
C
Which of the following statements is MOST correct? A. If Project A has a higher IRR than Project B, then Project A must also have a higher NPV. B. A project with a NPV = 0 is not acceptable. C. The IRR calculation implicitly assumes that all cash flows are reinvested at a rate of return equal to the IRR. D. If a project's internal rate of return (IRR) exceeds the required return, then the project's net present value (NPV) must be negative.
NPV, IRR
___ assumes reinvestment of intermediate free cash flows at the cost of capital, while ___ assumes reinvestment of intermediate free cash flows at the IRR.
NPV
___ is the most theoretically correct capital budgeting decision tool examined in the text.
true
true or false? "Capital rationing may force the firm to reject projects with positive net present values, which is contrary to the firm's goal of maximization of shareholder's wealth, and it is thus not an optimal strategy."
false
true or false? A project that is very sensitive to the selection of a discount rate will have a steep net present value profile.
false
true or false? Because the NPV and PI methods both yield the same accept/reject decision, a company attempting to rank capital budgeting projects for funding consideration can use either method and get the same results.
true
true or false? If a project's internal rate of return is greater than the project's required return, then the project's profitability index will be greater than one.
false
true or false? If project A generates $10 million of free cash flow over its five year useful life and project B generates $8 million of free cash flow over its five year useful life, then Project A will have a shorter payback period than Project B, assuming both projects require the same initial investment.
true
true or false? The capital budgeting decision-making process involves measuring the incremental cash flows of an investment proposal and evaluating the attractiveness of these cash flows relative to the project's cost.
false
true or false? The net present value profile clearly demonstrates that the NPV of a project increases as the discount rate increases.
false
true or false? Two projects that have the same cost and the same expected cash flows will have the same net present value.
maximum desired payback period
A major disadvantage of the discounted payback period is the arbitrariness of the process used to select the ___ ___ ___ ___
target payback period
A project with a payback period of four years is acceptable as long as the company's __ __ ___ is greater than or equal to four years.
payback period
Advantages of the ___ ___ include that it is easy to calculate, easy to understand, and that it is based on cash flows rather than on accounting profits.
traditional payback period
Any project deemed acceptable using the discounted payback period will also be acceptable if using the ___ ___ ___
discount rate
A project's net present value profile shows how sensitive the project is to the choice of a ___ ___
benefits generated
Free cash flows represent the ___ ___ from accepting a capital-budgeting proposal.
highest possible NPV
If a firm imposes a capital constraint on investment projects, the appropriate decision criterion is to select the set of projects that has the ___ ____ ____ subject to the capital constraint.
acceptable
If a project is ____ using the NPV criteria, it will also be ___ when using the profitability index and IRR criteria.
