Fin 101. Chapter 8Net present value and other investment criteria

The Combination MIRR method is used by the Excel MIRR function and uses which of the following?

* compounding cash inflows to the end of the project * a reinvestment rate for compounding * discounting all negative cash flows OUTFLOWS to time 0 * a financing rate for discounting

Which of the following are methods of calculating the MIRR of a project

- The Reinvestment Approach - The Discounting Approach - The Combination Approach

Which of the following are weaknesses of the payback method

- the cutoff date is arbitrary - time value of money principles are ignored - cash flows received after the payback period are ignored

The basic NPV investment rule is:

-If the NPV is equal to zero, acceptance or rejection of the project is a matter of indifference. -Accept a project if the NPV is greater than zero -Reject a project if its NPV is less than zero

Which of the following present problems when using the IRR method

-mutually exclusive projects -non-conventional cash flows

The spreadsheet function for calculating net present value is ______.

=NPV(rate,CF1, ..., CFn) + CF0

The profitability index rULE for an independent project is to

Accept a project in the profitability index is greater than one

The payback period rule -

Accepts a project if it has a pay back period that is less than or equal to a particular cut off date

How does the timing and the size of cash flows affect the payback method? Assume the project does pay back within the project's lifetime.

An increase in the size of the first cash inflow will decrease the payback period, all else held constant.

The profitability index is also called

Benefit Cost Ratio

Which of the following are reasons why IRR Continues to be used in practice

Businesspeople prefer to talk about rates of return. The IRR of a proposal can be calculated without knowing the appropriate discount rate. It is easier to communicate information about a proposal with an IRR.

The PI always result in correct decisions in comparisons of mutually exclusive investments

Falls

The payback period takes into consideration the time value of money

Falls

The profitability index rule for an independent project states that if a project has a positive NPV then the present value of the future cash flows must be smaller than the initial investment

Falls

There is only one way to get slayed the modified IRR

Falls, they are various ways to correctly calculate modified IRR

The IRR is easy to use because you only need to know the appropriate discount rate

Falls, you need the discount rate to calculate that in NPV but it is not required for the IRRcalculation

True or false; an advantage of the AAR is there it is based on book values not market values

False

The discounted cash flow valuation estimates future values and the difference between the market price and the cost of the investment

False The discounted valuation estimate the net present value is the difference between the present value of the future cash flows and the cost of the investment

What is the primary concern of the Payback period rule

How long it takes to recover the initial investment

Which of the following is a disadvantage of the profitability index

It cannot rank mutually exclusive projects.

The discounted cash flow valuation shows that higher cash flows earlier in a project life or

More valuable than higher cash flow's later on

If a firm is evaluating two possible projects, both of which require the use of the same production facilities, and taking one project means that we cannot take the other, these projects would be considered _______________.

Mutually Exclusive

If a project has multiple internal rates of return, which of the following methods should be used?

NPV and MIRR

In capital budgeting what determines the dollar value of a project to the Co.

Net present value

What is a measure of how much value is created or added by undertaking an investment

Net present value

The payback period is best suited for decisions on relatively small minor projects while NPV is more appropriate for large complex projects

Payback period and NPV

In general NPV is

Positive for discount rates below the IRR. Negative for Discount rates above the IRR Equal to zero when the discount rate equals the IRR.

Which of the following is a disadvantage of the payback period rule

Requires an arbitrary cutoff point

What are the advantages of the payback period method for management

The payback period method is ideal for minor projects. The payback period method is easy to use. It allows lower level managers to make small decisions effectively.

Specifying variables in the Excel NPV function differs from the manner in which they're entered in a financial calculator in which of the following ways

The range of cash flows specified in excel begins with cash flow one not cash flow zero, discount rate in exhale is entered as a decimal or as a percentage with the percent sign, with that excel NPV function cash flow zero must be handle outside the NPV function, excel NPV function is actually a PV function

A disadvantage of the average accounting return is that it does not take into account the time value of money

True

A project should be excepted if it's NPV is greater than zero

True

An independent project does not rely on the acceptance or rejection of another project

True

Based on the average accounting return rule a project is acceptable if it's average accounting return exceeds a target average accounting return

True

If the irr is greater than the required return we should accept the project

True

Internal rate of return must be compared to the required return in order to determine the acceptability of a project

True

The measure of average accounting profit is in the numerator of the average accounting return formula

True

The present value of the future cash inflows or divided by the initial investment to calculate the profitability index

True

When calculating NPV The present value of the nth cash flow is found by dividing the nth cash flow by 1+ the discount rate raised to the nth power

True

A project with non-conventional cash flow's will produce two or more IRRs

True, and IRR will result for every change in sign in the cash flow stream

The internal rate of return is a function of

a project's cash flows

The average Accounting return is defined as

average net income/average book value

The payback period can lead to foolish decisions if it is used too literally because

it ignores cash flows after the cutoff date

According to the basic IRR rule we should

reject a project if the IRR is less than the required return

The IRR is the discount rate that makes NPV equal to

zero

The multiple rates of return problem is the possibility that more than one discount rate may make the net present value of an investment equal to

zero