FINAN 450: chapter 8 & 9

Which of the following are considered relevant cash flows?

-Cash flows from erosion effects -Cash flows from beneficial spillover effects -Cash flows from external costs

Which of the following are reasons why NPV is considered a superior capital budgeting technique?

-It properly chooses among mutually exclusive projects -It considers all the cash flows. -It considers the riskiness of the project. -It considers time value of money.

Investment in net working capital arises when ___.

-credit sales are made -cash is kept for unexpected expenditures -inventory is purchased

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.

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

Net Present Value

Which of the following is an example of a sunk cost?

Project consultation fee

Which of the following is an example of an opportunity cost?

Rental income likely to be lost by using a vacant building for an upcoming project

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

Requires an arbitrary cutoff point

The Average Accounting Return is defined as:

average net Income/average book value

Opportunity costs are ____.

benefits lost due to taking on a particular project

Incremental cash flows come about as a(n) ________ consequence of taking a project under consideration

direct

Interest expenses incurred on debt financing are ______ when computing cash flows from a project.

ignored

Opportunity costs are classified as ____ costs in project analysis.

relevant

True or false: Some projects, such as mines, have cash outflows followed by cash inflows and cash outflows again, giving the project multiple internal rates of return.

true

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 or 0

Which of the following are components of project cash flow?

-Operating cash flow -Change in net working capital -Capital spending

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

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

Which of the following are weaknesses of the payback method?

-The cutoff date is arbitrary. -Time value of money principles are ignored.

What are the advantages of the payback period method for management?

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

Side effects from investing in a project refer to cash flows from:

-beneficial spillover effects -erosion effects

Cash flows used in project estimation should always reflect:

-cash flows when they occur -after-tax cash flows

In general, NPV is ___.

-positive for discount rates below the IRR -equal to zero when the discount rate equals the IRR -negative for discount rates above the IRR

Estimates of which of the following are needed to prepare pro forma income statements?

-variable costs -unit sales -selling price per unit

The spreadsheet function for calculating net present value is ______.

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

What is the primary concern of the payback period rule?

How long it takes to recover the initial investment

True or false: A project with non-conventional cash flows will produce two or more IRRs.

True

True or false: An advantage of the AAR is that it is based on book values, not market values.

false

True or false: The discounted cash flow (DCF) valuation estimates future value as the difference between the market price and the cost of the investment.

false

True or false: The payback period takes into consideration the time value of money.

false

Sunk costs are costs that ____.

have already occurred and are not affected by accepting or rejecting a project

Synergy will _____ the sales of existing products.

increase

The stand-alone principle assumes that evaluation of a project may be based on the project's ________________ cash flows.

incremental

The difference between a firm's cash flows with a project versus without the project is called ________________.

incremental cash flows

A(n) ______ project does not rely on the acceptance or rejection of another project

independent

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

it ignores cash flows after the cutoff date

The discounted cash flow valuation shows that higher cash flows earlier in a project's life are ______ valuable than higher cash flows later on.

more

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

In capital budgeting, ______ determines the dollar value of a project to the company.

net present value

One of the flaws of the payback period method is that cash flows after the cutoff date are ___.

not considered in the analysis

The most valuable alternative that is given up if an investment is undertaken is called what?

opportunity cost

The ______ method evaluates a project by determining the time needed to recoup the initial investment.

payback

The __________ is best suited for decisions on relatively small, minor projects while ______ is more appropriate for large complex projects.

payback period; NPV

The NPV is ______ if the required return is less than the IRR, and it is ______ if the required return is greater than the IRR.

positive, negative

According to the basic IRR rule, we should:

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

The payback period rule ______ a project if it has a payback period that is less than or equal to a particular cutoff date.

rejects

One of the most important steps in estimating cash flow is to determine the _________ cash flows.

relevant

If the IRR is greater than the _______ ________, we should accept the project.

required return

Internal rate of return (IRR) must be compared to the ________ in order to determine the acceptability of a project.

required return

According to the _________ principle, once the incremental cash flows from a project have been identified, the project can be viewed as a "minifirm."

stand-alone

When calculating NPV, the present value of the nth cash flow is found by dividing the nth cash flow by 1 plus ______ rate raised to the nth power.

the discount

True or false: When calculating NPV, the present value of the nth cash flow is found by dividing the nth cash flow by 1 plus the discount rate raised to the nth power.

true

The basic NPV investment rule is:

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

Investment in net working capital arises when ___.

-inventory is purchased -credit sales are made -cash is kept for unexpected expenditures

Which of the following present problems when using the IRR method?

-mutually exclusive projects -non-conventional cash flows

Once cash flows have been estimated, which of the following investment criteria can be applied to them?

-payback period -IRR -NPV

True or false: The measure of average accounting profit is in the numerator of the average accounting return (AAR) formula.

True

The internal rate of return is a function of ____.

a project's cash flows

According to the average accounting return rule, a project is acceptable if its average accounting return exceeds:

a target average accounting return

Based on the average accounting return rule, a project is _____ if its average accounting return exceeds a target average accounting return.

acceptable

A project should be __________ if its NPV is greater than zero

accepted

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

-The range of cash flows specified in Excel begins with Cashflow 1, not Cashflow 0. -The discount rate in Excel is entered as a decimal, or as a percentage with a percent sign. -With the Excel NPV function, Cashflow 0 must be handled outside the NPV function. -The Excel NPV function is actually a PV function.