Smartbook 7

True or false: To verify the internal rate of return (IRR) compute the project's net present value using the IRR as the discount rate to determine if it is zero.

True

Which of the following statements are true?

When the net present value method is used, the discount rate equals the hurdle rate. When using the internal rate of return method, the cost of capital is used as the hurdle rate. The cost of capital may be used to screen out undesirable projects.

Capital budgeting decisions include:

acquiring a new facility to increase capacity determining which equipment to purchase among available alternatives choosing to lease or buy new equipment purchasing new equipment to reduce cost deciding to replace old equipment

The simple rate of return equals the:

annual incremental net operating income/initial investment.

The basic premise of the payback method is the ________, the more desirable the investment.

faster the cost of the investment is recovered

Investment required/Annual net cash inflow is the formula to find the factor that enables calculation of the:

internal rate of return

When the annual net cash inflow is the same each year, the payback period equals the ___ required divided by the annual net cash ___. (Enter only one word per blank.)

investment inflow

The required rate of return is the ______ rate of return a project must yield to be acceptable.

minimum

One dollar earned today is worth:

more than one dollar earned at a future point in time

View Perfect is considering an investment in a new line of windows. The project is expected to last 10 years. If the factor of the internal rate of return is 5.889, the internal rate of return is:

11% Present Value of an Annuity of $1 in Arrears - the 10 period 5.889 factor is 11%

The factor of the internal rate of return is 5.033 for a project lasting 7 years. The internal rate of return is ___%.

9

What assumption underlies net present value analysis?

All cash flows generated by an investment project are immediately reinvested at a rate of return equal to the discount rate.

True or false: When a capital investment decision is being made between two or more alternatives, the project with the shortest payback period is always the most desirable investment.

False

Which of the following are true regarding the time value of money?

Projects that provide earlier returns are preferable to those that promise later returns. By collecting a project's return quickly, the investor has the opportunity to re-invest that money to earn even more.

Which of the following capital budgeting decision tools focuses on net operating income rather than cash flows?

Simple rate of return

The cost of capital is the:

average rate of return a company must pay its long-term creditors and shareholders for the use of their funds

When computing the simple rate of return, the annual incremental net operating income in the numerator should ______ the investment's depreciation charges.

be reduced by

To screen out undesirable investments, ________ use(s) the cost of capital.

both the net present value and internal rate of return methods

How managers plan significant investments in projects that have long term implications such as purchasing new equipment or introducing new products is called ___ ___.

capital budgeting

Net present value is the:

difference between the present value of a project's cash inflows and the present value of the project's cash outflows

Calculating the present value of money is referred to as ___ cash flows.

discounting

The payback method:

does not consider the time value of money ignores all cash flows that occur after the payback period. is not a true measure of investment profitability

Because of the time value of money, projects that promise ______ returns are preferable to those that promise the opposite.

earlier

Typical capital budgeting decisions include:

equipment selection decisions cost reduction decisions lease or buy decisions

The internal rate of return is compared against the minimum ___ rate of return when analyzing the acceptability of an investment project.

hurdle

To determine if a project is acceptable compare the internal rate of return to the company's:

hurdle rate

The simple rate of return:

ignores the time value of money fluctuates from year to year along with fluctuations in revenue and expense

Typical capital budgeting cash outflows include:

initial equipment investments installation costs working capital invested

In an equipment capital budgeting decision, recovering the original investment means that the:

investment has generated enough cash inflows to completely cover the cost of the equipment

When net cash inflow is the same every year, the equation used to calculate the factor of the internal rate of return is:

investment required/annual net cash inflow

Capital budgeting decisions include:

lease or buy decisions equipment selection decisions cost reduction decisions

If the internal rate of return is:

less than the hurdle rate the project should be rejected greater than the hurdle rate the project is acceptable

The term capital budgeting is used to describe how managers plan significant investments in projects that have ______ implications.

long-term

Capital budgeting methods that focus on cash flows rather than incremental operating income are:

net present value internal rate of return payback

Working capital:

often increases when a company takes on a new project

Instead of focusing on a project's profitability, the ___ period focuses on the time it takes for an investment to pay for itself.

payback

The basic premise of the ___ method is that the more quickly the cost of an investment can be recovered, the more desirable the investment is.

payback

Investment required/Annual net cash inflow is the formula for the:

payback period

The length of time that it takes for a project to recover its initial cost from the net cash inflows that it generates is the ___ ___.

payback period

If the original investment in a capital project has been recovered, the net present value will be:

positive or zero

The term discounting cash flows refers to the process of calculating the ______ value of those cash flows.

present

A screening decision:

relates to whether a proposed project is acceptable

Capital budgeting decisions:

require a great deal of analysis prior to acceptance. involve an immediate cash outlay in order to obtain a future return.

When using the simple rate of return, the initial investment should be reduced by the ___ value of old equipment.

salvage

One of the two broad categories of capital budgeting decisions, a ___ decision, relates to whether a proposed project is acceptable based on a preset criterion.

screening

The cost of capital serves as a ______ tool.

screening

The two broad categories into which capital budgeting decisions fall are ___ decisions and ___ decisions.

screening preference

The two broad categories into which capital budgeting decisions fall are ______ and ______ decisions.

screening prefernce

Little Tots Gym has a required rate of return of 13%. The gym is considering the purchase of $12,500 of new equipment. The internal rate of return on the project has been calculated to be 11%. This project:

should be rejected

The required rate of return is:

the minimum rate of return a project must yield to be acceptable

The internal rate of return is:

the rate of return of an investment project over its useful life

True or false: The net present value can be used to determine whether a project should be accepted.

ture

The net present value of a project is:

used in determining whether or not a project is an acceptable capital investment. the difference between the present value of cash inflows and present value of cash outflows for a project.

The internal rate of return is the discount rate that results in a net present value of ___ for the investment.

zero