FIN 300 Ch. 9

You are considering a project with an initial cost of $8,600. What is the payback period for this project if the cash inflows are $2,100, $3,140, $3,800, and $4,500 a year over the next four years, respectively? -2.29 years -3.36 years -3.28 years -4.21 years -2.88 years

2.88 years Payback = 2 + ($8,600 - 2,100 - 3,140) / $3,800 = 2.88 years

The internal rate of return: -Is best used when comparing mutually exclusive projects. -Is easy to understand. -Is principally used to evaluate small dollar projects. -May produce multiple rates of return when cash flows are conventional. -Is rarely used in the business world today.

is easy to understand.

Graphing the crossover point helps explain: -How the net present value and the initial cash outflow of a project are related. -How the duration of a project affects the decision as to which project to accept. -Why one project is always superior to another project. -How decisions concerning mutually exclusive projects are derived. -How the profitability index and the net present value are related.

How decisions concerning mutually exclusive projects are derived.

An investment project provides cash flows of $1,190 per year for 10 years. If the initial cost is $8,000, what is the payback period? -8.13 years -3.36 years -Never -6.72 years -5.28 years

6.72 years Payback = $8,000 / $1,190 = 6.72 years

Mutually exclusive projects are best defined as competing projects that: -Have the same life span. -Both have negative cash outflows at time zero. -Would need to commence on the same day. -Both require the total use of the same limited resource. -Have the same initial start-up costs.

Both require the total use of the same limited resource.

You are considering an investment that costs $152,000 and has projected cash flows of $71,800, $86,900, and -$11,200 for years 1 to 3, respectively. If the required rate of return is 15.5 percent, should you accept the investment based solely on the internal rate of return rule? Why or why not? -You cannot apply the IRR rule in this case. -Yes; The IRR is less than the required return. -No; The IRR is less than the required return. -No; The IRR exceeds the required return. -Yes; The IRR exceeds the required return.

You cannot apply the IRR rule in this case. Since the cash flow direction changes twice, there are two IRRs. Thus, the IRR rule cannot be used to determine acceptance or rejection.

You are considering two mutually exclusive projects. Project A has cash flows of -$72,000, $21,400, $22,900, and $56,300 for years 0 to 3, respectively. Project B has cash flows of -$81,000, $20,100, $22,200, and $74,800 for years 0 to 3, respectively. Both projects have a required 2.5-year payback period. Should you accept or reject these projects based on payback analysis? -Reject Project A and accept Project B. -Accept Project A and reject Project B. -Accept both Projects A and B. -You should not use payback; use another method of analysis. -Reject both Projects A and B.

Accept Project A and reject Project B. Payback A = 2 + ($72,000 - 21,400 - 22,900) / $56,300 = 2.49 years Payback B = 2 + ($81,000 - 20,100 - 22,200) / $74,800 = 2.52 years To be accepted the project must pay back in 2.5 years or less. Accept A and reject B.

In actual practice, managers most frequently use which two types of investment criteria? -IRR and payback. -IRR and NPV. -AAR and IRR. -NPV and PI. -NPV and payback.

IRR and NPV.

You are considering two mutually exclusive projects. Project A has cash flows of -$87,000, $32,600, $35,900, and $43,400 for years 0 to 3, respectively. Project B has cash flows of -$85,000, $14,700, $21,200, and $89,800 for years 0 to 3, respectively. Project A has a required return of 9 percent while Project B's required return is 11 percent. Which project(s), if either, should you accept based on net present value? -Accept both projects -Reject Project A and accept Project B -Reject both projects -Accept Project A and reject Project B -Accept Either one, but not both

Reject Project A and accept Project B NPVA = -$87,000 + $32,600 / 1.09 + $35,900 / 1.09^2 + $43,400 / 1.09^3 NPVA = $6,637.33 NPVB = -$85,000 + $14,700 / 1.11 + $21,200 / 1.11^2 + $89,800 / 1.11^3 NPVB = $11,110.62 Since the projects are mutually exclusive, accept the project with the larger, positive NPV.

Swenson's is considering two mutually exclusive projects, Projects A and B, and has determined that the crossover rate for these projects is 11.7 percent. Given this you know that: -Neither project will be accepted if the discount rate is less than 11.7 percent. -Both projects have a negative NPV at discounts rates greater than 11.7 percent. -Both projects provide an internal rate of return of 11.7 percent. -The project that is preferred at a discount rate of 11 percent will be the opposite project of that preferred at a discount rate of 12 percent. -Both projects have a zero NPV at a discount rate of 11.7 percent.

The project that is preferred at a discount rate of 11 percent will be the opposite project of that preferred at a discount rate of 12 percent.

Which one of the following is the best example of two mutually exclusive projects? -Using an empty warehouse to store both raw materials and finished goods. -Building a furniture store beside a clothing outlet in the same shopping mall. -Producing both plastic forks and spoons on the same assembly line. -Promoting two products during the same television commercial. -Waiting until a machine finishes molding Product A before being able to mold Product B.

Waiting until a machine finishes molding Product A before being able to mold Product B.

Alicia is considering adding toys to her gift shop. She estimates the cost of new inventory will be $9,500 and remodeling expenses will be $1,300. Toy sales are expected to produce net cash inflows of $3,300, $4,900, $4,400, and $4,100 over the next four years, respectively. Should Alicia add toys to her store if she assigns a three-year payback period to this project? Why or why not? -Yes; The payback period is 3.01 years. -No; The payback period is 2.93 years. -Yes; The payback period is 2.93 years. -No; The payback period is 3.59 years. -Yes; The payback period is 2.59 years.

Yes; The payback period is 2.59 years. Payback = 2 + ($9,500 + 1,300 - 3,300 - 4,900) / $4,400 = 2.59 years Since the payback period is less than the requirement, the project should be accepted.

Assume an investment has cash flows of -$30,000, $21,750, $18,500, and $12,500 for years 0 to 3, respectively. What is the NPV if the required return is 13 percent? Should the project be accepted or rejected? -$9,616.93; accept -$15,684.22; reject -$12,399.13; accept -$7,264.95; reject -$10,011.18; reject

$12,399.13; accept NPV = -$30,000 + $21,750 / 1.13 + $18,500 / 1.13^2 + $12,500 / 1.13^3 NPV = $12,399.13 Because the NPV is positive, the project should be accepted.

A project has an initial cash outflow of $39,800 and produces cash inflows of $18,304, $19,516, and $14,280 for years 1 through 3, respectively. What is the NPV at a discount rate of 11 percent? -$2,971.13 -$1,311.16 -(-$1,208.19) -$7,675.95 -$2,029.09

$2,971.13 NPV = -$39,800 + $18,304 / 1.11 + $19,516 / 1.11^2 + $14,280 / 1.11^3 NPV = $2,971.13

A project will produce cash inflows of $3,100 a year for 3 years with a final cash inflow of $4,400 in Year 4. The project's initial cost is $10,400. What is the net present value if the required rate of return is 16 percent? -(-$311.02) -(-$1,007.66) -$1,168.02 -$2,188.98 -$1,650.11

-$1,007.66 NPV = -$10,400 + $3,100([1 - (1 / 1.16^3)] / .16) + $4,400 / (1 + .16)^4 NPV = -$1,007.66

A project has cash flows of -$119,000, $52,800, $60,200, and $33,100 for years 0 to 3, respectively. The required rate of return is 12 percent. Based on the net present value of _____, you should _____ the project. -(-$306.15; reject) -$283.60; accept -$230.75; accept -(-$1,995.84; reject) -(-$147.60; accept)

-$306.15; reject NPV = -$119,000 + $52,800 / 1.12 + $60,200 / 1.12^2 + $33,100 / 1.12^3 NPV = -$306.15 Because the NPV is negative, the project should be rejected.

A firm evaluates all of its projects by applying the IRR rule. The current proposed project has cash flows of -$27,048, $16,850, $15,700, and $4,300 for years 0 to 3, respectively. The required return is 19 percent. What is the project IRR? Should the project be accepted or rejected? -16.05 percent; accept -21.08 percent; reject -18.30 percent; accept -21.08 percent; accept -16.05 percent; reject

21.08 percent; accept NPV= 0 = -$27,048 + $16,850 / (1 + IRR) + $15,700 / (1 + IRR)^2 + $4,300 / (1 + IRR)^3 IRR = 21.08 percent This is an investment project so the project should be accepted because the IRR exceeds the required return.

The Dry Dock is considering a project with an initial cost of $118,400. The project's cash inflows for years 1 through 3 are $37,200, $54,600, and $46,900, respectively. What is the IRR of this project? -8.42 percent -7.48 percent -8.04 percent -8.22 percent -8.56 percent

8.04 percent NPV = 0 = -$118,400 + $37,200 / (1 + IRR) + $54,600 / (1 + IRR)^2 + $46,900 / (1 + IRR)^3 IRR = 8.04 percent

You are considering two independent projects. Project A has an initial cost of $125,000 and cash inflows of $46,000, $79,000, and $51,000 for years 1 to 3, respectively. Project B costs $135,000 with expected cash inflows for years 1 to 3 of $50,000, $30,000, and $100,000, respectively. The required return for both projects is 16 percent. Based on IRR, you should: -Accept both projects. -Accept Project B and reject Project A. -Accept either one of the projects, but not both -Accept Project A and reject Project B. -Reject both projects.

Accept Project A and reject Project B. NPVA = 0 = -$125,000 + $46,000 / (1 + IRR) + $79,000 / (1 + IRR)^2 + $51,000 / (1 + IRR)^3 IRRA = 18.86 percent NPVB = 0 = -$135,000 + $50,000 / (1 + IRR) + $30,000 / (1 + IRR)^2 + $100,000 / (1 + IRR)^3 IRRA = 13.78 percent

You are comparing two mutually exclusive projects. The crossover point is 12.3 percent. You have determined that you should accept project A if the required return is 13.1 percent. This implies you should: -Always accept Project A. -Accept Project B if the required return is less than 13.1 percent. -Be indifferent to the projects at any discount rate above 13.1 percent. -Accept Project B only when the required return is equal to the crossover rate. -Always accept Project A if the required return exceeds the crossover rate.

Always accept Project A if the required return exceeds the crossover rate.

The internal rate of return is defined as the: -Discount rate that causes the profitability index for a project to equal zero. -Rate of return a project will generate if the project in financed solely with internal funds. -Discount rate which causes the net present value of a project to equal zero. -Maximum rate of return a firm expects to earn on a project. -Discount rate that equates the net cash inflows of a project to zero.

Discount rate which causes the net present value of a project to equal zero.

The IRR that causes the net present value of the differences between two project's cash flows to equal zero is called the: -Break-even rate. -Required return. -Crossover rate. -Zero-sum rate. -Present value rate.

Crossover rate.

Which one of the following will decrease the net present value of a project? -Increasing the value of each of the project's discounted cash inflows. -Decreasing the required discount rate. -Increasing the project's initial cost at time zero. -Increasing the amount of the final cash inflow. -Moving each of the cash inflows forward to a sooner time period.

Increasing the project's initial cost at time zero.

Net present value: -Is the best method of analyzing mutually exclusive projects. -Cannot be applied when comparing mutually exclusive projects. -Is very similar in its methodology to the average accounting return. -Is less useful than the internal rate of return when comparing different sized projects. -Is the easiest method of evaluation for nonfinancial managers to use.

Is the best method of analyzing mutually exclusive projects.

Which of the following are advantages of the payback method of project analysis? -Liquidity bias, ease of use. -Ease of use, arbitrary cutoff point. -Liquidity bias, arbitrary cutoff point. -Considers time value of money, liquidity bias. -Ignores time value of money, ease of use.

Liquidity bias, ease of use.

If a firm accepts Project A it will not be feasible to also accept Project B because both projects would require the simultaneous and exclusive use of the same piece of machinery. These projects are considered to be: -Economically scaled. -Independent. -Operationally distinct. -Interdependent. -Mutually exclusive.

Mutually exclusive.

Which one of the following methods determines the amount of the change a proposed project will have on the value of a firm? -Discounted payback. -Internal rate of return. -Payback. -Net present value. -Profitability index.

Net present value

Southern Chicken is considering two projects. Project A consists of creating an outdoor eating area on the unused portion of the restaurant's property. Project B would use that outdoor space for creating a drive-thru service window. When trying to decide which project to accept, the firm should rely most heavily on which one of the following analytical methods? -Profitability index. -Payback. -Internal rate of return. -Net present value. -Accounting rate of return.

Net present value.

Samuelson Electronics has a required payback period of three years for all of its projects. Currently, the firm is analyzing two independent projects. Project A has an expected payback period of 2.8 years and a net present value of $6,800. Project B has an expected payback period of 3.1 years with a net present value of $28,400. Which projects should be accepted based on the payback decision rule? -Project B only. -Project A only. -Either, but not both projects. -Both A and B. -Neither A nor B.

Project A only.

A project has a required payback period of three years. Which one of the following statements is correct concerning the payback analysis of this project? -The cash flow in year three is ignored. -The project is acceptable whenever the payback period exceeds three years. -The cash flows in each of the three years must exceed one-third of the project's initial cost if the project is to be accepted. -The project's cash flow in year three is discounted by a factor of (1 + R)3. -The cash flow in year two is valued just as highly as the cash flow in year one.

The cash flow in year two is valued just as highly as the cash flow in year one.

If a project has a net present value equal to zero, then: -A decrease in the project's initial cost will cause the project to have a negative NPV. -The total of the cash inflows must equal the initial cost of the project. -The project earns a return exactly equal to the discount rate. -The project's PI must also be equal to zero. -Any delay in receiving the projected cash inflows will cause the project to have a positive NPV.

The project earns a return exactly equal to the discount rate.

A project has a net present value of zero. Which one of the following best describes this project? -The project's cash inflows equal its cash outflows in current dollar terms. -The project has no cash flows. -The project has a zero percent rate of return. -The summation of all of the project's cash flows is zero. -The project requires no initial cash investment.

The project's cash inflows equal its cash outflows in current dollar terms.