FINC exam 2 practice/HW/clicker questions
If a firm's sales estimate used in its base case analysis is 1,000 units per year and they anticipate the upper and lower bounds to be +/- 15%, what is the "best case" for units sold per year? -1000 -1015 -1150 -850
1150
True or False: Net working capital will be recovered at the end of a project
True
True or False: Payback period ignores the time value of money
True
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
What approach does the following formula describe? OCF = (Sales - Costs) x (1-T) + Depreciation x T -The sales and cost approach -The tax shield approach -The depreciation approach -The depreciation shield approach
the Tax Shield approach
All else held constant, the future value of an annuity will increase if you: decrease both the interest rate and the time period. increase the time period. decrease the present value. decrease the payment amount. decrease the interest rate.
increase the time period.
The Shoe Box is considering adding a new line of winter footwear to its product lineup. When analyzing the viability of this addition, the company should include all of the following in its analysis with the exception of: any expected changes in the sales levels of current products caused by adding the new productline. cost of new display counters for the additional winter footwear. increased taxes from winter footwear profits. the research and development costs to produce the current winter footwear samples. the expected revenue from winter footwear sales.
the research and development costs to produce the current winter footwear samples.
Thrill Rides is considering adding a new roller coaster to its amusement park. The addition is expected to increase its overall ticket sales. In particular, the company expects to sell more tickets for its current roller coaster and experience extremely high demand for its new coaster. Sales for its boat ride are expected to decline but food and beverage sales are expected to increase significantly. All of the following are side effects associated with the new roller coaster with the exception of the: increased food sales. additional sales for the existing coaster. increased food costs. reduced sales for the boat ride. ticket sales for the new coaster
ticket sales for the new coaster
If an investment is producing a return that is equal to the required return, the investment's net present value will be: positive. greater than the project's initial investment. zero. equal to the project's net profit. less than, or equal to, zero.
zero
You deposit $1,000 in a bank account today that pays 12% interest compounded monthly. How much will you have after 1 month? $1,000 $1,010 More information is needed
$1010
You deposit $1,000 in a bank account today that pays 12% interest compounded annually. How much will you have after 1 year? $1,120 More information is needed
$1120
You purchase a new piece of equipment for $100,000 to be used in a project that will last 4 years. If it is depreciated on a straight-line basis over 5 years, what is the book value after 4 years? $80,000 $75,000 $25,000 $20,000 $0
$20,000
If you then sell this fixed asset at the end of the project (after 4 years) for $20,000, what is your after-tax salvage value? (Assume a 30% tax rate.) $26,000 $20,000 $14,000 $80,000 $0
$20,000 (no tax impact since book value is what you sell it for - no gain or loss)
If you then sell this fixed asset at the end of the project (after 4 years) for $30,000, what is your after-tax salvage value? (Assume a 30% tax rate.) $39,000 $30,000 $27,000 $21,000 $0
$27,000 Gain of $10,000 so there is a 30% tax on this for $3,000 in taxes The selling price is $30k less $3k in taxes is $27k
The Green Tomato purchased a parcel of land six years ago for $389,900. At that time, the firm invested $128,000 grading the site so that it would be usable. Since the firm wasn't ready to use the site itself at that time, it decided to lease the land for $48,000 a year. The Green Tomato is now considering building a hotel on the site as the rental lease is expiring. The current value of the land is $415,000. The firm has no loans or mortgages secured by the property. What value should be included in the initial cost of the hotel project for the use of this land? $0 $389,900 $415,000 $229,000 $101,900
$415,000
What is the depreciation tax shield if EBIT is $600, depreciation is $1800, and the tax rate is 30%? a. $360 b. $240 c. $540 d. $180
$540
If a firm's variable cost per unit estimate used in its base case analysis is $50 per unit and they anticipate the upper and lower bounds to be +/- 10%, what is the "worst case" for variable cost per unit? a. $50 b. $55 c. $45 d. $40
$55 1.10 x 50 = 55 The worst case for costs is the higher value
Which of the following is an example of an opportunity cost? A. Rental income likely to be lost by using a vacant building for an upcoming project B. Lowering taxes by increasing depreciation expenses C. Money spent on advertising to take advantage of opportunities in the market
A
An interest rate expressed in terms of the interest payment made each period is called a -stated interest rate -quoted interest rate -annual percentage rate -effective annual rate
A & B
If a project has multiple internal rates of return, which of the following methods should be used? -NPV -MIRR -IRR
A & B
When we estimate the best-case, worst-case, and base-case cash flows and calculate the corresponding NPVs, we are engaging in... A. Asking what-if questions B. Rocket science C. Scenario analysis D. Fruitless endeavors
A & C
The goals of risk analysis in capital budgeting include: A. Identifying critical components B. Determining the correct discount rate C. Zeroing in on the correct NPV D. Assessing the degree of financing risk
A & D
What are the 2 main benefits of performing sensitivity analysis? A. It reduces a false sense of security by giving a range of values for NPV instead of a single value B. It is easier to perform than conventional NPV analysis C. It makes it possible to make a correct decision every time D. It identifies the variable that has the most effect on NPV
A & D
Which of the following present problems when using the IRR method? -Non conventional cash flows -A high discount rate -Larger cash flows later in the project -Mutually exclusive projects
A & D
Lake City Plastics currently produces plastic plates and silverware. The company is considering expanding its product offerings to include plastic serving trays. All of the following are relevant costs to this project with the exception of: The cost of additional utilities required to operate the serving tray production operation. Any change in the expected sales of plates and silverware gained from offering trays also. A percentage of the current operating overhead. The additional plastic raw materials that would be required. The cost to acquire the forms needed to mold the trays.
A percentage of the current operating overhead.
The internal rate of return is a function of ___. -A project's cash flows -A project's opportunity costs -The market interest rate -The cost of debt incurred by a project
A project's cash flows
In general, NPV is... -Equal to zero when the discount rate equals the IRR -Positive for discount rates below the IRR -Negative for discount rates above the IRR -Positive for discount rates above the IRR
A, B, & C
Which of the following are considered relevant cash flows? A. Cash flows from beneficial spillover effects B. Cash flows from external costs C. Cash flows from erosion effects D. Cash flows from sunk costs
A, B, & C
Which of the following are methods of calculating the MIRR of a project? -The Discounting Approach -The Combination Approach -The Reinvestment Approach -The Present Value Approach
A, B, & C
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 -The IRR allows the correct ranking of projects
A, B, & C
Investment in net working capital arises when ___. A. Credit sales are made B. Cash is kept for unexpected expenditures C. Equipment is purchased using long term debt D. Inventory is purchased
A, B, & D
Which for the following are components of project cash flow? A. Capital spending B. Operating cash flow C. Change in fixed assets D. Change in net working capital
A, B, & D
Which of the following are reasons why NPV is considered a superior capital budgeting technique? a. It considers time value of money b. It considers all the cash flows c. It properly chooses among mutually exclusive projects d. It properly discounts earnings e. It considers the riskiness of the project
A, B, C, & E
A manager has estimated a positive NPV for a project. What could drive this result? A. The cash flow estimations are inaccurate B. Management rationality C. The project is a good investment D. Overly optimistic management
A, C, & D
Investment in net working capital arises when... A. Cash is kept for unexpected expenditures B. Equipment is purchased using long term debt C. Inventory is purchased D. Credit sales are made
A, C, & D
Once cash flows have been estimated, which of the following investment criteria can be applied to them? A. Payback period B. YTM C. IRR D. NPV E. The constant growth dividend discount model
A, C, & D
Operating cash flow is a function of which of the following? A. EBIT B. Initial investment in equipment C. Salvage value of equipment D. Depreciation E. Taxes
A, D, & E
Tedder mining has analyzed a proposed expansion project and determined that the internal rate of return is lower than the firm desires. Which one of the following changes to the project would be most expected to increase the project's internal rate of return? A. Decreasing the required discount rate B. Increasing the initial investment in fixed assets C. Condensing the firm's cash inflows into fewer years without lowering the total amount of those inflows D. Eliminating the salvage value E. Decreasing the amount of the final cash inflow
A. Decreasing the required discount rate
The PI rule for an independent project is to ___ the project if the PI is greater than 1. -Accept -Reject -Delay
Accept
A project should be ___ if its NPV is greater than zero. -Accepted -Rejected -Delayed
Accepted
Which statement is true? All else equal, an ordinary annuity is more valuable than an annuity due. All else equal, a decrease in the number of payments increases the future value of an annuity due. An annuity with payments at the beginning of each period is called an ordinary annuity. All else equal, an increase in the discount rate decreases the present value and increases the future value of an annuity. All else equal, an increase in the number of annuity payments decreases the present value and increases the future value of an annuity.
All else equal, an increase in the discount rate decreases the present value and increases the future value of an annuity.
Which statement is true? An annuity with payments at the beginning of each period is called an ordinary annuity. All else equal, an ordinary annuity is more valuable than an annuity due. All else equal, a decrease in the number of payments increases the future value of an annuity due. All else equal, an increase in the number of annuity payments decreases the present value and increases the future value of an annuity. All else equal, an increase in the discount rate decreases the present value and increases the future value of an annuity.
All else equal, an increase in the discount rate decreases the present value and increases the future value of an annuity.
Letitia borrowed $6,000 from her bank two years ago. The loan term is four years. Each year, she must repay the bank $1,500 plus the annual interest. Which type of loan does she have? Amortized Blended discount Interest-only Pure discount Complex
Amortized
A 30-year home mortgage is a classic example of: A set of unequal cash flows An ordinary annuity A perpetuity An annuity due A consol
An ordinary annuity
Travis is buying a car and will finance it with a loan that requires monthly payments of $265 for the next four years. His car payments can be described by which one of the following terms? Perpetuity Annuity Consol Lump sum Present value
Annuity
One of the weaknesses of the payback period is that the cutoff date is a ___ standard. -Arbitrary -Perfect -Market -Industry
Arbitrary
Broadband Inc. has estimated preliminary cash flows for a project and found that the NPV for those cash flows is $400,000. The company now plans to perform a scenario analysis on the cash flow and NPV estimates. It will use an NPV of ___ as the base case. A. $360,000 B. $400,000 C. $440,000
B
How does the timing & the size of cash flows affect the payback method? Assume the project does pay back within the project's lifetime. A. The timing but not the size of the cash flows affects the payback period. B. An increase in the size of the first cash inflow will decrease the payback period, all else held constant. C. Receiving cash inflow sooner will increase the payback period, all else held constant D. A delay in receiving the cash inflows will decrease the payback period.
B
You deposit $1,000 in a bank account today that pays 12% interest. How much will you have after 1 year? a. $1,120 b. More information is needed
B
The possibility that errors in projected cash flows will lead to incorrect decisions is known as which of the following: A. Guess and bless B. Forecasting risk C. Estimation risk D. Managerial incompetence
B & C
Which of the following are fixed costs? A. Inventory costs B. Cost of equipment C. Rent on a production facility D. Net working capital
B & C
Which of the following are ways to amortize a loan? A. Pay both interest and principal in one lump sum at maturity B. Pay principal & interest every period in a fixed payment C. Pay the interest each period plus some fixed amount of the principal D. Pay only interest every period and pay the principal off at maturity
B & C
Which of the two capital budgeting methods are widely used by firms in the US & Canada? A. Payback method B. Internal rate of return C. Net present value D. Accounting rate of return E. Profitability index
B & C
What are the 2 main drawbacks of sensitivity analysis? A. It considers the effects of interactions among variables B. It may increase the false sense of security among managers if all pessimistic estimates of NPV are positive C. It is easy to compute D. It does not consider interaction among variables
B & D
Which of the following are weaknesses of the payback method? A. All cash flows are included in the payback period B. Time value of money principles are ignored C. The cutoff date is arbitrary D. Cash flows received after the payback period are ignored
B, C, & D
Which of the following qualify as "managerial options"? -The option to change the cost of capital -The option to wait -The option to expand -The option to abandon
B, C, & D
The basic NPV investment rule includes which of the following: A. Accept a project if the NPV is less than zero B. Accept a project if the NPV is greater than zero C. Accept a project if the discount rate is above zero D. Reject a project if its NPV is less than zero E. If the NPV is equal to zero, acceptance or rejection of the project is a matter of indifference
B, D, & E
Sunk costs are costs that... A. Relate to other projects of the firm B. Will not contribute to profits in the long run even if a project is accepted C. Have already occurred and are not affected by accepting or rejecting a project D. Cannot be measured
C
What is scenario analysis? A. Scenario analysis maps out the various steps involved in the manufacturing process B. Scenario analysis determines the impact on NPV of a change in a single variable C. Scenario analysis determines the impact on NPV of a set of events relating to a specific scenario D. Scenario analysis determines the probability of occurrence of various future events that could affect the project
C
Which of the following statements is correct? a. longer payback period is preferred over a shorter payback period. b. The payback rule states that you should accept a project if the payback period is less than one year. c. The payback period ignores the time value of money. d. The payback rule is biased in favor of long-term projects. e. The payback period considers the timing and amount of all of a project's cash flows.
C
An option on a real asset rather than a financial asset is known as a A. Tangible option B. Forward option C. Real option D. Managerial option
C & D
We underestimate NPV because of the options to ___. a. Manage B. Leverage C. Expand D. Abandon
C & D
A positive NPV exists when the market value of a project exceeds its cost. Unfortunately, most of the time the market value of a project... -Is lower than its cost -Is higher than its cost -Cannot be observed -Must be determined by the SEC
Cannot be observed
Which of the following is a disadvantage of the Profitability Index? -Is closely related to NPV -Useful when capital is rationed -Easy to understand -Cannot rank mutually exclusive projects
Cannot rank mutually exclusive projects
The pro forma income statement for a proposed investment should include all of the following except: Fixed costs Forecasted sales Depreciation expense Taxes Changes in net working capital.
Changes in net working capital.
The effective annual rate (EAR) takes into account the ___ of interest that occurs within a year. -Discounting -Compounding
Compounding
Tedder Mining has analyzed a proposed expansion project and determined that the internal rate of return is lower than the firm desires. Which one of the following changes to the project would be most expected to increase the project's internal rate of return? Decreasing the required discount rate. Increasing the initial investment in fixed assets. Condensing the firm's cash inflows into fewer years without lowering the total amount of those inflows. Eliminating the salvage value. Decreasing the amount of the final cash inflow.
Condensing the firm's cash inflows into fewer years without lowering the total amount of those inflows.
The profitability index is also called the ___ ratio. Investment-Benefit Cost-Cashflow Cost-Investment Cost-Benefit
Cost-Benefit
What is the difference between scenario analysis & sensitivity analysis? A. There is no difference between scenario analysis and sensitivity analysis B. Both scenario and sensitivity analysis focus on examining the impact on NPV if one of the underlying variables changes C. Scenario analysis considers only one scenario while sensitivity analysis focuses on interaction among a group of variables D. Scenario analysis considers a combination of factors for each scenario while sensitivity analysis focuses on only one variable at a time
D
If a project with conventional cash flows has a profitability index of 1.0, the project will: Never pay back Have a negative net present value Have a negative internal rate of return Produce more cash inflows than outflows in today's dollars Have an internal rate of return that equals the required return
Have an internal rate of return that equals the required return
You are comparing two annuities. Annuity A pays $100 at the end of each month for 10 years. Annuity B pays $100 at the beginning of each month for 10 years. The rate of return on both annuities is 8 percent. Which one of the following statements is correct given this information? a. The present value of Annuity A is equal to the present value of Annuity B. b. Annuity B will pay one more payment than Annuity A will. c. The future value of Annuity A is greater than the future value of Annuity B. d. Annuity B has both a higher present value and a higher future value than Annuity A. e. Annuity A has a higher future value but a lower present value than Annuity B.
D
Given the following data, what is the operating cash flow? EBIT = $80 Depreciation = $20 Taxes = $30 A. $80 B. $30 C. $20 D. $70
D OCF = 80+20-30=70
All else held constant, the present value of an annuity will decrease if you: Increase the annuity's future value Increase the payment amount Increase the time period Decrease the discount rate Decrease the annuity payment
Decrease the annuity payment
Incremental cash flows come about as a(n) ___ consequence of taking a project under consideration -Indirect -Direct -Sporadic
Direct
When calculating NPV, the present value of the Nth cash flow is found by dividing the Nth cash flow by 1 plus the ___ rate raised to the Nth power. -Prime -Discount -Federal funds -LIBOR
Discount
The internal rate of return is defined as the: Maximum rate of return a firm expects to earn on a project. Rate of return a project will generate if the project is financed solely with internal funds. 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. Discount rate that causes the profitability index for a project to equal zero.
Discount rate which causes the net present value of a project to equal zero.
Which one of the following is the formula for computing operating cash flow? A. Net Income + Depreciation + Interest B. Net Income + Depreciation - Interest C. EBIT + Depreciation - Taxes D. (Sales - Costs) * (1-Tax Rate) + (Depreciation * Tax Rate) E. A, C and D
E
Which one of the following terms is most commonly used to describe the cash flows of a new project that are simply an offset of reduced cash flows for a current project? Opportunity cost Sunk cost Erosion Replicated flows Pirated flows
Erosion
Which one of the following terms is most commonly used to describe the cash flows of a new project that are simply an offset of reduced cash flows for a current project? Opportunity cost Sunk cost Erosion Replicated flows Pirated flows
Erosion
True or False: the number of positive NPV projects is unlimited in any given firm.
False
Which one of the following statements is correct? The net present value is a measure of profits expressed in today's dollars. The net present value is positive when the required return exceeds the internal rate of return. If the initial cost of a project is increased, the net present value of that project will also increase. If the internal rate of return equals the required return, the net present value will equal zero. Net present value is equal to an investment's cash inflows discounted to today's dollars.
If the internal rate of return equals the required return, the net present value will equal zero.
Interest expenses incurred on debt financing are ___ when computing cash flows from a project -Treated as cash inflows -Ignored -Treated as cash outflows -Spread over the life of the project
Ignored
Synergy will ___ the sales of existing products -Increase -Decrease -Have no effect on
Increase
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. Moving each of the cash inflows forward to a sooner time period. Decreasing the required discount rate. Increasing the project's initial cost at time zero. Increasing the amount of the final cash inflow.
Increasing the project's initial cost at time zero.
The difference between a firm's cash flows with a project versus without the project is called -Additional cash flows -Incremental cash flows -Differential cash flows -Net cash flows
Incremental cash flows
A ___ project does not rely on the acceptance or rejection of another project. -Independent -Dependent -Mutually exclusive -Co-dependent
Independent
Which one of the following is an indicator that an investment is acceptable? Assume cash flows are conventional. Modified internal rate of return that is equal to zero Profitability index of zero Internal rate of return that exceeds the required return Payback period that exceeds the required period Negative average accounting return
Internal rate of return that exceeds the required return
The profitability index reflects the value created per dollar: Invested. Of sales. Of net income. Of taxable income. Of shareholder's equity.
Invested
Capital budgeting is probably the most important of the three key areas of concern to the financial manager bc -It's the most controversial -It defines the business of the firm -It's the most difficult -It's the least understood
It defines the business of the firm
The payback period can lead to foolish decisions if it is used too literally because: -It ignores cash flows after the cutoff date -It ignores the initial cost -It always includes all the cash flows -It uses an arbitrary discount rate
It ignores cash flows after the cutoff date
What is an important drawback of traditional NPV analysis? -It ignores the impact of the discount rate -Standard software programs and calculators cannot compute NPV -It ignores managerial options in investment decisions -It ignores the time value of money when computing the NPV
It ignores managerial options in investment decisions
The primary risk in estimation errors is the potential to ___. -Make managers look bad -Delay the launch of a good product -Make incorrect capital budgeting decisions
Make incorrect capital budgeting decisions
We need to consider the tax impacts of all cash flows. Incremental cash flows are meant to be after-tax incremental cash flows. Which tax rate is most relevant for after-tax cash flows? Marginal tax rate Average tax rate
Marginal tax rate
A positive NPV exists when the market value of a project exceeds its cost. Which of these 2 values is the most difficult to establish? -Project cost -Both are difficult to establish -Market value -Both are easy to establish
Market value
Valley Forge and Metal purchased a truck five years ago for local deliveries. Which one of the following costs related to this truck is the best example of a sunk cost? Assume the truck has a usable life of five years. New tires that will be purchased this winter Costs of repairs needed so the truck can pass inspection next month Money spent last month repairing a damaged front fender Engine tune-up that is scheduled for this afternoon Cost for a truck driver for the remainder of the truck's useful life
Money spent last month repairing a damaged front fender
You deposit $1,000 in a bank account today that pays 12% interest. How much will you have after 1 month? $1,000 $1,010 More information is needed
More information is needed
Both Projects A and B are acceptable as independent projects. However, the selection of either one of these projects eliminates the option of selecting the other project. Which one of the following terms best describes the relationship between Project A and Project B? Mutually exclusive Conventional Multiple choice Dual return Crosswise
Mutually exclusive
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 -Interdependent -Independent -Co-dependent
Mutually exclusive
Which of the following techniques will provide the most consistently correct result? -Net present value -Internal rate of return -Average accounting return -Payback
NPV
Which one of the following is generally considered to be the best form of analysis if you have to select a single method to analyze a variety of investment opportunities? Payback Profitability index Accounting rate of return Internal rate of return Net present value
Net present value
___ is a measure of how much value is created or added by undertaking an investment. -Net future value -Net present value
Net present value
One of the flaws of the payback period method is that cash flows after the cutoff date are ___. -Reserved for future projects -Given special consideration -Not considered in the analysis -Given greater value
Not considered in the analysis
Which one of the following terms refers to the best option that was foregone when a particular investment is selected? Side effect Erosion Sunk cost Opportunity cost Marginal cost
Opportunity cost
The ___ method evaluates a project by determining the time needed to recoup the initial investment. -Internal rate of return -Payback -Accounting rate of return
Payback
The ___ is best suited for decisions on relatively small, minor projects while ___ is more appropriate for large complex projects. -Payback period; NPV -IRR; NPV
Payback period; NPV
Which one of the following indicates that a project is expected to create value for its owners? Profitability index less than 1.0 Payback period greater than the requirement Positive net present value Positive average accounting rate of return Internal rate of return that is less than the requirement
Positive net present value
Which one of the following indicates that a project should be rejected? Assume the cash flows are normal, i.e., the initial cash flow is negative. Payback period that is shorter than the requirement period Positive net present value Profitability index less than 1.0 Internal rate of return that exceeds the required return.
Profitability index less than 1.0
Which of the following is an example of a sunk cost? -Project variable cost -Bonus to top management based on project success -Project consultation fee -Salvage value of equipment
Project consultation fee
Cindy is taking out a loan today. The cash amount that she is receiving is equal to the present value of the lump sum payment that she will be required to pay two years from today. Which type of loan is this? Principal-only Amortized Interest-only Compound Pure discount
Pure discount
Scenario analysis is best described as the determination of the: Most likely outcome for a project. Reasonable range of project outcomes. Variable that has the greatest effect on a project's outcome. Effect that a project's initial cost has on the project's net present value. Change in a project's net present value given a stated change in projected sales.
Reasonable range of project outcomes.
According to the basic IRR rule, we should: -Reject a project if the IRR is less than 10% -Reject a project if the IRR is less than the required return -Reject a project if the IRR is greater than the required return -Accept the project if the IRR is less than the required return
Reject a project if the IRR is less than the required return
One of the most important steps in estimating cash flow is to determine the ___ cash flows -Relevant -Operating -Specious
Relevant
Opportunity costs are classified as ___ costs in project analysis. -Intangible -Relevant -Irrelevant -Sunk
Relevant
West Corp estimated cash flows for a project, evaluated those cash flows using NPV, and determined that the project was unacceptable. Unfortunately, West Corp lost money on the project. This may have been avoided had they assessed the ___ of the cash flow estimates. -Reliability -Fungibility -Principality -Additivity
Reliability
If the IRR is greater than the ___, we should accept the project. -Required return -Inflation rate -Tax rate -Payback period
Required return
To investigate the impact on NPV of a change in one variable, you would employ ___. -Sensitivity analysis -Scenario analysis -Monte Carlo simulation -What-If analysis
Sensitivity analysis
When using ___, all of the variables except one are frozen in order to determine how sensitive the NPV estimate is to changes in that particular variable. -Breakeven analysis -Sensitivity analysis -Simulation
Sensitivity analysis
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 -Stand with -Walk alone -Stand and deliver
Stand alone
Which one of the following principles refers to the assumption that a project will be evaluated based on its incremental cash flows? Forecast assumption principle Base assumption principle Fallacy principle Erosion principle Stand-alone principle
Stand-alone principle
Weston Steel purchased a new coal furnace six years ago at a cost of $2.2 million. Last year, the government changed the emission requirements and this furnace cannot meet those standards. Thus, the company can no longer use the furnace, nor has it been able to locate anyone willing to purchase the furnace. Given the current situation, the furnace is best described as which type of cost? Erosion Book Sunk Market Opportunity
Sunk
A cost that should be ignored when evaluating a project because that cost has already been incurred and cannot be recouped is referred to as a(n): Fixed cost Forgotten cost Variable cost Opportunity cost Sunk cost
Sunk cost
The internal rate of return is: The discount rate that makes the net present value of a project equal to the initial cash outlay. Equivalent to the discount rate that makes the net present value equal to one. Tedious to compute without the use of either a financial calculator or a computer. Highly dependent upon the current interest rates offered in the marketplace. A better methodology than net present value when dealing with unconventional cash flows.
Tedious to compute without the use of either a financial calculator or a computer.
Which one of the following statements is correct? The APR is equal to the EAR for a loan that charges interest monthly. The EAR is always greater than the APR. The APR on a monthly loan is equal to (1 + monthly interest rate)12- 1. The APR is the best measure of the actual rate you are paying on a loan. The EAR, rather than the APR, should be used to compare both investment and loan options.
The EAR, rather than the APR, should be used to compare both investment and loan options.
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 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 cash flow in year three is ignored. 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 project is acceptable whenever the payback period exceeds three years.
The cash flow in year two is valued just as highly as the cash flow in year one.
The Corner Market has decided to expand its retail store by building on a vacant lot it currently owns. This lot was purchased four years ago at a cost of $299,000, which the firm paid in cash. To date, the firm has spent another $38,000 on land improvements, all of which was also paid in cash. Today, the lot has a market value of $329,000. What value should be included in the analysis of the expansion project for the cost of the land? The sum of the cash paid to date for both the lot and the improvements The original purchase price only The current market value of the land plus the cash paid for the improvements The current market value of the land Zero because the land and the improvements were previously purchased with cash
The current market value of the land
Cash flows occurring in different periods should not be compared unless: Interest rates are expected to be stable The flows occur no more than one year from each other High rates of interest can be earned on the flows The flows have been discounted to a common date
The flows have been discounted to a common date
Capital rationing exists when a company has identified positive NPV projects but can't (or won't) find: -Negative cash flows -Irreducible equations -The necessary financing -Positive IRRs
The necessary financing
An investment has conventional cash flows and a profitability index of 1.0. Given this, which one of the following must be true? The internal rate of return exceeds the required rate of return. The investment never pays back. The net present value is equal to zero The net present value is greater than 1.0
The net present value is equal to zero
An investment has conventional cash flows and a profitability index of 1.0. Given this, which one of the following must be true? The internal rate of return exceeds the required rate of return. The investment never pays back. The net present value is equal to zero. The average accounting return is 1.0. The net present value is greater than 1.0.
The net present value is equal to zero.
Which one of the following statements is correct? A longer payback period is preferred over a shorter payback period. The payback rule states that you should accept a project if the payback period is less than one year. The payback period ignores the time value of money. The payback rule is biased in favor of long-term projects. The payback period considers the timing and amount of all of a project's cash flows.
The payback period ignores the time value of money
You are comparing three investments, all of which pay $100 a month and have an interest rate of 8 percent. One is ordinary annuity, one is an annuity due, and the third investment is a perpetuity. Which one of the following statements is correct given these three investment options? The future value of all three investments must be equal. To be the perpetuity, the payments must occur on the first day of each monthly period. The present value of all three investments must be equal. The ordinary annuity would be more valuable than the annuity due if both had a life of 10 years. The present value of the perpetuity has to be higher than the present value of either the ordinary annuity or the annuity due.
The present value of the perpetuity has to be higher than the present value of either the ordinary annuity or the annuity due.
Which one of the following will occur when the internal rate of return equals the required return? The average accounting return will equal 1.0. The profitability index will equal 1.0. The profitability index will equal 0. The net present value will equal the initial cash outflow. The profitability index will equal the average accounting return.
The profitability index will equal 1.0
If a project has a net present value equal to zero, then: 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. A decrease in the project's initial cost will cause the project to have a negative NPV. Any delay in receiving the projected cash inflows will cause the project to have a positive NPV. The project's PI must also be equal to zero.
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 has a zero percent rate of return. The project requires no initial cash investment. The project has no cash flows. The summation of all of the project's cash flows is zero The project's cash inflows equal its cash outflows in current dollar terms.
The project's cash inflows equal its cash outflows in current dollar terms.
Thrill Rides is considering adding a new roller coaster to its amusement park. The addition is expected to increase its overall ticket sales. In particular, the company expects to sell more tickets for its current roller coaster and experience extremely high demand for its new coaster. Sales for its boat ride are expected to decline but food and beverage sales are expected to increase significantly. All of the following are side effects associated with the new roller coaster with the exception of the: Increased food sales Additional sales for the existing coaster Increased food costs from the higher food sales Reduced sales for the boat ride Ticket sales for the new coaster
Ticket sales for the new coaster
Which one of the following features distinguishes an ordinary annuity from an annuity due? Number of equal payments Amount of each payment Frequency of the payments Annuity interest rate Timing of the annuity payments
Timing of the annuity payments
True or False: To prepare pro forma financial statements, estimates of quantities such as unit sales, selling price per unit, variable cost per unit, and total fixed costs are required
True
True or false: A project with non-conventional cash flows will produce two or more IRRs.
True
Which one of these is a perpetuity? Trust income of $1,200 a year forever Retirement pay of $2,200 a month for 20 years Lottery winnings of $1,000 a month for life Car payment of $260 a month for 60 months Rental payment of $800 a month for one year
Trust income of $1,200 a year forever
In order to analyze the risk of a project's NPV estimate, we should establish ___ for each important estimate variable. -Only minimum values -Most likely and least likely values -Upper and lower bounds -Average values
Upper and lower bounds
Scenario analysis asks questions such as: How will changing the number of units sold affect the outcome of this project? What is the best outcome that should reasonably be expected? How much will a $1 increase in the variable cost per unit change the net present value? Will the net present value increase or decrease if the quantity sold increases by 100 units? How will the operating cash flow change if the depreciation method is changed?
What is the best outcome that should reasonably be expected?
The basic approach to evaluating cash flow & NPV estimates involves asking... -Questions about the cash flow assumptions -What-If questions -For assistance from the federal government
What-if questions
Which one of the following statements is correct? Assume cash flows are conventional. If the IRR exceeds the required return, the profitability index will be less than 1.0. The profitability index will be greater than 1.0 when the net present value is negative. When the internal rate of return is greater than the required return, the net present value is positive. Projects with conventional cash flows have multiple internal rates of return. If two projects are mutually exclusive, you should select the project with the shortest payback period.
When the internal rate of return is greater than the required return, the net present value is positive.
A credit card has an annual percentage rate of 12.9 percent and charges interest monthly. The effective annual rate on this account: Will be less than 12.9 percent Can either be less than or equal to 12.9 percent Is 12.9 percent Can either be greater than or equal to 12.9 percent Will be greater than 12.9 percent
Will be greater than 12.9 percent
The Blue Hen Brewery spent $100,000 on market research and consulting fees to analyze their higher-alcohol beer product. Is this a sunk cost? Yes No More information is needed
Yes This should not be included in the decision.
The IRR is the discount rate that makes NPV equal to ___. -The payback period -Zero -The terminal book value of the project's fixed assets
Zero
A proposed project will increase a firm's accounts payables. This increase is generally: treated as an erosion cost. treated as an opportunity cost. a sunk cost and should be ignored. a cash outflow at Time zero and a cash inflow at the end of the project. a cash inflow at Time zero and a cash outflow at the end of the project.
a cash inflow at Time zero and a cash outflow at the end of the project.
The Jones Brothers recently established a trust fund that will provide annual scholarships of $12,000 indefinitely. These annual scholarships are: an ordinary annuity. an annuity due. amortized payments. a perpetuity. a perpetuity due.
a perpetuity.
The interest rate charged per period multiplied by the number of periods per year is equal to ___ on a loan
annual percentage rate
The net present value of an investment represents the difference between the investment's: cash inflows and outflows. cost and its net profit. cost and its market value. cash flows and its profits. assets and liabilities.
cost and its market value.
All else held constant, the present value of an annuity will decrease if you: increase the annuity's future value. increase the payment amount. increase the time period. decrease the discount rate. decrease the annuity payment.
decrease the annuity payment.
The IRR is the... discount rate that causes a project's after-tax income to equal zero. discount rate that results in a zero net present value for the project. discount rate that results in a net present value equal to the project's initial cost. rate of return required by the project's investors. project's current market rate of return.
discount rate that results in a zero net present value for the project.
Anna pays .85 percent interest monthly on her credit card account. When the interest rate on that debt is expressed as if it were compounded annually, the rate would be referred to as the: annual percentage rate. simplified rate. quoted rate. stated rate. effective annual rate.
effective annual rate.
For a stated positive interest rate, the EAR is always ___ than the APR. -less than -equal to or greater than -equal to or less than -equal to -greater than
equal to or greater than
Net present value involves discounting an investment's: assets. future profits. liabilities. costs. future cash flows.
future cash flows.
Scenario analysis... determines the impact a $1 change in sales has on a project's internal rate of return. determines which variable has the greatest impact on a project's net present value. helps determine the reasonable range of expectations for a project's anticipated outcome. evaluates a project's net present value while sensitivity analysis evaluates a project's internal rate of return. determines the absolute worst and absolute best outcome that could ever occur.
helps determine the reasonable range of expectations for a project's anticipated outcome.
Sensitivity analysis: looks at the most reasonably optimistic and pessimistic results for a project. helps identify the variable within a project that presents the greatest forecasting risk. is used for projects that cannot be analyzed by scenario analysis because the cash flows are unconventional. is generally conducted prior to scenario analysis just to determine if the range of potential outcomes is acceptable. illustrates how an increase in operating cash flow caused by changing both the revenue and the costs simultaneously will change the net present value for a project.
helps identify the variable within a project that presents the greatest forecasting risk.
More frequent compounding leads to: -lower EARs -higher EARs -lower APRs -higher APRs
higher EARs
Assume all else is equal. When comparing savings accounts, you should select the account that has the: lowest annual percentage rate. highest annual percent rate. highest stated rate. lowest effective annual rate. highest effective annual rate.
highest effective annual rate.
Travis borrowed $10,000 four years ago at an annual interest rate of 7 percent. The loan term is six years. Since he borrowed the money, Travis has been making annual payments of $700 to the bank. Which type of loan does he have? Interest-only Pure discount Compound Amortized Complex
interest-only
The profitability index reflects the value created per dollar: invested. of sales. of net income. of taxable income. of shareholders' equity.
invested.
Higher cash flows earlier in a project's life are ___ (more/less) valuable than higher cash flows later on.
more
The NPV is ___ (positive/negative) if the required return is less than the IRR, and it is ___ (positive/negative) if the required return is greater than the IRR.
positive, negative
A pro forma financial statement is a financial statement that: expresses all values as a percentage of either total assets or total sales. compares actual results to the budgeted amounts. compares the performance of a firm to its industry. projects future years' operating results. values all assets based on their current market values.
projects future years' operating results.
Given an interest rate of zero percent, the future value of a lump sum invested today will always: remain constant, regardless of the investment time period. be infinite in value. decrease if the investment time period is shortened. be equal to $0. decrease if the investment time period is lengthened.
remain constant, regardless of the investment time period.
Jamie is analyzing the estimated net present value of a project under various conditions by revising the sales quantity, sales price, and the cost estimates. The type of analysis that Jamie is doing is best described as: sensitivity analysis. erosion planning. scenario analysis. benefit planning. opportunity evaluation.
scenario analysis.