Chapter 7 NPV SmartBook
What is the NPV of a project with an initial investment of $100, a cash flow in one year of $105, and a discount rate of 10 percent?
-$4.55
A dollar received one year from today has ______ value than a dollar received today.
less
Capital rationing requires a company to
limit their investments.
Higher cash flows earlier in a project's life are ______ valuable than higher cash flows later on.
more
The difference between the sum of the present values of a project's future cash flows and the initial cost of the project is the project's
net present value
As long as the cash flows are positive, the discounted payback period will ________ the payback period because discounting reduces the value of the cash flows
never be smaller than
The discount rate assigned to a project reflects the _____
opportunity cost to the investor risk of the project
The _______ method is ideal for companies with limited funds that have a need for a quick turn-around of their capital.
payback
In general, NPV is
positive for discount rates below the IRR.
Using accounting numbers in the AAR method is a weakness because
the basic inputs are affected by the accountant's judgment accounting numbers are somewhat arbitrary.
The three attributes of NPV are that it:
uses all the cash flows of a project uses cash flows discounts the cash flows properly
What is the NPV of a project with an initial investment of $95, a cash flow in one year of $107, and a discount rate of 6 percent?
$5.94
A small project has cash flows of -$10 and $45, and a large project has cash flows of -$30 and $70. What is the incremental IRR?
25% Reason: -$30 - (-$10) + $70−451+IRR$70-451+IRR = $0 →IRR = $70−45$30−10$70-45$30-10 - 1 = 25%
According to Graham and Harvey's 2001 survey of 392 CFOs, which of the following capital budgeting methods are used by less than 50% of firms in the U.S. and Canada?
Discounted payback Profitability index Accounting rate of return
What are the advantages of the payback period method for management?
It allows lower level managers to make small decisions effectively The payback period method is easy to use The payback period method is ideal for minor projects.
Which of the following are true of the internal rate of return method?
It is the most important alternative to the NPV method It provides a single number summarizing the merits of a project The IRR depends solely on the cash flows of the project.
If a firm accepts a project, the value of the firm will rise by the ______ of the project.
NPV
The timing of cash flows within the payback period
impacts the NPV of the project is not considered by the payback method.
What does value additivity mean for a firm?
The NPV values of individual projects can be added together. The value of a firm is simply the combined value of the firm's projects, divisions, and entities owned by the firm.
Which of the following are true of the modified IRR (MIRR)?
The idea is to modify cash flows first then calculate the IRR using the modified cash flows There are several different ways to calculate the MIRR.
Which of the following is not a reason that projects with the same payback period may not be equally attractive?
The payback method includes cash flows that occur outside the payback period The cutoff date for the payback method is assigned by the SEC so firms have no say in the date used.
Which of the following are general problems affecting independent and mutually exclusive projects?
The projects have multiple rates of return The IRR rule is reversed between investing and financing type projects.
Which of the following are weaknesses of the payback method?
Timing of cash flows within the payback period are not considered Cash flows received after the payback period are ignored The cutoff date is arbitrary.
Why is a dollar received today worth more than a dollar received in the future?
Today's dollar can be invested, yielding a greater amount in the future
________ __________ implies that the NPV of a project is that project's contribution to a firm's value
Value Additivity
According to the basic investment rule for NPV, a firm should ______
accept a project if the NPV is greater than zero. reject a project if NPV is less than zero. be indifferent towards accepting a project if NPV is equal to zero
The payback period rule ______ a project if it has a payback period that is less than or equal to a particular cutoff date.
accepts
The average accounting return is calculated as the average net income of the project divided by the
average book value of the investment during the project's life.
Accepting a positive NPV project will ______ the stockholders by ______ the value of the firm.
benefit, increasing
Capital ______ is the decision-making process for accepting and rejecting projects.
budgeting
Two mutually exclusive projects can be correctly evaluated by
comparing the incremental IRR to the discount rate examining the NPV of the incremental cash flows comparing the NPVs of the two projects
The ________ discounts cash flows and then determines the time it takes for those cash flows to equal the initial investment & Which capital budgeting decision method finds the present value of each cash flow before calculating a payback period?
discounted payback period method
An independent project
does not depend on the acceptance or rejection of other projects.
You must know the discount rate to make a decision under
either NPV or IRR
The basic investment rule says to accept a project if its NPV is _____zero.
greater than