Chapter 8 Questions

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

Net Present Value

The basic NPV investment rule is:

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

What is the primary concern of the payback period rule?

how long it takes to recover the initial investment

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

T/F: The discounted cash flow (DCF) valuation estimates future value as the difference between the market price and the cost of the investment.

False

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

accepted

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

accepts

T/F: The payback period takes into consideration the time value of money.

false

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

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

it ignores cash flows after the cutoff date

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

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

1. the payback period method is easy to use 2. it allows lower level managers to make small decisions effectively 3. the payback period method is ideal for short projects

The spreadsheet function for calculating net present value is ______.

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

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

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

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

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

requires an arbitrary cutoff point

T/F: 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