finance ch 9

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.

$400,000

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

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?

1.15 × 1,000 = 1,150 1,150

If a new project requires an investment in net working capital when it is launched, then at the end of the project, NWC will be

100% reversed.

Operating cash flow is a function of:

Earnings Before Interest and Taxes Taxes Depreciation

A positive NPV exists when the market value of a project exceeds its cost. Which of these two values is the most difficult to establish?

Market value

Which of the following is an example of an opportunity cost?

Rental income likely to be lost by using a vacant building for an upcoming project

What is the difference between scenario analysis and sensitivity analysis?

Scenario analysis considers a combination of factors for each scenario while sensitivity analysis focuses on only one variable at a time.

Which of the following qualify as "managerial options"?

The option to wait The option to abandon The option to expand

Cash flows should always be considered on a(n) ___________ basis.

after-tax

Cash flows used in project estimation should always reflect:

after-tax cash flows cash flows when they occur

Managerial options are taken into consideration in ________ planning.

contingency

True or false: In calculating cash flows, you should consider all financing costs.

false

Synergy will _____ the sales of existing products.

increase

The primary risk in estimation errors is the potential to __________

make incorrect capital budgeting decisions

The project cash flow equals the project operating cash flow_________ project change in NWC minus project capital spending.

minus

Which of the following techniques will provide the most consistently correct result?

net present value

An option on a real asset rather than a financial asset is known as a:

real option managerial option

Given a level of investment in net working capital, that same investment must be ________ at some time in the future.

recovered

Given a level of investment in net working capital, that same investment must be __________ at some time in the future.

recovered

When we estimate the best-case, worst-case, and base-case cash flows and calculate the corresponding NPVs, we are engaging in:

scenario analysis asking what-if questions

Scenario analysis considers a combination of factors for each scenario while _________ analysis focuses on only one variable at a time.

sensitivity

True or false: Investment in net working capital may arise from the need to cover credit sales.

true

True or false: Net working capital will be recovered at the end of a project. True false question.

true

Which of the following are components of project cash flow?

Change in net working capital Operating cash flow Capital spending

What approach does the following formula describe? OCF = (Sales - Costs) x (1-TC) + Depreciation x TC

The Tax Shield Approach

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:

cannot be observed

True or false: Operating cash flow is based on the salvage value of equipment.

false

To investigate the impact on NPV of a change in one variable, you would employ ________.

sensitivity analysis

The rules for depreciating assets for tax purposes are based upon provisions in the:

1986 Tax Reform Act

In the context of capital budgeting, what does sensitivity analysis do?

It examines how sensitive a particular NPV calculation is to changes in underlying assumptions.

What is net working capital?

current assets minus current liabilities

We underestimate NPV because of the option(s) to ______.

expand abandon

The goals of risk analysis in capital budgeting include:

identifying critical components assessing the degree of financing risk

interest expenses incurred on debt financing are ______ when computing cash flows from a project.

ignored

The difference between a firm's cash flows with a project versus without the project is called ________________.

incremental cash flows

The most valuable alternative that is given up if an investment is undertaken is called what?

opportunity cost

The depreciation tax ________ is the tax savings that results from the depreciation deduction.

shield

Investment in net working capital arises when ___.

-cash is kept for unexpected -expenditures inventory is purchased -credit sales are made

Opportunity costs are ____.

Benefits lost due to taking on a partular project

The number of positive NPV projects is unlimited for any given firm.

false

Accounts receivable and accounts payable are included in project cash flow estimation as part of changes in ______________.

net working capital

The difference between a firm's current assets and its current liabilities is known as the _____.

net working capital

Erosion will ______ the sales of existing products.

reduce

One of the most important steps in estimating cash flow is to determine the _________ cash flows.

relevant

Opportunity costs are classified as ____ costs in project analysis.

relevant

The first step in estimating cash flow is to determine the _________ cash flows.

relevant

In a competitive market, positive NPV projects are:

uncommon

In order to analyze the risk of a project's NPV estimate, we should establish ___________ for each important estimate variable.

upper and lower bounds

A manager has estimated a positive NPV for a project. What could drive this result?

Overly optimistic management The cash flow estimations are inaccurate. The project is a good investment.

The possibility that errors in projected cash flows will lead to incorrect decisions is known as:

estimation risk forecasting risk

True or false: The depreciation tax shield is the depreciation deduction divided by the tax rate.

false

though depreciation is a non-cash expense, it is important to capital budgeting for these reasons:

it determines taxes owed on fixed assets when they are sold it determines the book value of assets which affects net salvage value it affects a firm's annual tax liability

Once cash flows have been estimated, which of the following investment criteria can be applied to them?

payback period IRR NPV

The basic approach to evaluating cash flow and NPV estimates involves asking:

what-if questions

Which of the following are reasons why NPV is considered a superior capital budgeting technique?

It considers the riskiness of the project. It considers all the cash flows. It considers time value of money. It properly chooses among mutually exclusive projects

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?

$55

Side effects from investing in a project refer to cash flows from:

-beneficial spillover effects -erosion effects

Incremental cash flows come about as a(n) ________ consequence of taking a project under consideration.

direct

What is scenario analysis?

Scenario analysis determines the impact on NPV of a set of events relating to a specific scenario.

Which of the following is the equation for estimating operating cash flows using the tax shield approach?

OCF = (Sales - Costs) × (1 - Tax rate) + Depreciation × Tax rate

Sunk costs are costs that ____.

have already occurred and are not affected by accepting or rejecting a project

The stand-alone principle assumes that evaluation of a project may be based on the project's ________________ cash flows.

incremental