Finance Test 3

Which two methods of project analysis are the most biased towards short-term projects?

Payback and discounted payback

Assume a project is independent with financing cash flows. Which one of these statements is correct?

The project is acceptable if the required return exceeds the IRR.

Graphing the crossover point helps explain:

how decisions concerning mutually exclusive projects are derived.

The Discounted Payback Period Rule states that a company will accept a project if: Multiple Choice

the calculated payback is less than a pre-specified number of years.

The Internal Rate of Return (IRR) represents which of the following:

the discount rate that makes the net present value equal to zero.

Given the following, which feature identifies the most desirable level of output for a project?

Discounted payback period equal to the project's life

Which one of the following indicates an accept decision for an independent project with conventional cash flows?

PI greater than 1.0

A project's cash flow is equal to the project's operating cash flow:

minus both the project's change in net working capital and capital spending.

A project has a discounted payback period that is equal to the required payback period. Given this, the project:

must have a profitability index that is equal to or greater than 1.0.

Which one of the following should not be included in the analysis of a new product?

Money already spent for research and development of the new product

The difference between a company's future cash flows if it accepts a project and the company's future cash flows if it does not accept the project is referred to as the project's:

incremental cash flows.

What is crossover rate?

The discount rate at which we are indifferent between two investments.

Sensitivity analysis determines the:

degree to which the net present value reacts to changes in a single variable.

The equivalent annual cost method is useful in determining

which one of two machines should be purchased when the machines are mutually exclusive, have differing lives, and will be replaced at the end of their lives.

Which one of the following will best reduce the risk of a project by lowering the degree of operating leverage?

Subcontracting portions of the project rather than purchasing new equipment to do all the work in-house

If a project has a net present value equal to zero, then:

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

The first step when calculating the crossover rate is

to calculate the cash flow differences between each project.

The degree of operating leverage is equal to:

1 + FC/OCF.

Assume you are considering two mutually exclusive machines and need to select one for a cost-cutting project. Which one of these sets of characteristics best indicates the use of the equivalent annual cost method of analysis?

Differing lives and planned replacement at end of life

Dan is comparing three machines to determine which one to purchase. The machines sell for differing prices, have differing operating costs and machine lives, and will be replaced when worn out. Which one of the following computational methods should Dan use as the basis for his decision?

Equivalent annual cost

Assume a project has a discounted payback that equals the project's life. The project's sales quantity must be at which one of these break-even points?

Financial

Which one of the following represents the level of output where a project produces a rate of return just equal to its requirement?

Financial break-even

Which one of the following will decrease the net present value of a project?

Increasing the project's initial cost at time zero

All of the following are related to a proposed project. Which one of these should be included in the cash flow at Time 0?

Initial investment in inventory to support the project

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?

Net present value

The profitability index is most closely related to which one of the following?

Net present value

Which one of the following methods of analysis provides the best information on the relationship of the benefit of project relative to the cost?

Profitability index

Which type of analysis identifies the variable, or variables, that are most critical to the success of a particular project?

Sensitivity

Why is payback often used as the sole method of analyzing a proposed small project?

The benefits of payback analysis usually outweigh the costs of the analysis.

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 2 is valued just as highly as the cash flow in Year 1.

Which one of the following statements would generally be considered as accurate given independent projects with conventional cash flows?

The payback decision rule could override the net present value decision rule should cash availability be limited.

disadvantages of AAR

Time value of money is ignored an arbitrary benchmark cutoff rate is established Market values are not considered.

The depreciation tax shield is best defined as the:

amount of tax that is saved because of the depreciation expense.

Net working capital:

can create either an initial cash inflow or outflow.

What are non-conventional cash flows?

Non-conventional cash flows are defined as a combination of cash outflows, followed by inflows, and returning to outflows. This commonly occurs because companies will invest a small amount into a project, monitor the inflows, and then anticipate investing additional funds later assuming the project is successful.

Mutually exclusive projects are best defined as competing projects that:

both require the total use of the same limited resource.

Webster Iron Works started a new project last year. As it turns out, the project has been operating at its accounting break-even level of output and is now expected to continue at that level over its lifetime. Given this, you know that the project:

is operating at a higher level than if it were operating at its cash break-even level.

Combining scenario analysis with sensitivity analysis can yield a crude form of _____ analysis.

simulation

When you assign the lowest anticipated sales price and the highest anticipated costs to a project, you are analyzing the project under the condition known as:

worst-case scenario analysis.