Quiz 1

Gateway Communications is considering a project with an initial fixed asset cost of $2.872 million which will be depreciated straight-line to a zero book value over the 10-year life of the project. At the end of the project the equipment will be sold for an estimated $300,000. The project will not directly produce any sales but will reduce operating costs by $714,000 a year. The tax rate is 35 percent. The project will require $52,000 of inventory which will be recouped when the project ends. What is the net present value at the required rate of return of 13.6 percent? Answers: 1) $68,019.24 2) $101,414.14 3) $152,108.10 4) $70,475.57 5) $136,691.88

$136,691.88

Which one of the following statements is correct in relation to independent projects? Answers: 1) The internal rate of return cannot be used to determine the acceptability of a project that has financing type cash flows. 2) A project with investing type cash flows is acceptable if its internal rate of return exceeds the required return. 3) A project with financing type cash flows is acceptable if its internal rate of return exceeds the required return. 4) The net present value profile is upsloping for projects with both investing and financing type cash flows. 5) Projects with financing type cash flows are acceptable only when the internal rate of return is negative.

A project with investing type cash flows is acceptable if its internal rate of return exceeds the required return.

A project has a discounted payback period that is equal to the required payback period. Given this, which of the following statements must be true? I. The project must also be acceptable under the payback rule. II. The project must have a profitability index that is equal to or greater than 1.0. III. The project must have a zero net present value. IV. The project's internal rate of return must equal the required return. Answers: 1) I only 2) I and II only 3) II and III only 4) I, III, and IV only 5) I, II, III, and IV

I and II only

Which of the following are definite indicators of an accept decision for an independent project with conventional cash flows? I. positive net present value II. profitability index greater than zero III. internal rate of return greater than the required rate IV. positive internal rate of return Answers: 1) I and III only 2) II and IV only 3) I, II, and III only 4) II, III, and IV only 5) I, II, III, and IV

I and III only

Which of the following variables will be at their highest expected level under a worst case scenario? I. fixed cost II. sales price III. variable cost IV. sales quantity Answers: 1) I only 2) III only 3) II and III only 4) I and III only 5) I, III, and IV only

I and III only

Which of the following statements related to the internal rate of return (IRR) are correct? I. The IRR method of analysis can be adapted to handle non-conventional cash flows. II. The IRR that causes the net present value of the differences between two project's cash flows to equal zero is called the crossover rate. III. The IRR tends to be used more than net present value simply because its results are easier to comprehend. IV. Both the timing and the amount of a project's cash flows affect the value of the project's IRR. Answers: 1) I and II only 2) III and IV only 3) I, II, and III only 4) II, III, and IV only 5) I, II, III, and IV

I, II, III, and IV

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? Answers: 1) 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. 2) The cash flow in year three is ignored. 3) The project's cash flow in year three is discounted by a factor of (1 + R)3. 4) The cash flow in year two is valued just as highly as the cash flow in year one. 5) 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.

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: Answers: 1) will never pay back. 2) has a zero net present value. 3) is operating at a higher level than if it were operating at its cash break-even level. 4) is operating at a higher level than if it were operating at its financial break-even level. 5) is lowering the total net income of the firm.

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

Net present value: Answers: 1) is the best method of analyzing mutually exclusive projects. 2) is less useful than the internal rate of return when comparing different sized projects. 3) is the easiest method of evaluation for non-financial managers to use. 4) is less useful than the profitability index when comparing mutually exclusive projects. 5) is very similar in its methodology to the average accounting return.

is the best method of analyzing mutually exclusive projects.

If a firm accepts Project A it will not be feasible to also accept Project B because both projects would require the simultaneous and exclusive use of the same piece of machinery. These projects are considered to be: Answers: 1) independent. 2) interdependent. 3) mutually exclusive. 4) economically scaled. 5) operationally distinct.

mutually exclusive.

A project has an initial cost of $27,400 and a market value of $32,600. What is the difference between these two values called? Answers: 1) net present value 2) internal return 3) payback value 4) profitability index 5) discounted payback

net present value

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? Answers: 1) profitability index 2) internal rate of return 3) payback 4) net present value 5) accounting rate of return

net present value

The profitability index is most closely related to which one of the following? Answers: 1) payback 2) discounted payback 3) average accounting return 4) net present value 5) modified internal rate of return

net present value

The length of time a firm must wait to recoup the money it has invested in a project is called the: Answers: 1) internal return period. 2) payback period. 3) profitability period. 4) discounted cash period. 5) valuation period.

payback period.

The final decision on which one of two mutually exclusive projects to accept ultimately depends upon which one of the following? Answers: 1) initial cost of each project 2) timing of the cash inflows 3) total cash inflows of each project 4) required rate of return 5) length of each project's life

required rate of return

Brubaker & Goss has received requests for capital investment funds for next year from each of its five divisions. All requests represent positive net present value projects. All projects are independent. Senior management has decided to allocate the available funds based on the profitability index of each project since the company has insufficient funds to fulfill all of the requests. Management is following a practice known as: Answers: 1) scenario analysis. 2) sensitivity analysis. 3) leveraging. 4) hard rationing. 5) soft rationing.

soft rationing.

Applying the discounted payback decision rule to all projects may cause: Answers: 1) some positive net present value projects to be rejected. 2) the most liquid projects to be rejected in favor of the less liquid projects. 3) projects to be incorrectly accepted due to ignoring the time value of money. 4) a firm to become more long-term focused. 5) some projects to be accepted which would otherwise be rejected under the payback rule.

some positive net present value projects to be rejected.

G & L Plastic Molders spent $1,200 last week repairing a machine. This week the company is trying to decide if the machine could be better utilized if they assigned it a proposed project. When analyzing the proposed project, the $1,200 should be treated as which type of cost? Answers: opportunity fixed incremental erosion sunk

sunk

Which one of the following best describes the concept of erosion? Selected Answer: Answers: 1) expenses that have already been incurred and cannot be recovered 2) change in net working capital related to implementing a new project 3) the cash flows of a new project that come at the expense of a firm's existing cash flows 4) the alternative that is forfeited when a fixed asset is utilized by a project 5) the differences in a firm's cash flows with and without a particular project

the cash flows of a new project that come at the expense of a firm's existing cash flows

Simulation analysis is based on assigning a _____ and analyzing the results. Answers: 1) narrow range of values to a single variable 2) narrow range of values to multiple variables simultaneously 3) wide range of values to a single variable 4) wide range of values to multiple variables simultaneously 5) single value to each of the variables

wide range of values to multiple variables simultaneously

Douglass Interiors is considering two mutually exclusive projects and have determined that the crossover rate for these projects is 11.7 percent. Project A has an internal rate of return (IRR) of 15.3 percent and Project B has an IRR of 16.5 percent. Given this information, which one of the following statements is correct? Answers: 1) Project A should be accepted as its IRR is closer to the crossover point than is Project B's IRR. 2) Project B should be accepted as it has the higher IRR. 3) Both projects should be accepted as both of the project's IRRs exceed the crossover rate. 4) Neither project should be accepted since both of the project's IRRs exceed the crossover rate. 5) You cannot determine which project should be accepted given the information provided.

You cannot determine which project should be accepted given the information provided.

When the present value of the cash inflows exceeds the initial cost of a project, then the project should be: Answers: 1) accepted because the internal rate of return is positive. 2) accepted because the profitability index is greater than 1. 3) accepted because the profitability index is negative. 4) rejected because the internal rate of return is negative. 5) rejected because the net present value is negative.

accepted because the profitability index is greater than 1.

A project's average net income divided by its average book value is referred to as the project's average: Answers: 1) net present value. 2) internal rate of return. 3) accounting return. 4) profitability index. 5) payback period.

accounting return.

Forecasting risk emphasizes the point that the correctness of any decision to accept or reject a project is highly dependent upon the: Answers: 1) method of analysis used to make the decision. 2) initial cash outflow. 3) ability to recoup any investment in net working capital. 4) accuracy of the projected cash flows. 5) length of the project.

accuracy of the projected cash flows.

The depreciation tax shield is best defined as the: 1) amount of tax that is saved when an asset is purchased. 2) tax that is avoided when an asset is sold as salvage. 3) amount of tax that is due when an asset is sold. 4) amount of tax that is saved because of the depreciation expense. 5) amount by which the aftertax depreciation expense lowers net income.

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

Mutually exclusive projects are best defined as competing projects which: 1) would commence on the same day. 2) have the same initial start-up costs. 3) both require the total use of the same limited resource. 4) both have negative cash outflows at time zero. 5) have the same life span.

both require the total use of the same limited resource.

Danielle's is a furniture store that is considering adding appliances to its offerings. Which of the following should be considered incremental cash flows of this project? I. utilizing the credit offered by a supplier to purchase the appliance inventory II. benefiting from increased furniture sales to appliance customers III. borrowing money from a bank to fund the appliance project IV. purchasing parts for inventory to handle any appliance repairs that might be necessary Answers: 1) I and II only 2) III and IV only 3) I, II, and IV only 4) II, III, and IV only 5) I, II, III, and IV

I, II, and IV only

Which of the following are considered weaknesses in the average accounting return method of project analysis? I. exclusion of time value of money considerations II. need of a cutoff rate III. easily obtainable information for computation IV. based on accounting values Answers: 1) I only 2) I and IV only 3) II and III only 4) I, II, and IV only 5) I, II, III, and IV

I, II, and IV only

Which of the following statements are identified with financial break-even point? I. The present value of the cash inflows exactly offsets the initial cash outflow. II. The payback period is equal to the life of the project. III. The NPV is zero. IV. The discounted payback period equals the life of the project. Answers: 1) I and II only 2) I and III only 3) II and IV only 4) I, II, and III only 5) I, III, and IV only

I, III, and IV only

The operating cash flow of a cost cutting project: Answers: 1) is equal to the depreciation tax shield. 2) is equal to zero because there is no incremental sales. 3) can only be analyzed by projecting the sales and costs for a firm's entire operations. 4) includes any changes that occur in the current accounts. 5) can be positive even though there are no sales.

can be positive even though there are no sales.

The net book value of equipment will: Answers: 1) remain constant over the life of the equipment. 2) vary in response to changes in the market value. 3) decrease at a constant rate when MACRS depreciation is used. 4) increase over the taxable life of an asset. 5) decrease slower under straight-line depreciation than under MACRS.

decrease slower under straight-line depreciation than under MACRS.

The length of time a firm must wait to recoup, in present value terms, the money it has in invested in a project is referred to as the: Answers: 1) net present value period. 2) internal return period. 3) payback period. 4) discounted profitability period. 5) discounted payback period.

discounted payback period.

Which one of the following is defined as the sales level that corresponds to a zero NPV? Answers: 1) accounting break-even 2) leveraged break-even 3) marginal break-even 4) cash break-even 5) financial break-even

financial break-even

You would like to know the minimum level of sales that is needed for a project to be accepted based on its net present value. To determine that sales level you should compute the: Answers: 1) contribution margin per unit and set that margin equal to the fixed costs per unit. 2) contribution margin per unit. 3) accounting break-even point. 4) cash break-even point. 5) financial break-even point

financial break-even point.

Which one of the following best describes pro forma financial statements? Answers: 1) financial statements expressed in a foreign currency 2) financial statements where the assets are expressed as a percentage of total assets and costs are expressed as a percentage of sales 3) financial statements showing projected values for future time periods 4) financial statements expressed in real dollars, given a stated base year 5) financial statements where all accounts are expressed as a percentage of last year's values

financial statements showing projected values for future time periods

There are two distinct discount rates at which a particular project will have a zero net present value. In this situation, the project is said to: Answers: 1) have two net present value profiles. 2) have operational ambiguity. 3) create a mutually exclusive investment decision. 4) produce multiple economies of scale. 5) have multiple rates of return.

have multiple rates of return.

Scenario analysis is best suited to accomplishing which one of the following when analyzing a project? Answers: 1) determining how fixed costs affect NPV 2) estimating the residual value of fixed assets 3) identifying the potential range of reasonable outcomes 4) determining the minimal level of sales required to break-even on an accounting basis 5) determining the minimal level of sales required to break-even on a financial basis

identifying the potential range of reasonable outcomes

The operating cash flow for a project should exclude which one of the following? Answers: 1) taxes 2) variable costs 3) fixed costs 4) interest expense 5) depreciation tax shield

interest expense

Which one of the following statements related to payback and discounted payback is correct? Answers: 1) Payback is a better method of analysis than is discounted payback. 2) Discounted payback is used more frequently in business than is payback. 3) Discounted payback does not require a cutoff point like the payback method does. 4) Discounted payback is biased towards long-term projects while payback is biased towards short-term projects. 5) Payback is used more frequently even though discounted payback is a better method.

Payback is used more frequently even though discounted payback is a better method.

A company that utilizes the MACRS system of depreciation: Answers: 1) will have equal depreciation costs each year of an asset's life. 2) will have a greater tax shield in year two of a project than it would have if the firm had opted for straight-line depreciation, given the same depreciation life. 3) can depreciate the cost of land, if it so desires. 4) will expense less than the entire cost of an asset. 5) cannot expense any of the cost of a new asset during the first year of the asset's life.

will have a greater tax shield in year two of a project than it would have if the firm had opted for straight-line depreciation, given the same depreciation life.

A new molding machine is expected to produce operating cash flows of $68,000 a year for 6 years. At the beginning of the project, inventory will decrease by $14,700, accounts receivables will increase by $5,500, and accounts payable will increase by $3,200. All net working capital will be recovered at the end of the project. The initial cost of the molding machine is $279,000. The equipment will be depreciated straight-line to a zero book value over the life of the project. The equipment will be salvaged at the end of the project creating a $51,600 aftertax cash inflow. What is the net present value of this project given a required return of 13 percent? Answers: 1) $24,061.87 2) -$418.80 3) $28,336.01 4) $22,863.16 5) $7,925.54

$24,061.87

Winnebagel Corp. currently sells 28,200 motor homes per year at $42,300 each, and 11,280 luxury motor coaches per year at $79,900 each. The company wants to introduce a new portable camper to fill out its product line. It hopes to sell 19,740 of these campers per year at $11,280 each. An independent consultant has determined that if Winnebagel introduces the new campers, it should boost the sales of its existing motor homes by 4,700 units per year, and reduce the sales of its motor coaches by 1,222 units per year. What is the amount that should be used as the annual sales figure when evaluating this project? Answers: 1) $297,613,400 2) $301,002,300 3) $314,141,800 4) $323,839,400 5) $327,289,500

$323,839,400

A project will produce an operating cash flow of $31,200 a year for 7 years. The initial fixed asset investment in the project will be $204,900. The net aftertax salvage value is estimated at $62,000 and will be received during the last year of the project's life. What is the net present value of the project if the required rate of return is 11 percent? Answers: 1) -$22,627.54 2) -$28,016.66 3) $4,120.52 4) $9,070.26 5) $21,040.83

-$28,016.66

ALUM, Inc. uses high-tech equipment to produce specialized aluminum products for its customers. Each one of these machines costs $1,520,000 to purchase plus an additional $48,000 a year to operate. The machines have a five-year life after which they are worthless. What is the equivalent annual cost of one these machines if the required return is 15.5 percent? Answers: 1) -$506,819.32 2) -$427,109.10 3) -$335,803.37 4) -$295,666.67 5) -$556,947.08

-$506,819.32

Country Breads uses specialized ovens to bake its bread. One oven costs $189,000 and lasts about 7 years before it needs to be replaced. The annual operating cost per oven is $23,800. What is the equivalent annual cost of an oven if the required rate of return is 11 percent? Answers: 1) -$63,908.69 2) -$48,313.04 3) -$52,407.49 4) -$50,561.10 5) -$96,210.00

-$63,908.69

Eads Industrial Systems Company (EISC) is trying to decide between two different conveyor belt systems. System A costs $538,000, has a 4-year life, and requires $133,000 in pretax annual operating costs. System B costs $630,000, has a five-year life, and requires $102,000 in pretax annual operating costs. Both systems are to be depreciated straight-line to zero over their lives and will have a zero salvage value. Whichever system is chosen, it will not be replaced when it wears out. The tax rate is 34 percent and the discount rate is 16 percent. Which system should the firm choose and why? Answers: 1) A; The net present value is -$898,516. 2) A; The net present value is -$655,664. 3) A; The net present value is -$314,216. 4) B; The net present value is $308,222. 5) B: The net present value is -$990,696.

A; The net present value is -$655,664.

The bid price always assumes which one of the following? Answers: 1) A project has a one-year life. 2) The aftertax net income of the project is zero. 3) The net present value of the project is zero. 4) Any assets purchased will have a positive salvage value at the end of the project. 5) Assets will be depreciated based on MACRS

The net present value of the project is zero.