CH 10 - Making Capital Decisions (Fin Mngmt)

Which of the following are considered relevant cash flows (3)?

Cash flows from opportunity costs, erosion effects, CFs from beneficial spillover effects.

According to the bottom-up approach, what is the OCF if EBIT is $600, depr. is $1,800 and the tax rate is 30%?

$2,200 Net Income = EBIT -Taxes Bottom-Up Approach is: (NI) + Depr. (600 - 180) + 1800

Which of the following are considered relevant cash flows? Cash flows from: * erosion * beneficial spillover effects * opportunity costs * sunk costs

* erosion * beneficial spillover effects * opportunity costs

When operating cost-cutting proposals, how are operating cash flows affected?

- there is an additional depreciation deduction - the decrease in costs increase the operating income.

Operating cash flow is a function of (3):

Depreciation, EBIT, Taxes

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

after-tax

Erosion will ______ the sales of existing products.

reduce

If the tax rate increases, the value of the depreciation tax shield will _________.

Increase also. The relationship between the depreciation tax sheild and the tax rate is multiplicative.

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

NWC (net working capital)

Operating cash flow is a function of:

OCF = EBIT + Depr - Taxes

Investment in NWC arises when ________. Check all that apply: * cash is kept for unexpected expenditures * inventory is purchased * credit sales are made * equipment is purchased

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

Investment in NWC arises when ___________.

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

What is the depreciation tax shield if the EBT is $600, depreciation is $1,800, and the tax rate is 30%?

Depr. Tax Sheild = Depr. X Tax Rate = $1800 X 30% = $540

True or False: A sunk cost is an example of a relevant incremental cash flow.

False

Palmer Corp is choosing between server X and server Y to replace its current equipment. It has gathered the following information: Server Est Life NPV X 2 years ($143,261) Y 3 years ($203,229) If Palmer's required rate of return is 8%, which server should it choose?

Pick Server Y (see below) Server X: n = 2 i = 8 PV = -143,261 PMT = ?? ($80,336.36) Server Y: n = 3 i = 8 PV = -203,229 PMT = ?? ($78,859.66)

A/R and A/P are not an issue with project cash flow estimation unless changes in _________ are overlooked.

NWC

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

OCF = (sales - costs) X (1- Tax rate) + (Depr. X Tax rate)

What is the equation for estimating operating cash flows using top-down approach?

OCF = Sales - Costs - Taxes

Opportunity costs are classified as _________ costs in project analysis. * sunk * irrelevant * relevant * intangible

Relevant

When analyzing a project, sunk costs ________ incremental cash outflows. * are * are not

are not

An increase in depreciation expense will ______ cash flows from operations.

increase

The first step in estimating cash flows to determine the ____________ cash flows.

relevant

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

Which of the following statements regarding the relationship between book value, sales price, and taxes are true when a firm sells a fixed asset?

* BV represents the purchase price minus the accumulated depreciation * Taxes are based on the difference between the book value and the sales price. *There will be a tax savings if the BV exceeds the sales price (MV).

Identify the three main sources of cash flows over the life of a typical project:

* Net cash flows from salvage value at the end of project * Net cash flows from sales and expenses over the life of the project * Cash outflows from investments in P&E at the inception of the project

Among the three main sources of cash flow, which source of cash flow is the most important and also the most difficult to forecast? * salvage value of the project * costs incurred at inception * sunk costs incurredd before inception * OCF from net sales over the life of project

* OCF from net sales over the life of project

Which of the following are fixed costs? * inventory costs * cost of equipment * NWC * rent on production facility

- cost of equipment - rent on a production facility

According to the top-down approach, what is the operating cash flow if sales are $200,000, total cash costs are $190,636, and the tax bill is $1,144?

$8,220 Top-down Approach: Sales - Costs - Taxes (200,000 - 190,636 - 1,144) = $8,220

Which of the following correctly describes the relationship between depreciation, income, taxes, and investment cash flows?

As depreciation expenses increase, net income and taxes will decrease, while cash flows will increase.

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

IRR, payback period, NPV

Opportunity costs are:

benefits lost due to taking on a particular project.

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

direct

Interest expenses incurred on debt financing are ________ when computing cash flows from a project.

ignored

The computation of equivalent annual costs is useful when comparing projects with unequal __________.

lives (for example, when you are comparing two similar machines for the same purpose but one has a shorter life and is cheaper and the other is more expensive with a longer life).

Korporate Classics Corp (KCC) won a bid to supply widgets to Pacer Corp but lost money on the deal becasue they underbid the project. KCC fell victim to the:

winner's curse

Which of the following is an example of a sunk cost? * Bonus to Mngmt * Cost of equipment * Salvage value of equipment * Test marketing expenses

Test marketing expenses

When developing cash flows capital budgeting, it is ____________ to overlook important items.

easy

The rules for depreciating assets for tax purposes are based upon the provisions in the ____________. * 1986 Tax Reform Act * 1986 SEC Act * 1986 Sarbanes-Oxley Act * 1986 IRS Act

* 1986 Tax Reform Act

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

after-tax

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

erosion and beneficial spillover effects

Using your personal savings to invest in your business is considered to have an __________ ___________ because you are giving up the use of these funds for other investments or uses, such as a vacation or paying off a debt.

opportunity cost