Chapter 5: Fina 5170

positive; negative

For "normal" cash flows (the outflows occur before the inflows), the NPV is ______ if the discount rate is less than the IRR, and it is ______ if the discount rate is greater than the IRR.

more

Higher cash flows earlier in a project's life are ______ valuable than higher cash flows later on.

An increase in the size of the first cash inflow will decrease the payback period, all else held constant.

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.

accept the project

If the IRR is greater than the opportunity cost of capital, we should ___.

Present Value

In capital budgeting, the net ______ is the value of a project to the company.

cash flows

In capital budgeting, the net present value is the value of a project's ______ to the company.

may have multiple rates of return

A project with an initial cash outflow followed by a cash inflow and then a cash outflow ____.

reject; less accept; greater

According to the basic IRR rule, we should ____ a project if the IRR is ____ than the opportunity cost of capital.

rationing

Capital ______ occurs when a firm doesn't have enough capital to fund all its positive NPV projects.

limit their investments.

Capital rationing requires a company to:

not considered in the analysis

One of the flaws of the payback period method is that cash flows after the cutoff date are ___.

discount rate

The IRR is the _________ that makes the NPV of a project equal to zero.

zero

The IRR is the discount rate that makes the NPV of a project equal to ______.

Payback

The ______ method differs from NPV because it evaluates a project by determining the time needed to recoup the initial investment.

opportunity cost to the investor & risk of the project

The discount rate assigned to a project reflects the ____.

a project's cash flows

The internal rate of return is a function of ____.

Internal Rate of Return

The most important alternative to NPV is the ______ method.

incorrect decisions

The payback period can lead to _____________ because it ignores cash flows after the cutoff date.

ignores cash flows after the cutoff date

The payback period can lead to incorrect decisions because it ____.

rejects

The payback rule ______ a project if it has a payback period that is greater than a particular cutoff date.

accepts

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

True

True or false: A project with an initial cash outflow followed by a cash inflow has an NPV that is negatively related to the discount rate.

False

True or false: A project with an initial cash outflow followed by a cash inflow has an NPV that is positively related to the discount rate.

False

True or false: Investing more money in a project is a guarantee of greater profits.

True

True or false: The scale of a project can be an issue with IRR when choosing between mutually exclusive projects.

False

True or false: The scale of a project is never a concern when using IRR.

True

True or false: Two challenges with the IRR approach when comparing two projects are scale and differing cash flow patterns over time.

comparing the NPVs of the two projects. comparing the incremental IRR to the discount rate.

Two mutually exclusive projects can be evaluated by:

9.70%

What is the IRR for a project with an initial investment of $250 and subsequent cash inflows of $100 per year for 3 years?

1.91 Reason: Profitability index = −$30+($80/1.12)+($20/1.254)/$30 = 1.91

What is the profitability index for a project with an initial investment of $30 and subsequent cash inflows of $80 in Year 1 and $20 in Year 2 if the discount rate is 12 percent?

Negative

When an initial cash outflow is followed by cash inflows, NPV is ______ if the opportunity cost of capital is greater than the IRR.

negative when the opportunity cost of capital is greater than the IRR. equal to zero when the opportunity cost of capital equals the IRR. positive when the opportunity cost of capital is less than the IRR.

When an initial cash outflow is followed by cash inflows, NPV is:

Accept if NPV is greater than zero. Reject if IRR is less than market rate of financing.

Which of the following are true for a project with a negative initial cash flow followed by positive cash flows?

Cash flows received after the payback period are ignored. & It gives equal weight to all cash flows before the cutoff date.

Which of the following are weaknesses of the payback method?

Accept if NPV is greater than zero.

Which of the following is true for a project with a negative initial cash flow followed by positive cash flows?

discount, NPV, IRR

You must know the _________ rate to compute _______, while the discount rate is necessary to apply ______.