FIN: Ch 10 Making Capital Investment Decisions

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

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

Accounts receivable and accounts payable are not an issue with project cash flow estimation unless changes in ________________ are overlooked.

Net working capital

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 a s vacation or paying off a debt.

Opportunity Cost

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

1986 Tax Reform Act

Investment in net working capital arises when ___________.

- Cash is kept for unexpected expenditures - Inventory is purchased - Credit sales are made

Which of the following are fixed costs?

- Cost of equipment - Rent on a production facility

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.

When developing cash flows for capital budgeting, it is ____ to overlook important terms.

Easy

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?

Server Y 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)

Which of the following is an example of a sunk cost?

Test marketing expenses

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

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

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

OCF = Sales - Costs - Taxes

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

ignored

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

increase

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

lives

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

after-tax

Erosion will ________ the sales of existing products.

reduce

Opportunity costs are classified as ___________ costs in project analysis.

relevant

The first step in estimating cash flow is 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

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

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

If a firm's current assets are $150,000, its total assets are $320,000, and its current liabilities are $80,000, what is its net working capital?

$70,000 Answer: $150,000 - $80,000=

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

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

- Cash outflows from investment in plant and equipment at the inception of the project - Net cash flows are sales and expenses over the life of the project - Net cash flows from salvage value at the end of the project

Operating cash flow is a function of:

- Depreciation - Taxes - Earnings Before Interest and Taxes

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

- Payback period - IRR - NPV

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

- Taxes are based on the difference between the book value and sales price - There will be a tax savings if the book value exceeds the sales price - Book value represents the purchase minus the accumulated depreciation

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

- There is an additional depreciation deduction - The decrease in costs increases operating income

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

- beneficial spillover effects - erosion effects

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

False

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

Winner's curse

Incremental cash flows come about as an _________ consequence of taking a project under consideration.

Direct