Fin Exam 2

Simple Interest:

interest is earned only on the original principle amount invested

Net Present Value:

is the best method of analyzing mutually exclusive projects

Which one of the following statements concerning interest rates is correct?

the effective annual rate equals the annual percentage rate when interest is compounded annually

Assume you are investing $100 today in a savings account. Which one of the following terms refers to the total value of this investment one year from now?

Future Value

Depreciation Tax Shield:

=depreciation expense * marginal tax rate

Straight-Line Depreciation:

D=(initial cost-salvage)/number of years

IRR is the return that makes...

NPV = 0

Present Value of Cash Flows:

current value of future cash flows discounted at appropriate discount rate

A perpetuity is defined as:

a limited number of equal payments paid in even time increments

Decision Rule:

accept if the payback period is less then some preset limit

If NPV is positive...

accept the project

Effective Annual Rate:

actual rate paid after accounting for compounding that occurs during the year

The interest rate that is most commonly quoted by a lender is referred to as the:

annual percentage rate

Interest Only:

call for the borrower to pay interest each period and repay entire principal

Taxes:

cash flows should be evaluated on an after tax basis

Cullen invested $5,000 five years ago and earns 6 percent annual interest. By leaving his interest earnings in her account, he increases the amount of interest he earns each year. His investment is best described as benefitting from?

compounding

Sunk Costs:

cost that have accrued in the past

Opportunity Cost:

costs of lost options (existing land or building)

After Tax Salvage:

different from book value of the asset then there is a tax effect

Annuity Due:

repeating payment that is made at the beginning of each period

Compound Interest:

earning interest on interest

Change in Net Working Capital:

increase in inventory/receivables

The stand-alone principle advocates that project analysis should be based solely on which one of the following costs?

incremental

If a firm accepts Project X it will not be feasible to also accept Project Z because both projects would require the simultaneous and exclusive use of the same piece of machinery. These projects are considered to be:

mutually exclusive

Salazar's Salads is considering two projects. Project X consists of creating an outdoor eating area on the unused portion of the restaurant's property. Project Z would instead 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

Annual Percentage Rate:

period rate times the number of periods per year

Bui Bakery has a required payback period of two years for all of its projects. Currently, the firm is analyzing two independent projects. Project X has an expected payback period of 1.4 years and a net present value of $6,100. Project Z has an expected payback period of 2.6 years with a net present value of $18,600. Which project(s) should be accepted based on the payback decision rule:

project X

Ordinary Annuity:

series of equal payments made at the end of consecutive periods over a fixed length of time

The fact that a proposed project is analyzed based on the project's incremental cash flows is the assumption behind which one of the following principles?

stand-alone principle

Which one of the following types of costs was incurred in the past and cannot be recouped?

sunk

Which one of the following statements related to the internal rate of return (IRR) is correct?

the IRR is equal to the required return when the net present value is equal to zero

Present Value:

the current value of a future sum of money or stream of cash flows given a specified rate of return

A positive NPV means...

the project is expected to add value to the firm and will therefore increase the wealth of owners

Perpetuity:

type of annuity that lasts forever

Future Value:

value of a current asset at a specified date in the future based on an assumed rate or growth

Discount Rate:

we will want to know what the implied rate is on an investment