Chapter 6 Financial Policies

Real Interest Rate =

((1 + Nominal Interest Rate) / (1 + Inflation Rate)) - 1

What is the equation for estimating operating cash flows using the tax shield approach?

(Sales - Costs) * (1 - Tax Rate) + Depreciation * Tax Rate

Three main sources of Cash Flows for a project:

*Cash flows from investment at the beginning of a project *Net Cash Flows over the life of a project *Net Cash Flows from the salvage value of a project

Which of the following are true regarding allocated costs?

*These costs are allocated to more than one project *These costs benefit more than one project

Real Interest Rate =

Nominal Interest Rate - Inflation Rate

What is the difference between nominal cash flow and real cash flow?

Nominal cash flow is the actual dollars to be received. Real cash flow refers to the cash flows purchasing power

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

OCF = Sales - Cash Costs - Taxes

What are the two sets of accounting books?

Shareholder's books, Tax books

Incremental cash flows of a projects are changes in a firm's cash flows that occur as a direct consequence of

accepting a project

The NPV technique does not discount earnings because earnings ...

do not represent real money

Interest on municipal bonds is ...

ignored for tax purposes but included as income for FASB accounting

If the inflation rate increases, the nominal rate of interest will...

increase

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

lives

The difference between a firms current assets and current liabilities is known as the ...

net working capital

Allocated costs must be treated as relevant or incremental costs when...

only if the costs being allocated are affected by the proposed project

As a general rule, when estimating equivalent annual costs, ... cash flows should be used

real

Erosion will ... the sales of existing products

reduce

It is appropriate to use the approximate formula for estimating real interest when:

the interest rate and inflation rates are low