FINA module 9

The primary purpose of capital budgeting is to:

Maximize the shareholder's wealth

What are advantages of payback period?

Measures liquidity, easy to communicate, does not require complex calculations, does not require discount rate

Projects that compete with one another so that the acceptance of one eliminates from further consideration all other projects that serve a similar function.

Mutually Exclusive

The "gold standard" of investment criteria refers to:

NPV

List steps of the capital budgeting process

1. Proposal generation 2. Review & analysis 3. Decision making 4. Implementation 5. Follow up

The Internal Rate of Return (IRR) is the discount rate that equates the NPV of an investment opportunity with $0

True

The multiple IRR problem occurs when the signs of a project's cash flows change more than once.

True

Capital rationing may be beneficial to a firm if it:

weeds out proposals with weaker or biased NPVs

It should not usually be clear whether we are describing independent or mutually exclusive projects in the following chapters because when we only describe one project then it can be assumed to be independent

False

NPV assumes intermediate cash flows are reinvested at the cost of equity, while IRR assumes that they are reinvested at the cost of capital

False

Net present value (NPV) is a sophisticated capital budgeting technique; found by adding a project's initial investment from the present value of its cash inflows discounted at a rate equal to the firm's cost of capital.

False

The disadvantages of the IRR period method is that it

Requires a lot of data (estimates of all CFs), only works for normal cash flows, requires complex calculations

Which of the following statements is correct for a project with a negative NPV?

The cost of capital exceeds the IRR