Finance Chapter 6

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

ignored

What are the two sets of accounting books?

shareholders' books and tax books

When selling an asset, one must pay taxes on

the difference between the assets sales price and book value

Real interest rate=

(1+Nominal interest rate/1+inflation rate) - 1

Investment in NWC arises when

-credit sales are made -inventory is purchased -cash is kept for unexpected expenditures

Nominal cash flow

Actual dollars to be received or paid out.

Salvage Value

An estimate of an asset's value at the end of its useful life.

T/F: Sunk costs are incremental cash flows

False

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

Increase; Depreciation decreases taxes paid, thus increasing cash inflow

Allocated Costs

Incremental cash outflows divided amongst several projects from expenditures.

Approximate formula for real interest rate

Nominal interest rate - inflation rate

Synergy

Occurs when a new product increases the cash flows of existing products. i.e. Shaving supplies losing money on a new razor, however increase in sales make the new razor an overall winner.

Erosion

Occurs when a new products reduces the sales and hence, the cash flows of existing products. i.e. Disney Land Paris draining visits from the Florida parks.

opportunity cost

The loss of revenue created by using an existing asset within your business for a new project. It is considered a cost because the firm foregoes other opportunities by using the asset.

T/F: NPV will remain the same weather real or nominal cash flows are used

True

When is the approximate formula for real interest rate appropriate?

When interest rate and inflation rate is low

Sunk Costs

costs that have already been incurred and cannot be recovered.

Net Working Capital

defined as current assets minus current liabilities

Real cash flow

refers to the cash flow's purchasing power