Finance final
What is the NPV of a project that costs $100,000.00 and returns $50,000.00 annually for three years if the opportunity cost of capital is 6.6%?
-100000 + 50000/(1+0.066) + 50000/(1+0.066)^2 + 50000/(1+0.066)^3 -100000+ 46904.3151 +44000.2956+ 41276.0747 = 32180.6854
The investment decision
invest in assets that earn a return greater than the minimum acceptable hurdle rate
Identify which of these are the relevant cash flows when considering a capital budgeting project. test marketing costs fraction of CEO salary lost rent from retail facility remodeling expenses for new store increase in inventory expected salvage value of manufacturing equipment
lost rent from retail facility remodeling expenses for new store increase in inventory expected salvage value of manufacturing equipment
The primary purpose of capital budgeting is to: maximize the firm's profit. minimize the firm's costs. maximize the shareholders' wealth. maximize the budget.
maximize the shareholders' wealth.
In theory, a firm should maintain financial leverage consistent with a capital structure that maximizes dividends meets the industry standards maximizes the owner's wealth meets the investor expectations
maximizes the owner's wealth
The Internal Rate of Return (IRR) is the discount rate that equates the NPV of an investment opportunity with $0 True False
true
The multiple IRR problem occurs when the signs of a project's cash flows change more than once. True False
true
Capital rationing may be beneficial to a firm if it: allows managers to select their favorite projects. weeds out proposals with weaker or biased NPVs. increases funds to be used for other purposes reduces a firm's interest expense
weeds out proposals with weaker or biased NPVs.
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. True False
False
The financing decision
Find the right kind of debt for your firm and the right mix of debt and equity to fund your operations
According to the article, "Sunk cost fallacy: Throwing good money after bad," how can banks limit losses from bad loans? reduce provisions for non-perfomring loans make fewer loans to businesses increase bank executive turnover No answer text provided.
increase bank executive turnover
Generally, increases in leverage result in______________ return and _____________________ risk. decreased; decreased increased; increased increased; decreased decreased; increased
increased; increased
Mavericks Cosmetics buys $3,276,921 of product (net of discounts) on terms of 6/10, net 60, and it currently pays on the 10th day and takes discounts. Mavericks plans to expand, and this will require additional financing. If Mavericks decides to forego discounts, what would the effective percentage cost of its trade credit be, based on a 365-day year? Answer in % terms to 2 decimal places.
1+(.06/1-.06)]^(365/10)-1=1.06^36.5-1=8.5683=856.83
What is the profitability index for Project A with a cost of capital of 8%? YearProject AProject B0($42,000.00)($45,000.00)1$14,000.00$28,000.002$14,000.00$12,000.003$14,000.00$10,000.004$14,000.00$10,000.005$14,000.00$10,000.00
1.33Value of cash inflows at the present=( (14000/1.08)+(14000/ (1.08)^2+(14000/(1.08)^3+(14000/(1.08)^4+(14000/(1.08)^5)= (12962.96+ 12002.74+11113.65+10290.41+9528.16)= 55898 (Approx)Net value of cash outflow at the beginning =42000Profitability index=[present value of future inflows / initial outflows]=[55898/42000]=1.33
Aero Motorcycles is considering opening a new manufacturing facility in Fort Worth to meet demand for a new line of solar charged motorcycles (who wants to ride on a cloudy day anyway?) The proposed project has the following features; • The firm just spent $300,000 for marketing study to determine consumer demand (@t=0). • Aero Motorcycles purchased the land the factory will be built on 5 years ago for$2,000,000 and owns it outright (that is, it does not have a mortgage). The land has a current market value of $2,600,000. • The project has an initial cost of$23,515,320 (excluding land, hint: land is not subject to depreciation). • If the project is undertaken, the company will realize an additional $8,000,000 in sales over each of the next ten years. (i.e. sales in each year are $8,000,000) • The company's operating cost (notincluding depreciation) will equal 50% of sales. • The company's tax rate is 35 percent. • Use a 10-year straight-line depreciation schedule. • At t = 10, the project is expected to cease being economically viable and the factory(including land) will be sold for $4,500,000(assume land has a book value equal to the original purchase price). • The project's WACC = 10 percent • Assume the firm is profitable and able to use any tax credits (i.e. negative taxes) .0 What is the project's outflow at t=0? Answer to the nearest whole dollar value.
26,115,320
What is the net effect on a firm's working capital if a new project requires: $48,182 increase in inventory, $45,033 increase in accounts receivable, $35,000.00 increase in machinery, and a $45,985 increase in accounts payable? Round to nearest dollar amount.
47,230
Which of the following changes, if of a sufficient magnitude, could turn a negative NPV project into a positive NPV project? A decrease in the estimated annual sales An increase in the discount rate An increase in the initial investment A decrease in the fixed costs
A decrease in the fixed costs
You are considering the following three mutually exclusive projects. The required rate of return for all three projects is 14%. Year A B C 0 $ (1,000) $(5,000) $(50,000) 1 $ 300 $ 1,700 $ 0 2 $300 $ 1,700 $15,000 3 $ 600 $1,700 $ 28,500 4 $300 $1,700 $ 33,000 What is the IRR of the best project? % terms to 2 decimal places w/o % sign
A:Present value of inflows=cash inflow*Present value of discounting factor(rate%,time period)=300/1.14+300/1.14^2+600/1.14^3+300/1.14^4=1076.61NPV=Present value of inflows-Present value of outflows=1076.61-1000=$76.61(Approx)B:Present value of inflows=cash inflow*Present value of discounting factor(rate%,time period)=1700/1.14+1700/1.14^2+1700/1.14^3+1700/1.14^4=4953.31NPV=Present value of inflows-Present value of outflows=4953.31-5000=-46.69(Approx)(Negative)C:Present value of inflows=cash inflow*Present value of discounting factor(rate%,time period)=15000/1.14^2+28500/1.14^3+33000/1.14^4=50317.35NPV=Present value of inflows-Present value of outflows=50317.35-50000=$317.35(Approx)Hence C is the best project having highest NPV.Let irr be x%At irr,present value of inflows=present value of outflows.50,000=15000/1.0x^2+28500/1.0x^3+33000/1.0x^4Hence x=irr=14.23(Approx)14.23
A corporation is contemplating an expansion project. The CFO plans to calculate the project's NPV by discounting the relevant cash flows (which include the initial up-front costs, the operating cash flows, and the terminal cash flows) at the corporation's cost of capital (WACC). Which of the following factors should the CFO include when estimating the relevant cash flows? Any sunk costs associated with the project. Any interest expenses associated with the project. Any opportunity costs associated with the project. All past costs associated with the oringinal project.
Any opportunity costs associated with the project.
Carlisle Transport had $4,827 cash at the beginning of the period. During the period, the firm collected $1,703 in receivables, paid $2,046 to supplier, had credit sales of $5,021, and incurred cash expenses of $500. What was the cash balance at the end of the period?
Cash Balance= Beginning cash+A/R-Paid Supplier-Cash Expense:4,827+1,703-2,046-500=3984 don't include credit sales.
Libscomb Technologies' annual sales are $5,474,941 and all sales are made on credit, it purchases $3,496,509 of materials each year (and this is its cost of goods sold). Libscomb also has $546,441 of inventory, $485,834 of accounts receivable, and beginning and ending of year $442,166 and $483,633 accounts payables (respectively). Assume a 365 day year. What is Libscomb's Cash Cycle (in days)?
Cash Cycle (in days)=Inventory period + Receivables period -Payable Period Step 1: Find inventory turnover= cogs/inventory=3,496,509/546,441=6.3986 Step 2: Find Inventory Period=365/receivables turnover= 365/6.3986=57.0437 Step 3: Find Receivables turnover= sales/receivables=5,474,941/485,834=11.2691 Step 3: Find Receivables Period= 365/receivables turnover=365/11.2691=32.3894 Step 4: Find Averagae A/P=(beg+end)/2=(442,166+483,633)/2=462899.5 Step 5: Find Payable turnover=cogs/average ap=3,496,509/462899.5=7.5534 Step 6: Find Payable Period= 365/payable turnover=365/7.5534=48.3226 Step 7: Find Cash Cycle=Inventory period + Receivable period - Payable period= 57.0437+32.3894-48.3226=41.1105
Libscomb Technologies' annual sales are $5,474,941 and all sales are made on credit, it purchases $3,496,509 of materials each year (and this is its cost of goods sold). Libscomb also has $546,441 of inventory, $485,834 of accounts receivable, and beginning and ending of year $442,166 and $483,633 accounts payables (respectively). Assume a 365 day year. What is Libscomb's Cash Cycle (in days)?
Cash Cycle (in days)=Inventory period + Receivables period -Payable PeriodStep 1: Find inventory turnover= cogs/inventory=3,496,509/546,441=6.3986 Step 2: Find Inventory Period=365/receivables turnover= 365/6.3986 =57.0437 Step 3: Find Receivables turnover= sales/receivables=5,474,941/485,834=11.2691 Step 3: Find Receivables Period= 365/receivables turnover=365/11.2691= 32.3894 Step 4: Find Averagae A/P=(beg+end)/2=(442,166+483,633)/2=462899.5 Step 5: Find Payable turnover=cogs/average ap=3,496,509/462899.5=7.5534 Step 6: Find Payable Period= 365/payable turnover=365/7.5534=48.3226 Step 7: Find Cash Cycle=Inventory period + Receivable period - Payable period= 57.0437 +32.3894-48.3226=
What are advantages of payback period? Does not require complex calculations Does not require all CFs, Does not fully adjust for TVM Measures Liquidity, Easy to communicate Does not require discount rate
Does not require complex calculations Measures Liquidity, Easy to communicate Does not require discount rate
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 True False
False
The dividend decision
If you can't find investments that make your minimum acceptable rate, return the cash to owners of your business
Libscomb Technologies' annual sales are $6,866,205 and all sales are made on credit, it purchases $4,003,732 of materials each year (and this is its cost of goods sold). Libscomb also has $565,920 of inventory, $500,324 of accounts receivable, and $456,171 of accounts payable. Assume a 365 day year. What is Libscomb's Inventory Period (in days)?
Inventory Period(in days)?=365/ Inventory turnover Step 1: Find Inventory Turnover: Cogs/inventory: 4,003,732/565,920= 7.0747 Step 2: Find Inventory Period: 365/inventory period: 365/7.0747 =51.59 one decimal place.
Libscomb Technologies' annual sales are $5,195,486 and all sales are made on credit, it purchases $3,797,163 of materials each year (and this is its cost of goods sold). Libscomb also has $515,956 of inventory, $534,254 of accounts receivable, and $420,437 of accounts payable. Assume a 365 day year. What is Libscomb's Inventory Turnover?
Inventory turnover=cost of goods sold "material" /inventory Step 1: 3,797,163/515,956= two decimal places
____________________ results from the use of fixed - cost assets or funds to magnify returns to a firm's owners. Long - term debt Leverage Equity Capital structure
Leverage
Projects that compete with one another so that the acceptance of one eliminates from further consideration all other projects that serve a similar function. Dependent Indepedent Mutally Inclusive Mutually Exclusive
Mutually Exclusive
The "gold standard" of investment criteria refers to: Payback Period IRR EVA Profitabilty Index NPV
NPV
Mahrouq Technologies buys $16,069,272 of materials (net of discounts) on terms of 4/30, net 60, and it currently pays within 30 days and takes discounts. Mahrouq plans to expand, and this will require additional financing. If Mahrouq decides to forego discounts and thus to obtain additional credit from its suppliers, calculate the nominal cost of that credit. Answer in % terms to 2 decimal places (no % sign).
Nominal Rate=(discount/1-discount) * (365/discount period)(0.04/1-0.04)*(365/30)(0.04/0.96)*(365/30)=0.5069*100 to conver it to percentage=50.69
The disadvantages of the IRR period method is that it Only works for normal cash flows Requires a lot of data (estimates of all CFs) Requires complex calculations Does not require a discount rate (for calculation) Adjusts for TVM and therefore risk (in comparing to hurdle rate that adjusts for risk)
Only works for normal cash flows Requires a lot of data (estimates of all CFs) Requires complex calculations
Libscomb Technologies' annual sales are $6,283,181 and all sales are made on credit, it purchases $4,321,249 of materials each year (and this is its cost of goods sold). Libscomb also has $532,433 of inventory, $538,208 of accounts receivable, and $499,704 of accounts payable. Assume a 365 day year. What is Libscomb's Operating Cycle (in days)?
Operating cycle=Inventory Period + Accounts receivables PeriodStep 1: Find Inventory Turnover= cogs/inventory=4,321,249/532,433= 8.1160 Step 2: Find Inventory Period= 365/inventory turnover= 365/7.160051= 44.9728 Step 2: Find Receivables Turnover= sales/receivables 6,283,181/538,208= 11.6742 Step 3: Find Receivables Period= 365/receivables turnover365/11.6742 =31.2655 Step 4: Find Operating Cycle= Inventory period + Receivables period= 50.977291+34.326281=85.30 two decimal places
Libscomb Technologies' annual sales are $5,385,599 and all sales are made on credit, it purchases $3,361,771 of materials each year (and this is its cost of goods sold). Libscomb also has $538,848 of inventory, $544,153 of accounts receivable, and $481,968 of accounts payable. Assume a 365 day year. What is Libscomb's Receivables Turnover?
Receivables Turnover=Sales/Accounts Receivables Step 1: sales/AR: 5,385,599/544,153=9.8972 two decimal places
NPV assumes intermediate cash flows are reinvested at the cost of equity, while IRR assumes that they are reinvested at the cost of capital True False
false
Libscomb Technologies' annual sales are $5,973,003 and all sales are made on credit, it purchases $3,272,153 of materials each year (and this is its cost of goods sold). Libscomb also has $518,410 of inventory, $1,475,000 of accounts receivable, and $1,400,000 of accounts payable. Assume a 365 day year. What is Libscomb's Receivables Period (in days)?
Receivables period= 365/ Receivables Turnover Step 1: Find Receivables Turnover: sales/accounts receivables5,973,003/1,475,000= 4.0494 Step 2: Find Receivables Period: 365/receivables turnover=365/4.0494 =90.1368 two decimal places.
List steps of the capital budgeting process
Step 1 Proposal generation Step 2 Review and analysis Step 3 Decision making Step 4 Implementation Step 5 Follow-up
All sales are credit sales with 40% collected in the month of sale, 50% collected the following month, and the remainder collected in the second month after the sale. Credit purchases are paid in 30 days and all other items require immediate payment. Compute the net cash inflow for March.
Step 1: Find Cash Receipts:March Sales 421,403(40%)+ Feb Sales 379,000(50%)+Jan Sales 352,000(10%) *the remaining of 40% and 50% is 10%=393,261 Cash March Step 2: Calculate Net Cash Inflows for March Cash March: 393,261Cash Expense March -94,000Tax,int,div March -41,000Capital expen March -25,000= -6,738,80 Net cash inflow March.
The degree of operating leverage has which of the following characteristics? The closer the firm is operating to breakeven quantity, the smaller the DOL. A change in quantity demanded will produce the same percentage change in EBIT as an identical change in price per unit of output, other things held constant. The DOL is not a fixed number for a given firm, but will depend upon the time zero values of the economic variables Q (Quantity), P (Price), and V (Volume). The DOL relates the change in sales to the change in net operating income. If the firm has no debt, the DOL will equal 1.
The DOL relates the change in sales to the change in net operating income.
Which of the following statements is correct for a project with a negative NPV? Accepting the project has an indeterminate effect on shareholders. IRR exceeds the cost of capital. The discount rate exceeds the cost of capital. The cost of capital exceeds the IRR
The cost of capital exceeds the IRR
Which of the following statements is correct? The degree of operating leverage (DOL) depends on a company's fixed costs, variable costs, and sales. The DOL formula assumes (1) that fixed costs are constant and (2) that variable costs are a constant proportion of sales. The degree of total leverage (DTL) is equal to the DOL plus the degree of financial leverage (DFL). Arithmetically, financial leverage and operating leverage offset one another so as to keep the degree of total leverage constant. Therefore, the formula shows that the greater the degree of financial leverage, the smaller the degree of operating leverage. For a given change in sales, the corresponding percentage change in net income could be more or less than the percentage change in operating income. The degree of total leverage (DTL) is equal to the DFL divided by the degree of operating leverage (DOL).
The degree of operating leverage (DOL) depends on a company's fixed costs, variable costs, and sales. The DOL formula assumes (1) that fixed costs are constant and (2) that variable costs are a constant proportion of sales.
Jon Stevens, BNSF Vice President and Controller describes the capital spending process primarily as a means to ensure regulatory compliance necessary to maintain volume capacity a balancing act that requires careful evaluation of the costs and benefits of each project
a means to ensure regulatory compliance a balancing act that requires careful evaluation of the costs and benefits of each project
The multiple IRR problem occurs when the signs of a project's cash flows change more than once. True False
True
What is the internal rate of return for a project with an initial outlay of $10,000 that is expected to generate cash flows of $2,000 per year for 6 years?
Using a financial calculator:n = 6; PV = −$10,000; PMT = $,2000; FV = 0; CPT i = 5.47
If a 20% reduction in forecast sales would not extinguish a project's profitability, then sensitivity analysis would suggest: that the initial sales forecasts were inflated. deemphasizing that variable as a critical factor. requiring a more detailed sales forecast. reallocating fixed costs to this product.
deemphasizing that variable as a critical factor.
What types of analyses do the BNSF strategic studies team conduct? experimental operational discounted cash flow sensitivity
discounted cash flow sensitivity
What types of projects does the BNSF strategic studies team evaluate? mandatory critical discretionary regulated
discretionary
Compute the payback period for a project that requires an initial outlay of $297,771 that is expected to generate $40,000 per year for 9 years.
payback period= year before payback period occurs+ (amount to be recovered/ cash inflow of the year) year before payback occurs [40,000(5)= 200,000] amount to be recovered [231091-200000=31091] cashflow= [40000] payback period=5+31091/40000=5.78
