Homework 12
Which one of the following indicates that a project is definitely acceptable? A. Profitability index greater than 1.0 B. Negative net present value C. Modified internal rate return that is lower than the requirement D. Zero internal rate of return E. Positive average accounting return
A. Profitability index greater than 1.0
The net present value: A. decreases as the required rate of return increases. B. is equal to the initial investment when the internal rate of return is equal to the required return. C. method of analysis cannot be applied to mutually exclusive projects. D. is directly related to the discount rate. E. is unaffected by the timing of an investment's cash flows.
A. decreases as the required rate of return increases.
The profitability index reflects the value created per dollar: A. invested. B. of sales. C. of net income. D. of taxable income. E. of shareholders' equity.
A. invested.
T.L.C., Inc. is considering an investment with an initial cost of $175,000 that would be depreciated straight line to a zero book value over the life of the project. The cash inflows generated by the project are estimated at $76,000 for the first two years and $30,000 for the following two years. What is the internal rate of return? A. 9.27 percent B. 9.98 percent C. 10.62 percent D. 10.79 percent E. 11.58 percent
B. 9.98 percent
Internal rate of return is the capital budgeting methodology viewed by most academicians as the theoretically best model for project acceptance or rejection.
False Net present value is viewed as the best theoretically as it provides the value added to the firm.
Curtis is considering a project with cash inflows of $918, $867, $528, and $310 over the next four years, respectively. The relevant discount rate is 11 percent. What is the net present value of this project if it the start up cost is $2,100? A. $20.98 B. $46.48 C. $52.14 D. $74.22 E. $80.81
A. $20.98
What is the net present value of the following set of cash flows at a discount rate of 7 percent? At 20 Percent? Time Period Cash Flow 0 -$17,000 1 4,500 2 8,700 3 11,900 A. $4,518.47; $628.30 B. $4,518.47; -$321.76 C. $4,518.47; -$525.13 D. $4,722.09; $504.21 E. $4,722.09; -$418.05
B. $4,518.47; -$321.76
What is the net present value of a project with the following cash flows if the discount rate is 17 percent? Year Cash Flow 0 -$59,200 1 21,600 2 28,300 3 14,400 4 7,200 A. -$8,406.11 B. -$7,231.71 C. -$3,089.16 D. $1,407.92 E. $3,508.01
B. -$7,231.71
A project has the following cash flows: C0 = -100,000; C1 = 50,000; C2 = 150,000; C3 = 100,000. If the discount rate changes from 12% to 15%, what is the change in the NPV of the project (approximately)? A. 12,750 increase B. 12,750 decrease C. 122,650 increase D. No change E. 135,400 decrease
B. 12,750 decrease NPV at 12% = 135,400, NPV at 15% = 122,650. Change = 135, 410 - 122,650 = 12,750
Which one of the following is the primary advantage of payback analysis? A. Incorporation of the time value of money concept B. Ease of use C. Research and development bias D. Arbitrary cutoff point E. Long-term bias
B. Ease of use
Charles Henri is considering investing $36,000 in a project that is expected to provide him with cash inflows of $12,000 in each of the first two years and $18,000 for the following year. At a discount rate of zero percent this investment has a net present value of _____, but at the relevant discount rate of 17 percent the project's net present value is _____. A. $0; -$5,739 B. $0; -$3,406 C. $6,000; -$5,739 D. $6,000; -$3,406 E. $6,000; $1,897
C. $6,000; -$5,739
Which one of the following methods of analysis is most appropriate to use when two investments are mutually exclusive? A. Internal rate of return B. Profitability index C. Net present value D. Modified internal rate of return E. Average accounting return
C. Net present value
Which one of the following indicates that a project is expected to create value for its owners? A. Profitability index less than 1.0 B. Payback period greater than the requirement C. Positive net present value D. Positive average accounting rate of return E. Internal rate of return that is less than the requirement
C. Positive net present value
Which one of the following statements is correct? A. If the IRR exceeds the required return, the profitability index will be less than 1.0. B. The profitability index will be greater than 1.0 when the net present value is negative. C. When the internal rate of return is greater than the required return, the net present value is positive. D. Projects with conventional cash flows have multiple internal rates of return. E. If two projects are mutually exclusive, you should select the project with the shortest payback period.
C. When the internal rate of return is greater than the required return, the net present value is positive.
A firm is reviewing a project that has an initial cost of $71,000. The project will produce annual cash inflows, starting with year 1, of $8,000, $13,400, $18,600, $33,100 and finally in year five, $37,900. What is the profitability index if the discount rate is 11 percent? A. 0.92 B. 0.98 C. 1.02 D. 1.07 E. 1.12
D. 1.07
A project has the following cash flows. What is the internal rate of return? Year Cash Flow 0 -$ 92,400 1 36,100 2 59,900 3 21,300 A. 12.21 percent B. 12.47 percent C. 13.46 percent D. 13.82 percent E. 14.19 percent
D. 13.82 percent The IRR is defined as the interest rate that makes the NPV = 0
A project has the following cash flows. What is the payback period? Year Cash Flow 0 -$46,000 1 13,500 2 22,900 3 8,400 4 5,600 A. 2.48 years B. 2.59 years C. 2.96 years D. 3.21 years E. 3.43 years
D. 3.21 years Payback = 3 + ($46,000 - $13,500 - $22,900 - $8,400)/$5,600 = 3.21 years
What is the discounted payback period for a project with the following cash flows, if the interest rate is 5%? Year Cash Flow 0 -$ 58,700 1 19,600 2 22,300 3 14,800 4 11,600 A. 2.56 years B. 2.89 years C. 3.17 years D. 3.74 years E. never
D. 3.74 years
You are considering an investment for which you require a 14 percent rate of return. The investment costs $58,900 and will produce cash inflows of $25,000 for 3 years. Should you accept this project based on its internal rate of return? Why or why not? A. Yes; because the IRR is 13.13 percent B. Yes; because the IRR is 13.65 percent C. Yes; because the IRR is 13.67 percent D. No; because the IRR is 13.13 percent E. No; because the IRR is 13.65 percent
D. No; because the IRR is 13.13 percent
Which one of the following methods of analysis ignores the time value of money? A. Net present value B. Internal rate of return C. Discounted cash flow analysis D. Payback E. Profitability index
D. Payback
You are considering the following two mutually exclusive projects. The required return on each project is 14 percent. Which project should you accept and what is the best reason for that decision? Year Project A Project B 0 -$46,000 -$46,000 1 25,000 11,000 2 18,000 19,000 3 16,000 32,000 A. Project A; because it pays back faster B. Project A; because it has the higher internal rate of return C. Project B; because it has the higher internal rate of return D. Project A; because it has the higher net present value E. Project B; because it has the higher net present value
D. Project A; because it has the higher net present value Payback has several flaws and is not the best method of comparison.The profitability index should not be used to evaluate mutually exclusive projects.The decision should be made based on net present value.
A project has the following cash flows. What is the modified internal rate of return if interest rate is 8%? Years Cash Flow 0 -$46,800 1 11,260 2 18,220 3 15,950 4 13,560 A. 9.75 percent B. 10.28 percent C. 10.60 percent D. 10.67 percent E. 9.07 percent
E. 9.07 percent The MIRR is (66222.17/46800)^(1/4) - 1 = 9.07%.
Which one of the following is generally considered to be the best form of analysis if you have to select a single method to analyze a variety of investment opportunities? A. Payback B. Profitability index C. Accounting rate of return D. Internal rate of return E. Net present value
E. Net present value
Which one of the following methods of analysis has the greatest bias towards short-term projects? A. Net present value B. Internal rate of return C. Average accounting return D. Profitability index E. Payback
E. Payback
Today, Crunchy Snacks is investing $487,000 in a new oven. As a result, the company expects its cash flows to increase by $62,000 a year for the next two years and by $98,000 a year for the following three years. How long must the firm wait until it recovers all of its initial investment? A. 3.97 years B. 4.18 years C. 4.46 years D. 4.70 years E. The project never pays back.
E. The project never pays back. The project never pays back because the total cash inflow is only $418,000.
The payback period is the length of time it takes an investment to generate sufficient cash flows to enable the project to: A. produce a positive annual cash flow. B. produce a positive cash flow from assets. C. offset its fixed expenses. D. offset its total expenses. E. recoup its initial cost.
E. recoup its initial cost.
Projects with positive net present values increase the value of the firm because the cost of financing the project is less than the firm's cost of capital.
False A positive net present value will increase the value of the firm because the return earned exceeds the cost of capital.
The acceptance of an independent project must include the effect that project has on other projects under consideration and their acceptability.
False Independent projects do not affect other projects under consideration.
A positive net present value of a project occurs when the cost of the money to finance a project is less than the firm's cost of capital.
False It occurs when the return earned on the project exceeds the firm's cost of capital.
When the cash flows of a project change sign more than once, the internal rate of return model is the model preferred for project analysis.
False The internal rate of return model cannot be used in these situations of unconventional cash flows as there may be more than one internal rate of return due to the number of sign changes.
The internal rate of return model may provide more than one solution when the sign of the project's cash flows only changes one time.
False The internal rate of return model may provide more than one solution when the sign of the project's cash flows changes more than once.
If the Internal Rate of Return for a project exceeds the cost of financing the project, the project is acceptable.
False The internal rate of return must exceed the cost of capital not the cost of project financing to be acceptable.
'Space Invader' has an investment project has expected cash flows of $70,000 per year, has a cost of $195,000 and an expected life of five years. The project is in the 30% tax bracket and is associated with a previous sunk cost property purchase of $100,000. The project has a payback of 3.98 years.
False The project has a cost of 2.8 years. $195,000/$70,000
'Space Invader' has an investment project has expected cash flows of $70,000 per year, has a cost of $195,000 and an expected life of five years. The project is in the 30% tax bracket and is associated with a previous sunk cost property purchase of $100,000. The project has a payback of 4.2 years.
False The project has a cost of 2.8 years. $195,000/$70,000
Projects such as parking lots, daycare centers, and employee gyms, though not the primary business of a firm, must be evaluated for capital budgeting effects on the value of the firm or for any other reason because they should only be accepted if they have positive net present values.
False These projects will not add specifically defined value to a firm, but should be evaluated for the level of value reduction they may provide as well as for other reasons that may add to employee, supplier, or customer happiness.
Costs which are not directly related to projects or products, but which are still incurred by the firm in order to operate are called sunk costs.
False They are called overhead costs.
Costs attributed to past investment and which cannot be recovered regardless of whether or not the new investment is undertaken are called overhead costs.
False They are called sunk costs.
A positive net present value of a project occurs when the return earned on a project exceeds the firm's cost of capital.
True
Costs attributed to past investment and which cannot be recovered regardless of whether or not the new investment is undertaken are called sunk costs.
True
Costs which are not directly related to projects or products, but which are still incurred by the firm in order to operate are called overhead costs.
True
Depreciation and other non-cash expenditures, are non-cash in nature, but they cannot be ignored in determining incremental project cash flows.
True
If the Internal Rate of Return for a project exceeds the cost of capital for the firm, the projects net present value will be positive.
True
Projects with negative net present values reduce the value of the firm.
True
Generally, the simulation models for projects are developed using a: A. Pair of dice B. Roulette wheel C. Computer D. Pack of cards E. Casino
C. Computer
If an investment is producing a return that is equal to the required return, the investment's net present value will be: A. positive. B. greater than the project's initial investment. C. zero. D. equal to the project's net profit. E. less than, or equal to, zero.
C. zero.
You were recently hired by a firm as a project analyst. The owner of the firm is unfamiliar with financial analysis and only wants to know what the expected dollar return is per dollar spent on a given project. Which financial method of analysis will provide the information that the owner requests? A. Internal rate of return B. Modified internal rate of return C. Net present value D. Profitability index E. Payback
D. Profitability index
The internal rate of return is unreliable as an indicator of whether or not an investment should be accepted given which one of the following? A. One of the time periods within the investment period has a cash flow equal to zero B. The initial cash flow is negative C. The investment has cash inflows that occur after the required payback period D. The investment is mutually exclusive with another investment under consideration E. The cash flows are conventional
D. The investment is mutually exclusive with another investment under consideration
Depreciation and other non-cash expenditures, are non-cash in nature, and can thus be ignored in determining incremental project cash flows.
False These flows must be considered as they are a source of cash flow because they shelter profits from taxation.
Incremental flows are those specifically incurred by the project and do not include pre-project flows.
True
A project has the following cash flows. What is the internal rate of return? Years Cash Flow 0 -$46,800 1 11,260 2 18,220 3 15,950 4 13,560 A. 9.75 percent B. 10.28 percent C. 10.60 percent D. 10.67 percent E. 9.07 percent
A. 9.75 percent
Which one of the following is most closely related to the net present value profile? A. Internal rate of return B. Average accounting return C. Profitability index D. Payback E. Discounted payback
A. Internal rate of return
What is the payback period for a project with the following cash flows? Year Cash Flow 0 -$ 58,700 1 19,600 2 22,300 3 14,800 4 11,600 A. 2.56 years B. 2.89 years C. 3.17 years D. 3.74 years E. never
C. 3.17 years Payback = 3 + ($58,700 - $19,600 - $22,300 - $14,800)/$11,600 = 3.17 years
A profitability index of .85 means that the present value of the benefits provided by a project being evaluated for acceptability exceed the present value of the project's costs by 85%.
False An index of .85 would imply the project is returning only $.85 per dollar of cost or that the project is reducing NPV by $.15 [$1 - $.85] per dollar of cost.
Capital budgeting project investment costs should include the purchase of the project as well as installation but not delivery costs as these are normally considered sunk costs since projects must always be delivered in some way.
False Delivery costs are considered as a part of a project cost.
Because it eliminates the multiple internal rates of return, and requires reinvestment at the cost of capital, the modified internal rate of return is the capital budgeting methodology viewed by most academicians as the theoretically best model for project acceptance or rejection.
False Net present value is viewed as the best theoretically as it provides the value added to the firm.
In evaluating capital budgeting projects, incremental cash flows must be evaluated on a pre-tax basis to avoid financial financing effects.
False They should be evaluated on a post-tax basis.
A project with a positive net present value will always have an internal rate of return that exceeds the cost of capital.
True
Cash flow is defined as accounting income plus non-cash charges or expenses such as depreciation.
True
In capital budgeting, the crossover Rate is that rate where the net present value's of alternative projects is the same.
True
Net Present Value is the capital budgeting methodology viewed by most academicians as the theoretically best model for project acceptance or rejection.
True
One drawback to the use of the internal rate of return model is that there may be more than one internal rate of return for the project.
True
The acceptance of a mutually exclusive project must include the effect that project has on other projects under consideration and their acceptability.
True
The discounted payback model allows for risk to be assessed in two ways, the time it takes to discounted payback, and via a required rate of return commensurate with the risk of the project.
True
The internal rate of return model may provide more than one solution when the sign of the project's cash flows changes more than once.
True
The payback capital budgeting model assumes that all of the flows from the project have the same time value regardless of the timeframe in which they occur.
True
'Space Invader' has an investment project has expected cash flows of $70,000 per year, has a cost of $195,000 and an expected life of five years. The project is in the 30% tax bracket and is associated with a previous sunk cost property purchase of $100,000. The project has a payback of 2.8 years.
True The project has a cost of 2.8 years. $195,000/$70,000
