Principle of Finance Chapter 8

accepted

A project should be ______ if its NPV is greater than zero.

reject a project if the IRR is less than the required return.

According to the basic IRR rule, we should:

budgeting

Capital ______ is the decision-making process for accepting and rejecting projects.

it defines the business of the firm

Capital budgeting is probably the most important of the three key areas of concern to the financial manager because ______.

An increase in the size of the first cash inflow will decrease the payback period, all else held constant.

How does the timing and the size of cash flows affect the payback method? Assume the project does pay back within the project's lifetime.

required return

If the IRR is greater than the _____, we should accept the project.

net present value

In capital budgeting, ______ determines the dollar value of a project to the company.

positive for discount rates below the IRR, equal to zero when the discount rate equals the IRR, negative for discount rates above the IRR

In general, NPV is ______.

positive; negative

The NPV is ______ if the required return is less than the IRR, and it is ______ if the required return is greater than the IRR.

Payback period, NPV

The ______ is best suited for decisions on relatively small, minor projects, while ______ is more appropriate for large, complex projects.

payback

The ______ method evaluates a project by determining the time needed to recoup the initial investment.

accept a project if the NPV is greater than zero, reject a project if its NPV is less than zero, if the NPV is equal to zero, acceptance or rejection of the project is a matter of indifference.

The basic NPV investment rule is:

false; estimates the NPV between the PV of future cash flows and the cost of the investment

The discounted cash flow (DCF) valuation estimates future value as the difference between the market price and the cost of the investment.

more

The discounted cash flow valuation shows that higher cash flows earlier in a project's life are ______ valuable than higher cash flows later on.

a projects cash flows

The internal rate of return is a function of ______.

benefit-cost

the profitability index is also called the ______ ratio.

accepts

The payback period rule ______ a project if it has a payback period that is less than or equal to a particular cutoff date.

False

The payback period takes into consideration the time value of money.

initial investment

The present value of the future cash inflows are divided by the ______ to calculate the profitability index.

initial cost

The profitability index (PI) is calculated by dividing the present value of an investment's future cash flows by its ______.

accept

The profitability index (PI) rule for an independent project is to ______ the project if the PI is greater than 1.

It allows lower-level managers to make small decisions effectively, The payback period method is ideal for minor projects, The payback period method is easy to use.

What are the advantages of the payback period method for management?

How long it takes to recover the initial investment

What is the primary concern of the payback period rule?

discount

When calculating NPV, the present value of the nth cash flow is found by dividing the nth cash flow by 1 plus ______ rate raised to the nth power.

true

When calculating NPV, the present value of the nth cash flow is found by dividing the nth cash flow by 1 plus the discount rate raised to the nth power.

Businesspeople prefer to talk about rates of return, The IRR of a proposal can be calculated without knowing the appropriate discount rate, It is easier to communicate information about a proposal with an IRR.

Which of the following are reasons why IRR continues to be used in practice?

Time value of money principles is ignored, Cash flows received after the payback period are ignored, The cutoff date is arbitrary.

Which of the following are weaknesses of the payback method?

requires an arbitrary cutoff point

Which of the following is a disadvantage of the payback period rule?

Net present value

______ is a measure of how much value is created or added by undertaking an investment.