FIN 310 CH 9
The managers of H.R Construction are considering remodeling plans for an old building the firm currently owns. The building was purchased 8 years ago for $689,000. Over the past 8 years, the firm rented out the building and used the rent to pay off the mortgage. The building is now owned free and clear and has a current market value of $898,000. The firm is considering remodeling the building into a conference centre and sandwich bar at an estimated cost of $1.7 million. The estimated present value of the future income from this centre is $2.9 million. Which one of the following defines the opportunity cost of the remodeling project? Initial cost of the building Cost of the remodeling Current market value of the building Initial cost of the building plus the remodeling costs Current market value of the building plus the remodeling costs
Current market value of the building
Which one of the following terms is most commonly used to describe the cash flows of a new project that are simply an offset of reduced cash flows for a current project? Opportunity cost Sunk cost Erosion Replicated flows Pirated flows
Erosion
The Blackwell Group is unable to obtain financing for any new projects under any circumstances. Which term best applies to this situation? Contingency planning Soft rationing Hard rationing Sensitivity analysis Scenario analysis
Hard rationing
Which of the following have the potential to increase the net present value of a proposed investment? I. ability to immediately shut down a project should the project become unprofitable II. ability to wait until the economy improves before making the investment III. option to place the investment on hold until a more favorable discount rate becomes available IV. option to increase production beyond that initially projected I only I and IV only II and III only I, II, and IV only I, II, III, and IV
I, II, III, and IV
Which of the following should be included in the analysis of a proposed investment? I. erosion effects II. opportunity costs III. sunk costs IV. side effects I only II only I and IV only I, II, and IV only I, II, III, and IV
I, II, and IV only
Any changes to a firm's projected future cash flows that are caused by adding a new project are referred to as which one of the following? Eroded cash flows Deviated projections Incremental cash flows Directly impacted flows Assumed flows
Incremental cash flows -equal to the firms cash flows WITH the project
Valley Forge and Metal purchased a truck five years ago for local deliveries. Which one of the following costs related to this truck is the best example of a sunk cost? Assume the truck has a usable life of eight years. New tires that will be purchased this winter Costs of repairs needed so the truck can pass inspection next month Money spent last month repairing a damaged front fender Engine tune-up that is scheduled for this afternoon Cost for a truck driver for the remainder of the truck's useful life
Money spent last month repairing a damaged front fender
Which one of the following terms refers to the best option that was foregone when a particular investment is selected? Side effect Erosion Sunk cost Opportunity cost Marginal cost
Opportunity cost
Turner Industries started a new project three months ago. Sales arising from this project are exceeding all expectations. Given this, which one of the following is management most apt to implement? Option to wait Soft rationing Strategic option Option to abandon Option to expand
Option to expand
Mark is analyzing a proposed project to determine how changes in the variable costs per unit would affect the project's net present value. What type of analysis is Mark conducting? Sensitivity analysis Erosion planning Scenario analysis Cost-benefit analysis Opportunity cost analysis
Sensitivity analysis
Marcos Enterprises has three separate divisions. The firm allocates each division $1.5 million per year for capital purchases. Which one of the following terms applies to this allocation process? Soft rationing Hard rationing Opportunity cost Sunk cost Strategic planning
Soft rationing
Which one of the following refers to the option to expand into related businesses in the future? Strategic option Contingency option Soft rationing Hard rationing Capital rationing option
Strategic option
A cost that should be ignored when evaluating a project because that cost has already been incurred and cannot be recouped is referred to as which type of cost? Fixed Forgotten Variable Opportunity Sunk
Sunk
Scenario analysis: determines the impact a $1 change in sales has on the internal rate of return. determines which variable has the greatest impact on a project's net present value. helps determine the reasonable range of expectations for a project's anticipated outcome. evaluates a project's net present value while sensitivity analysis evaluates a project's internal rate of return. determines the absolute worst and absolute best outcome that could ever occur.
helps determine the reasonable range of expectations for a project's anticipated outcome.
Sensitivity analysis: looks at the most reasonably optimistic and pessimistic results for a project. helps identify the variable within a project that presents the greatest forecasting risk. is used for projects that cannot be analyzed by scenario analysis because the cash flows are unconventional. is generally conducted prior to scenario analysis just to determine if the range of potential outcomes is acceptable. illustrates how an increase in operating cash flow caused by changing both the revenue and the costs simultaneously will change the net present value for a project.
helps identify the variable within a project that presents the greatest forecasting risk.
Ignoring the option to wait: may overestimate the internal rate of return on a project. may underestimate the net present value of a project. ignores the ability of a manager to increase output after a project has been implemented. is the same as ignoring all strategic options. ignores the value of discontinuing a project early.
may underestimate the net present value of a project.
