FIN Ch 8 LS
The profitability index is calculated by dividing the PV of the ____ cash inflows by the initial investment
future
The present value of the future cash inflows are divided by the ____ to calculate the profitability index
initial investment
Capital budgeting is probably the most important of the 3 key areas of concern to the financial manager because...
it defines the business of the firm
The payback period can lead to foolish decisions if it is used too literally because...
it ignores cash flows after the cutoff date
higher cash flows earlier in a project's life are ___ valuable than higher cash flows later on
more
If a firm is evaluating 2 possible projects, both of which require the use of the same production facilities, these projects would be considered what?
mutually exclusive
The NPV is ____ if the required return is greater than the IRR
negative
In capital budgeting, ___ determines the dollar value of a project to the company
net present value
What presents problems when using the IRR method?
non-conventional cash flows and mutually exclusive projects
One of the flaws of the payback period method is that cash flows after the cutoff date are...
not considered in the analysis
The NPV is ____ if the required return is less than the IRR
positive
What are weaknesses of the payback method?
time value of money principles are ignored, cash flows received after the payback period are ignored, and the cutoff date is arbitrary
The IRR is the discount rate that makes NPV equal to...
zero
What is the PI for a project with an initial cash outflow of $30 and subsequent cash inflows of $80 in year one and $20 in year two if the discount rate is 12%?
2.91
if a project has multiple internal rates of return, which methods should be used?
NPV and MIRR
The measure of how much value is created or added by undertaking an investment
Net Present Value
The ___ method evaluates a project by determining the time needed to recoup the initial investment
Payback
If the IRR is greater than the _______, we should accept the project
Required Return
What is the NPV of a project with an initial investment of $95, cash flow in one year of $107, and a discount rate of 6 %?
$5.94 (NPV= -$95+($107/1.06)
The internal rate of return is a function of...
a project's cash flows
The PI rule for an independent project is to ___ the project if the PI is greater than 1
accept
A project should be ____ if the NPV is greater than zero
accepted
When cash flows are conventional, NPV is...
equal to zero when the discount rate equals the IRR, positive when rates below the IRR, and negative when rates above the IRR
What are the advantages of the payback period?
ideal for short projects, allows lower level managers to make small decisions effectively, and it is easy to use
A ___ project does not rely on the acceptance or rejection of another project
independent
Why does the IRR continue to be used in practice?
it is easier to communicate info with an IRR, it can be calculated without knowing the discount rate, and businesspeople prefer to talk about rates of return
According to the basic IRR rule we should:
reject a project if the IRR is less than the required return
Internal rate of return must be compared to the ___ in order to determine the acceptability of a project
required return
What is the IRR for a project with an initial investment of $250 and subsequent cash inflows of $100 per year for 3 years?
9.70%
What are methods of calculating the MIRR of a project?
Reinvestment Approach, Discounting Approach, and Combination Approach
The basic NPV investment rule is:
accept if NPV > 0, reject if NVP < 0, indifferent if NPV = 0
What is a disadvantage of the Profitability Index?
cannot rank mutually exclusive projects
The Profitability Index is also called what?
cost-benefit
