Exam 12: Capital Budgeting: Decision Criteria and Real Option Considerations

A project requires a net investment of $100,000. At the firm's cost of capital of 10%, the project's profitability index is 1.15. Determine the net present value of the project.

A weakness of the payback period is that it disregards ____.

Explain why the internal rate of return method is more popular than the net present value method. What are some potential problems with relying on the IRR method?

What is the internal rate of return for a project that has a net investment of $60,000 and the following net cash flows: Year 1 = $15,000; Year 2 = $20,000; Year 3 = $25,000; Year 4 = $30,000?

Road Hawk Inc. is adding a new production line that will cost $720,000. The line will be depreciated on a straight-line basis over a 7-year period and will generate net cash flows of $160,000 in each of the 7 years. At the end of the project, it is expected the line can be sold as scrap for $10,000. If the firm's marginal tax rate is 40% and its required rate of return is 14%, what is the net present value of this project?

G-III Apparel is considering increasing the size of a warehouse. The cost of the expansion is $825,000, and the increase in inventories and accounts payable will be $410,000 and $360,000, respectively. G-III expects that the expansion will increase net cash flows by $150,000 a year for the next 5 years and $200,000 a year for years 6-12. G-III has a 14% cost of capital and a marginal tax rate of 35%. What is the NPV of the warehouse expansion?

Calculate the net present value for an investment project with the following cash flows using a 12% cost of capital: Year 0 1 2 3 Net Cash Flow -\ 100,000 \ 80,000 \ 80,000 -\ 30,000

The net present value method assumes that the cash flows over the life of the project are reinvested at the ____.

What is the internal rate of return for a project that has a net investment of $169,165 and net cash flows of $25,000 in the first year and 40,000 in years 2-7?

What is the internal rate of return for a project that has a net investment of $150,000 and net cash flows of $40,000 for 5 years?

The choice to accept or reject projects based on the payback period ____.

The Atlantic Company plans to open a new branch office in a suburban area. The building will cost $200,000 and will be depreciated (on a straight-line basis) over a 20-year life to a $0 estimated salvage value. Equipment for the building will cost an additional $100,000. This equipment has a 20-year life and will be depreciated on a straight-line basis to a $0 estimated salvage value. The branch office is expected to generate additional before tax net income of $30,000 per year. The tax rate is 40%, and the cost of capital is 12%. Compute the net present value for the project.

Rollerblade, a manufacturer of skating gear, plans to expand its operation in Brighton, England. The expansion will cost $18.5 million and is expected to generate annual net cash flows of 2.2 million pounds for a period of 15 years and nothing thereafter. The cost of capital for the project is 16%. Using the spot exchange rate of $1.60 per British pound, compute the net present value of the expansion project.

Decode Genetics purchased lab equipment for $600,000 that will generate net cash flows of $130,000 per year for 10 years. What is the IRR for this project?

When a project has multiple internal rates of return, the analyst should ____.

An investment project requires a net investment of $100,000. The project is expected to generate annual net cash inflows of $28,000 for the next 5 years. The firm's cost of capital is 12%. Determine the net present value for the project.

Would you invest in a project that has a net investment of $14,600 and a single net cash flow of $24,900 in 5 years, if your required rate of return was 12%?

The profitability index is the ratio of the ____ to the ____.

When dealing with ____ cash flows, the ____ is computed with the help of a financial calculator or by using capital budgeting spreadsheet programs.

Generally, the ____ is considered to be a more realistic reinvestment rate than the ____.