Question 1

Which of the following statements is CORRECT?

Accepted Answer

A)  The IRR method appeals to some managers because it gives an estimate of the rate of return on projects rather than a dollar amount, which the NPV method provides. 
B)  The discounted payback method eliminates all of the problems associated with the payback method. 
C)  When evaluating independent projects, the NPV and IRR methods often yield conflicting results regarding a project's acceptability. 
D)  To find the MIRR, we discount the TV at the IRR. 
A)  The IRR method appeals to some managers because it gives an estimate of the rate of return on projects rather than a dollar amount, which the NPV method provides. 
B)  The discounted payback method eliminates all of the problems associated with the payback method. 
C)  When evaluating independent projects, the NPV and IRR methods often yield conflicting results regarding a project's acceptability. 
D)  To find the MIRR, we discount the TV at the IRR.

Question 2

The phenomenon called "multiple internal rates of return" arises when two or more mutually exclusive projects that have different lives are compared to one another.

Accepted Answer

A) True 
 B)False

Question 3

You are considering two mutually exclusive, equally risky, projects. Both have IRRs that exceed the WACC. Which of the following statements is CORRECT? Assume that the projects have normal cash flows, with one outflow followed by a series of inflows.

Accepted Answer

A)  If the two projects' NPV profiles do not cross, then there will be a sharp conflict as to which one should be selected. 
B)  If the cost of capital is greater than the crossover rate, then the IRR and the NPV criteria will not result in a conflict between the projects. The same project will rank higher by both criteria. 
C)  If the cost of capital is less than the crossover rate, then the IRR and the NPV criteria will not result in a conflict between the projects. The same project will rank higher by both criteria. 
D)  For a conflict to exist between NPV and IRR, the initial investment cost of one project must exceed the cost of the other. 
A)  If the two projects' NPV profiles do not cross, then there will be a sharp conflict as to which one should be selected. 
B)  If the cost of capital is greater than the crossover rate, then the IRR and the NPV criteria will not result in a conflict between the projects. The same project will rank higher by both criteria. 
C)  If the cost of capital is less than the crossover rate, then the IRR and the NPV criteria will not result in a conflict between the projects. The same project will rank higher by both criteria. 
D)  For a conflict to exist between NPV and IRR, the initial investment cost of one project must exceed the cost of the other.

Question 4

Under certain conditions, a project may have more than one IRR. One such condition is when, in addition to the initial investment at time = 0, a negative cash flow (or cost) occurs at the end of the project's life.

Accepted Answer

A) True 
 B)False

Question 5

Projects S and L both have normal cash flows, and the projects have the same risk, hence both are evaluated with the same WACC, 10%.	However, S has a higher IRR than L.	Which of the following statements is CORRECT?

Accepted Answer

A) 	Project S must have a higher NPV than Project L. 
B) 	If Project S has a positive NPV, Project L must also have a positive NPV. 
C) 	If the WACC falls, each project’s IRR will increase. 
D) 	If the WACC increases, each project’s IRR will decrease. 
E) 	If Projects S and L have the same NPV at the current WACC, 10%, then Project L, the one with the lower IRR, would have a higher NPV if the WACC used to evaluate the projects declined. 
A) 	Project S must have a higher NPV than Project L. 
B) 	If Project S has a positive NPV, Project L must also have a positive NPV. 
C) 	If the WACC falls, each project’s IRR will increase. 
D) 	If the WACC increases, each project’s IRR will decrease. 
E) 	If Projects S and L have the same NPV at the current WACC, 10%, then Project L, the one with the lower IRR, would have a higher NPV if the WACC used to evaluate the projects declined.

Question 6

The internal rate of return is that discount rate that equates the present value of the cash outflows (or costs) with the present value of the cash inflows.

Accepted Answer

A) True 
 B)False

Question 7

Which of the following statements is CORRECT?

Accepted Answer

A)  One advantage of the NPV over the IRR is that NPV takes account of cash flows over a project's full life whereas IRR does not. 
B)  One advantage of the NPV over the IRR is that NPV assumes that cash flows will be reinvested at the WACC, whereas IRR assumes that cash flows are reinvested at the IRR. The NPV assumption is generally more appropriate. 
C)  One advantage of the NPV over the MIRR method is that NPV takes account of cash flows over a project's full life whereas MIRR does not. 
D)  One advantage of the NPV over the MIRR method is that NPV discounts cash flows whereas the MIRR is based on undiscounted cash flows. 
E)  Since cash flows under the IRR and MIRR are both discounted at the same rate (the WAC
C) , these two methods always rank mutually exclusive projects in the same order. 
A)  One advantage of the NPV over the IRR is that NPV takes account of cash flows over a project's full life whereas IRR does not. 
B)  One advantage of the NPV over the IRR is that NPV assumes that cash flows will be reinvested at the WACC, whereas IRR assumes that cash flows are reinvested at the IRR. The NPV assumption is generally more appropriate. 
C)  One advantage of the NPV over the MIRR method is that NPV takes account of cash flows over a project's full life whereas MIRR does not. 
D)  One advantage of the NPV over the MIRR method is that NPV discounts cash flows whereas the MIRR is based on undiscounted cash flows. 
E)  Since cash flows under the IRR and MIRR are both discounted at the same rate (the WAC
C) , these two methods always rank mutually exclusive projects in the same order.

Question 8

Which of the following statements is CORRECT?

Accepted Answer

A)  The shorter a project's payback period, the less desirable the project is normally considered to be by this criterion. 
B)  One drawback of the regular payback is that this method does not take account of cash flows beyond the payback period. 
C)  If a project's payback is positive, then the project should be accepted because it must have a positive NPV. 
D)  The regular payback ignores cash flows beyond the payback period, but the discounted payback method overcomes this problem. 
A)  The shorter a project's payback period, the less desirable the project is normally considered to be by this criterion. 
B)  One drawback of the regular payback is that this method does not take account of cash flows beyond the payback period. 
C)  If a project's payback is positive, then the project should be accepted because it must have a positive NPV. 
D)  The regular payback ignores cash flows beyond the payback period, but the discounted payback method overcomes this problem.

Question 9

Resnick Inc. is considering a project that has the following cash flow data. What is the project's payback?

Accepted Answer

A)  1.42 years 
B)  1.58 years 
C)  1.75 years 
D)  1.93 years 
A)  1.42 years 
B)  1.58 years 
C)  1.75 years 
D)  1.93 years

Question 10

McCall Manufacturing has a WACC of 10%. The firm is considering two normal, equally risky, mutually exclusive, but not repeatable projects. The two projects have the same investment costs, but Project A has an IRR of 15%, while Project B has an IRR of 20%. Assuming the projects' NPV profiles cross in the upper right quadrant, which of the following statements is CORRECT?

Accepted Answer

A)  Each project must have a negative NPV. 
B)  Since the projects are mutually exclusive, the firm should always select Project B. 
C)  If the crossover rate is 8%, Project B will have the higher NPV. 
D)  Only one project has a positive NPV. 
A)  Each project must have a negative NPV. 
B)  Since the projects are mutually exclusive, the firm should always select Project B. 
C)  If the crossover rate is 8%, Project B will have the higher NPV. 
D)  Only one project has a positive NPV.

Question 11

The primary reason that the NPV method is conceptually superior to the IRR method for evaluating mutually exclusive investments is that multiple IRRs may exist, and when that happens, we don't know which IRR is relevant.

Accepted Answer

A) True 
 B)False

Question 12

Yonan Inc. is considering Projects S and L, whose cash flows are shown below. These projects are mutually exclusive, equally risky, and not repeatable. If the decision is made by choosing the project with the shorter payback, some value may be forgone. How much value will be lost in this instance? Note that under some conditions choosing projects on the basis of the shorter payback will not cause value to be lost.

Accepted Answer

A)  $24.14 
B)  $26.82 
C)  $29.80 
D)  $33.11 
E)  $36.42 
A)  $24.14 
B)  $26.82 
C)  $29.80 
D)  $33.11 
E)  $36.42

Question 13

The NPV and IRR methods, when used to evaluate two independent and equally risky projects, will lead to different accept/reject decisions and thus capital budgets if the projects' IRRs are greater than their cost of capital.

Accepted Answer

A) True 
 B)False

Question 14

Anderson Systems is considering a project that has the following cash flow and WACC data. What is the project's NPV? Note that if a project's expected NPV is negative, it should be rejected.

Accepted Answer

A)  $265.65 
B)  $278.93 
C)  $292.88 
D)  $307.52 
E)  $322.90 
A)  $265.65 
B)  $278.93 
C)  $292.88 
D)  $307.52 
E)  $322.90

Question 15

The IRR of normal Project X is greater than the IRR of normal Project Y, and both IRRs are greater than zero. Also, the NPV of X is greater than the NPV of Y at the cost of capital. If the two projects are mutually exclusive, Project X should definitely be selected, and the investment made, provided we have confidence in the data. Put another way, it is impossible to draw NPV profiles that would suggest not accepting Project X.

Accepted Answer

A) True 
 B)False

Question 16

When considering two mutually exclusive projects, the firm should always select the project whose internal rate of return is the highest, provided the projects have the same initial cost. This statement is true regardless of whether the projects can be repeated or not.

Accepted Answer

A) True 
 B)False

Question 17

Which of the following statements is CORRECT?

Accepted Answer

A)  For a project with normal cash flows, any change in the WACC will change both the NPV and the IRR. 
B)  To find the MIRR, we first compound cash flows at the regular IRR to find the TV, and then we discount the TV at the WACC to find the PV. 
C)  The NPV and IRR methods both assume that cash flows can be reinvested at the WACC. However, the MIRR method assumes reinvestment at the MIRR itself. 
D)  If two projects have the same cost, and if their NPV profiles cross in the upper right quadrant, then the project with the higher IRR probably has more of its cash flows coming in the later years. 
E)  If two projects have the same cost, and if their NPV profiles cross in the upper right quadrant, then the project with the lower IRR probably has more of its cash flows coming in the later years. 
A)  For a project with normal cash flows, any change in the WACC will change both the NPV and the IRR. 
B)  To find the MIRR, we first compound cash flows at the regular IRR to find the TV, and then we discount the TV at the WACC to find the PV. 
C)  The NPV and IRR methods both assume that cash flows can be reinvested at the WACC. However, the MIRR method assumes reinvestment at the MIRR itself. 
D)  If two projects have the same cost, and if their NPV profiles cross in the upper right quadrant, then the project with the higher IRR probably has more of its cash flows coming in the later years. 
E)  If two projects have the same cost, and if their NPV profiles cross in the upper right quadrant, then the project with the lower IRR probably has more of its cash flows coming in the later years.

Question 18

Assume that the economy is enjoying a strong boom, and as a result interest rates and money costs generally are relatively high. The WACC for two mutually exclusive projects that are being considered is 12%. Project S has an IRR of 20% while Project L's IRR is 15%. The projects have the same NPV at the 12% current WACC. However, you believe that the economy will soon fall into a mild recession, and money costs and thus your WACC will soon decline. You also think that the projects will not be funded until the WACC has decreased, and their cash flows will not be affected by the change in economic conditions. Under these conditions, which of the following statements is CORRECT?

Accepted Answer

A)  You should reject both projects because they will both have negative NPVs under the new conditions. 
B)  You should delay a decision until you have more information on the projects, even if this means that a competitor might come in and capture this market. 
C)  You should recommend Project L, because at the new WACC it will have the higher NPV. 
D)  You should recommend Project S, because at the new WACC it will have the higher NPV. 
E)  You should recommend Project L because it will have both a higher IRR and a higher NPV under the new conditions. 
A)  You should reject both projects because they will both have negative NPVs under the new conditions. 
B)  You should delay a decision until you have more information on the projects, even if this means that a competitor might come in and capture this market. 
C)  You should recommend Project L, because at the new WACC it will have the higher NPV. 
D)  You should recommend Project S, because at the new WACC it will have the higher NPV. 
E)  You should recommend Project L because it will have both a higher IRR and a higher NPV under the new conditions.

Question 19

Which of the following statements is CORRECT?

Accepted Answer

A)  For a project to have more than one IRR, then both IRRs must be greater than the WACC. 
B)  If two projects are mutually exclusive, then they are likely to have multiple IRRs. 
C)  If a project is independent, then it cannot have multiple IRRs. 
D)  Multiple IRRs can occur only if the signs of the cash flows change more than once. 
E)  If a project has two IRRs, then the smaller one is the one that is most relevant, and it should be accepted and relied upon. 
A)  For a project to have more than one IRR, then both IRRs must be greater than the WACC. 
B)  If two projects are mutually exclusive, then they are likely to have multiple IRRs. 
C)  If a project is independent, then it cannot have multiple IRRs. 
D)  Multiple IRRs can occur only if the signs of the cash flows change more than once. 
E)  If a project has two IRRs, then the smaller one is the one that is most relevant, and it should be accepted and relied upon.

Question 20

If you were evaluating two mutually exclusive projects for a firm with a zero cost of capital, the payback method and NPV method would always lead to the same decision on which project to undertake.

Accepted Answer

A) True 
 B)False

Exam 10: The Basics of Capital Budgeting: Evaluating Cash Flows

Which of the following statements is CORRECT?

The phenomenon called "multiple internal rates of return" arises when two or more mutually exclusive projects that have different lives are compared to one another.

You are considering two mutually exclusive, equally risky, projects. Both have IRRs that exceed the WACC. Which of the following statements is CORRECT? Assume that the projects have normal cash flows, with one outflow followed by a series of inflows.

Under certain conditions, a project may have more than one IRR. One such condition is when, in addition to the initial investment at time = 0, a negative cash flow (or cost) occurs at the end of the project's life.

Projects S and L both have normal cash flows, and the projects have the same risk, hence both are evaluated with the same WACC, 10%. However, S has a higher IRR than L. Which of the following statements is CORRECT?

The internal rate of return is that discount rate that equates the present value of the cash outflows (or costs) with the present value of the cash inflows.

Which of the following statements is CORRECT?

Which of the following statements is CORRECT?

Resnick Inc. is considering a project that has the following cash flow data. What is the project's payback?

The primary reason that the NPV method is conceptually superior to the IRR method for evaluating mutually exclusive investments is that multiple IRRs may exist, and when that happens, we don't know which IRR is relevant.

The NPV and IRR methods, when used to evaluate two independent and equally risky projects, will lead to different accept/reject decisions and thus capital budgets if the projects' IRRs are greater than their cost of capital.

Anderson Systems is considering a project that has the following cash flow and WACC data. What is the project's NPV? Note that if a project's expected NPV is negative, it should be rejected.

When considering two mutually exclusive projects, the firm should always select the project whose internal rate of return is the highest, provided the projects have the same initial cost. This statement is true regardless of whether the projects can be repeated or not.

Which of the following statements is CORRECT?

Which of the following statements is CORRECT?

If you were evaluating two mutually exclusive projects for a firm with a zero cost of capital, the payback method and NPV method would always lead to the same decision on which project to undertake.

An Overview of Financial Management and the Financial Environment

Financial Statements, Cash Flow, and Taxes

Analysis of Financial Statements

Time Value of Money

Bonds, Bond Valuation, and Interest Rates

Risk, Return, and the Capital Asset Pricing Model

Stocks, Stock Valuation, and Stock Market Equilibrium

Financial Options and Applications in Corporate Finance

The Cost of Capital

Cash Flow Estimation and Risk Analysis

Financial Planning and Forecasting Financial Statements

Corporate Valuation, Value-Based Management and Corporate Governance

Distributions to Shareholders: Dividends and Repurchases

Capital Structure Decisions

Working Capital Management

Multinational Financial Management

Lease Financing

Hybrid Financing: Preferred Stock, Warrants, and Convertibles

Initial Public Offerings, Investment Banking, and Financial Restructuring

Mergers, Lbos, Divestitures, and Holding Companies

Bankruptcy, Reorganization, and Liquidation

Derivatives and Risk Management

Portfolio Theory, Asset Pricing Models, and Behavioral Finance

Real Options

Analysis of Capital Structure Theory

Providing and Obtaining Credit

Advanced Issues in Cash Management and Inventory Control

Pension Plan Management

Financial Management in Not-For-Profit Businesses

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