Question 1

An investment project is most likely to be accepted by the payback period rule and not accepted by the NPV rule if the project has:

Accepted Answer

A)  a large initial investment with moderate positive cash flows over a very long period of time. 
B)  a very large negative cash flow at the termination of the project. 
C)  most of the cash flow at the beginning of the project. 
D)  All projects approved by the payback period rule will be accepted by the NPV rule. 
E)  The payback period rule and the NPV rule cannot be used to evaluate the same type of projects. 
A)  a large initial investment with moderate positive cash flows over a very long period of time. 
B)  a very large negative cash flow at the termination of the project. 
C)  most of the cash flow at the beginning of the project. 
D)  All projects approved by the payback period rule will be accepted by the NPV rule. 
E)  The payback period rule and the NPV rule cannot be used to evaluate the same type of projects. B

Question 2

The NPV rule and PI give the same results when there is no conflict. In the case of a mutually exclusive set of investments, explain the potential conflict and the way it should be solved with supporting examples.

Accepted Answer

Please refer to section 7.7 (The Profitability Index) of the text for the answer.

Question 3

An investment with an initial cost of $16,000 produces cash flows of $5000 annually. If the cash flow is evenly spread out over the year and the firm can borrow at 10%, the discounted payback period is _____ years.

Accepted Answer

A)  4.55 
B)  4.05 
C)  3.20 
D)  3.52 
A)  4.55 
B)  4.05 
C)  3.20 
D)  3.52 B

Question 4

Which of the following does not characterize NPV?

Accepted Answer

A)  NPV is the simplest of all investment rules. 
B)  NPV incorporates all relevant information. 
C)  NPV uses all of the project's cash flows. 
D)  NPV discounts all future cash flows. 
A)  NPV is the simplest of all investment rules. 
B)  NPV incorporates all relevant information. 
C)  NPV uses all of the project's cash flows. 
D)  NPV discounts all future cash flows.

Question 5

Given the goal of maximization of firm value and shareholder wealth, we have stressed the importance of net present value (NPV). And yet, many financial decision-makers at some of the most prominent firms in the world continue to use less desirable measures such as the payback period and the average accounting return (AAR). Why do you think this is the case?

Accepted Answer

This is an open-ended question which all

Question 6

The NPV rule and PI give the same results when there is no conflict. In the case of capital rationing, explain the potential conflict and the way it should be solved with supporting examples.

Accepted Answer

Please refer to sect

Question 7

If there is a conflict between mutually exclusive projects due to the IRR, one should:

Accepted Answer

A)  drop the two projects immediately. 
B)  spend more money on gathering information. 
C)  depend on the NPV as it will always provide the most value. 
D)  depend on the AAR because it does not suffer from these same problems. 
A)  drop the two projects immediately. 
B)  spend more money on gathering information. 
C)  depend on the NPV as it will always provide the most value. 
D)  depend on the AAR because it does not suffer from these same problems.

Question 8

The payback period rule:

Accepted Answer

A)  determines a cutoff point so that all projects accepted by the NPV rule will be accepted by the payback period rule. 
B)  determines a cutoff point so that depreciation is just equal to positive cash flows in the payback year. 
C)  requires an arbitrary choice of a cut-off point. 
D)  varies the cut-off point with the interest rate. 
A)  determines a cutoff point so that all projects accepted by the NPV rule will be accepted by the payback period rule. 
B)  determines a cutoff point so that depreciation is just equal to positive cash flows in the payback year. 
C)  requires an arbitrary choice of a cut-off point. 
D)  varies the cut-off point with the interest rate.

Question 9

You are considering a project with the following data: Internal rate of return 8.7%
Profitability ratio.98
Net present value -$393
Payback period 2.44 years
Required return 9.5%
Which one of the following is correct given this information?

Accepted Answer

A)  The discount rate used in computing the net present value must have been less than 8.7%. 
B)  The discounted payback period will have to be less than 2.44 years. 
C)  The discount rate used to compute the profitability ratio was equal to the internal rate of return. 
D)  This project should be accepted based on the profitability ratio. 
E)  This project should be rejected based on the internal rate of return. 
A)  The discount rate used in computing the net present value must have been less than 8.7%. 
B)  The discounted payback period will have to be less than 2.44 years. 
C)  The discount rate used to compute the profitability ratio was equal to the internal rate of return. 
D)  This project should be accepted based on the profitability ratio. 
E)  This project should be rejected based on the internal rate of return.

Question 10

The IRR rule is said to be a special case of the NPV rule. Explain why this is so and why it has some limitations NPV does not?

Accepted Answer

At some K NPV = 0; by definiti

Question 11

It will cost $3,000 to acquire a small ice cream cart. Cart sales are expected to be $1,400 a year for three years. After the three years, the cart is expected to be worthless as that is the expected remaining life of the cooling system. What is the payback period of the ice cream cart?

Accepted Answer

A)  0.83 years. 
B)  1.14 years. 
C)  1.83 years. 
D)  2.14 years. 
E)  2.83 years. 
A)  0.83 years. 
B)  1.14 years. 
C)  1.83 years. 
D)  2.14 years. 
E)  2.83 years.

Question 12

An investment project has the cashflow stream of -250, 75, 125, 100, and 50. The cost of capital is 12%. What is the discount payback period?

Accepted Answer

A)  2.5 years. 
B)  2.7 years. 
C)  3.38 years. 
D)  1.40 years. 
E)  1.25 years. 
A)  2.5 years. 
B)  2.7 years. 
C)  3.38 years. 
D)  1.40 years. 
E)  1.25 years.

Question 13

The internal rate of return for a project will increase if:

Accepted Answer

A)  the initial cost of the project can be reduced. 
B)  the total amount of the cash inflows is reduced. 
C)  each cash inflow is moved such that it occurs one year later than originally projected. 
D)  the required rate of return is reduced. 
A)  the initial cost of the project can be reduced. 
B)  the total amount of the cash inflows is reduced. 
C)  each cash inflow is moved such that it occurs one year later than originally projected. 
D)  the required rate of return is reduced.

Question 14

List and briefly discuss the advantages and disadvantages of the internal rate of return (IRR) rule.

Accepted Answer

The advantages of the rule are its close

Question 15

Given the cash flow stream of the following mutually exclusive projects, prove through the incremental investment that Project B, with the higher NPV, will be preferred to project
A.
0 1 2 3 NPV IRR
Project A: -500 150 245 320 46.39 17.76
Project B: -800 360 360 360 50.01 16.65
Incremental investment in B: -300 210 115 40 NPV = 3.63

Accepted Answer

0 1 2 3 NPV IRR
Project A: -50

Question 16

Accepting positive NPV projects benefits the stockholders because:

Accepted Answer

A)  it most easily understood valuation process. 
B)  the value of the expected cashflows are equal to the cost. 
C)  the value of the expected cashflows are greater than the cost. 
D)  it is the most easily calculated. 
A)  it most easily understood valuation process. 
B)  the value of the expected cashflows are equal to the cost. 
C)  the value of the expected cashflows are greater than the cost. 
D)  it is the most easily calculated.

Question 17

Suppose that a project has a cash flow pattern (-$2,000, $25,000, -$25000) and discount rate of 10%, its modified IRR is given by:

Accepted Answer

A)  12.65% 
B)  25.22% or 400% 
C)  25.22% or 250% 
D)  13.64% 
A)  12.65% 
B)  25.22% or 400% 
C)  25.22% or 250% 
D)  13.64%

Question 18

The Carnation Chemical Company is investing in an incinerator to dispose of PCB waste. The incinerator costs $1.5 million and will generate end of year cash of $1 million for the next 3 years. At the end of 3 years the incinerator will be worthless and must be disposed of at the cost of $500,000. The internal rate of return for this project is:

Accepted Answer

A)  between 10% and 20%. 
B)  between 20% and 30%. 
C)  between 30% and 40%. 
D)  more than 40%. 
A)  between 10% and 20%. 
B)  between 20% and 30%. 
C)  between 30% and 40%. 
D)  more than 40%.

Question 19

Which one of the following statements is correct concerning the payback period?

Accepted Answer

A)  An investment is acceptable if its calculated payback period is less than some pre-specified period of time. 
B)  An investment should be accepted if the payback is positive and rejected if it is negative. 
C)  An investment should be rejected if the payback is positive and accepted if it is negative. 
D)  An investment is acceptable if its calculated payback period is greater than some pre-specified period of time. 
E)  An investment should be accepted any time the payback period is less than the discounted payback period, given a positive discount rate. 
A)  An investment is acceptable if its calculated payback period is less than some pre-specified period of time. 
B)  An investment should be accepted if the payback is positive and rejected if it is negative. 
C)  An investment should be rejected if the payback is positive and accepted if it is negative. 
D)  An investment is acceptable if its calculated payback period is greater than some pre-specified period of time. 
E)  An investment should be accepted any time the payback period is less than the discounted payback period, given a positive discount rate.

Question 20

A situation in which accepting one investment prevents the acceptance of another investment is called the:

Accepted Answer

A)  net present value profile. 
B)  operational ambiguity decision. 
C)  mutually exclusive investment decision. 
D)  issues of scale problem. 
E)  multiple rates of return decision. 
A)  net present value profile. 
B)  operational ambiguity decision. 
C)  mutually exclusive investment decision. 
D)  issues of scale problem. 
E)  multiple rates of return decision.

Exam 7: Net Present Value and Other Investment Rules

An investment project is most likely to be accepted by the payback period rule and not accepted by the NPV rule if the project has:

The NPV rule and PI give the same results when there is no conflict. In the case of a mutually exclusive set of investments, explain the potential conflict and the way it should be solved with supporting examples.

An investment with an initial cost of $16,000 produces cash flows of $5000 annually. If the cash flow is evenly spread out over the year and the firm can borrow at 10%, the discounted payback period is _____ years.

Which of the following does not characterize NPV?

The NPV rule and PI give the same results when there is no conflict. In the case of capital rationing, explain the potential conflict and the way it should be solved with supporting examples.

If there is a conflict between mutually exclusive projects due to the IRR, one should:

The payback period rule:

You are considering a project with the following data: Internal rate of return 8.7% Profitability ratio.98 Net present value -$393 Payback period 2.44 years Required return 9.5% Which one of the following is correct given this information?

The IRR rule is said to be a special case of the NPV rule. Explain why this is so and why it has some limitations NPV does not?

It will cost $3,000 to acquire a small ice cream cart. Cart sales are expected to be $1,400 a year for three years. After the three years, the cart is expected to be worthless as that is the expected remaining life of the cooling system. What is the payback period of the ice cream cart?

An investment project has the cashflow stream of -250, 75, 125, 100, and 50. The cost of capital is 12%. What is the discount payback period?

The internal rate of return for a project will increase if:

List and briefly discuss the advantages and disadvantages of the internal rate of return (IRR) rule.

Accepting positive NPV projects benefits the stockholders because:

Suppose that a project has a cash flow pattern (-$2,000, $25,000, -$25000) and discount rate of 10%, its modified IRR is given by:

Which one of the following statements is correct concerning the payback period?

A situation in which accepting one investment prevents the acceptance of another investment is called the:

Introduction to Corporate Finance

Accounting Statements and Cash Flow

Financial Planning and Growth

Financial Markets and Net Present Value: First Principles of Finance

The Time Value of Money

How to Value Bonds and Stocks

Net Present Value and Capital Budgeting

Risk Analysis, Real Options, and Capital Budgeting

Risk and Return: Lessons From Market History

Risk and Return: the Capital Asset Pricing Model

An Alternative View of Risk and Return: the Arbitrage Pricing Theory

Risk, Return, and Capital Budgeting

Corporate Financing Decisions and Efficient Capital Markets

Long-Term Financing: an Introduction

Capital Structure: Basic Concepts

Capital Structure: Limits to the Use of Debt

Valuation and Capital Budgeting for the Levered Firm

Dividends and Other Payouts

Issuing Equity Securities to the Public

Long-Term Debt

Leasing

Options and Corporate Finance: Basic Concepts

Options and Corporate Finance: Extensions and Applications

Warrants and Convertibles

Derivatives and Hedging Risk

Short-Term Finance and Planning

Cash Management

Credit Management

Mergers and Acquisitions

Financial Distress

International Corporate Finance

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