Question 1

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 definition, when NPV = 0, K = IRR.
Problems occur with IRR due to conflicts with mutually exclusive projects, timing and size problems, multiple sign changes.NPV always the best choice

Question 2

What is the profitability index for an investment with the following cash flows given a 9% required return? $$\begin{array} { c c } 
\underline{\text { Year }} &\underline{ \text { Cash Flow }} \
 0 & - \$ 21,500 \
1 & \$ 7,400 \
2 & \$ 9,800 \
3 & \$ 8,900
\end{array}$$

Accepted Answer

A) .96 
B) .98 
C) 1.00 
D) 1.02 
E) 1.04 
A) .96 
B) .98 
C) 1.00 
D) 1.02 
E) 1.04 D

Question 3

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. E

Question 4

When two projects both require the total use of the same limited economic resource, the projects are generally considered to be:

Accepted Answer

A) independent. 
B) marginally profitable. 
C) mutually exclusive. 
D) acceptable. 
E) internally profitable. 
A) independent. 
B) marginally profitable. 
C) mutually exclusive. 
D) acceptable. 
E) internally profitable.

Question 5

The discounted payback rule states that you should accept projects:

Accepted Answer

A) which have a discounted payback period that is greater than some pre-specified period of time. 
B) if the discounted payback is positive and rejected if it is negative. 
C) only if the discounted payback period equals some pre-specified period of time. 
D) if the discounted payback period is less than some pre-specified period of time. 
E) only if the discounted payback period is equal to zero. 
A) which have a discounted payback period that is greater than some pre-specified period of time. 
B) if the discounted payback is positive and rejected if it is negative. 
C) only if the discounted payback period equals some pre-specified period of time. 
D) if the discounted payback period is less than some pre-specified period of time. 
E) only if the discounted payback period is equal to zero.

Question 6

A project has an initial cost of $1,900.The cash inflows are $0, $500, $900, and $700 over the next four years, respectively.What is the payback period?

Accepted Answer

A) 2.71 years 
B) 2.98 years 
C) 3.11 years 
D) 3.71 years 
E) never 
A) 2.71 years 
B) 2.98 years 
C) 3.11 years 
D) 3.71 years 
E) never

Question 7

Based on the payback period of _____ for this project, you should _____ the project.

Accepted Answer

A) 1.87 years; accept 
B) 2.87 years; accept 
C) 2.87 years; reject 
D) 3.13 years; reject 
E) 3.87 years; reject 
A) 1.87 years; accept 
B) 2.87 years; accept 
C) 2.87 years; reject 
D) 3.13 years; reject 
E) 3.87 years; reject

Question 8

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

Question 9

Ginny Trueblood is considering an investment which will cost her $120,000.The investment produces no cash flows for the first year.In the second year the cash inflow is $35,000.This inflow will increase to $55,000 and then $75,000 for the following two years before ceasing permanently.Ginny requires a 10% rate of return and has a required discounted payback period of three years.Ginny should _____ this project because the discounted payback period is ____.

Accepted Answer

A) accept; 2.03 years 
B) accept; 2.97 years 
C) accept; 3.97 years 
D) reject; 3.03 years 
E) reject; 3.97 years 
A) accept; 2.03 years 
B) accept; 2.97 years 
C) accept; 3.97 years 
D) reject; 3.03 years 
E) reject; 3.97 years

Question 10

An investment is acceptable if the profitability index (PI) of the investment is:

Accepted Answer

A) greater than one. 
B) less than one. 
C) greater than the internal rate of return (IRR). 
D) less than the net present value (NPV). 
E) greater than a pre-specified rate of return. 
A) greater than one. 
B) less than one. 
C) greater than the internal rate of return (IRR). 
D) less than the net present value (NPV). 
E) greater than a pre-specified rate of return.

Question 11

An investment has the following cash flows.Should the project be accepted if it has been assigned a required return of 9.5%? Why or why not? $$\begin{array} { c c } 
 \underline{\text { Year }} & \underline{\text { Cash Flow }} \
0&-\$24,000\
1 & \$ 8,000 \
2 & \$ 12,000 \
3 & \$ 9,000
\end{array}$$

Accepted Answer

A) yes; because the IRR exceeds the required return by about 0.39%. 
B) yes; because the IRR is less than the required return by about 3.9%. 
C) yes; because the IRR is positive. 
D) no; because the IRR exceeds the required return by about 3.9%. 
E) no; because the IRR is 9.89%. 
A) yes; because the IRR exceeds the required return by about 0.39%. 
B) yes; because the IRR is less than the required return by about 3.9%. 
C) yes; because the IRR is positive. 
D) no; because the IRR exceeds the required return by about 3.9%. 
E) no; because the IRR is 9.89%.

Question 12

An investment with an initial cost of $15,000 produces cash flows of $5,000 annually for 5 years.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) 3 
B) 3.2 
C) 3.75 
D) 4 
E) 5 
A) 3 
B) 3.2 
C) 3.75 
D) 4 
E) 5

Question 13

Which of the following does not characterize NPV?

Accepted Answer

A) NPV does not explicitly incorporate risk into the analysis. 
B) NPV incorporates all relevant cash flow information. 
C) NPV uses all of the project's cash flows. 
D) NPV discounts all future cash flows. 
E) Using NPV will lead to decisions that maximize shareholder wealth. 
A) NPV does not explicitly incorporate risk into the analysis. 
B) NPV incorporates all relevant cash flow information. 
C) NPV uses all of the project's cash flows. 
D) NPV discounts all future cash flows. 
E) Using NPV will lead to decisions that maximize shareholder wealth.

Question 14

If a project has a net present value equal to zero, then:
I.the present value of the cash inflows exceeds the initial cost of the project.
II.the project produces a rate of return that just equals the rate required to accept the project.
III.the project is expected to produce only the minimally required cash inflows.
IV.any delay in receiving the projected cash inflows will cause the project to have a negative net present value.

Accepted Answer

A) II and III only 
B) II and IV only 
C) I, II, and IV only 
D) II, III, and IV only 
E) I, II, and III only 
A) II and III only 
B) II and IV only 
C) I, II, and IV only 
D) II, III, and IV only 
E) I, II, and III only

Question 15

You are considering two mutually exclusive projects with the following cash flows.Will your choice between the two projects differ if the required rate of return is 8% rather than 11%? If so, what should you do? $\begin{array}{cccl}
\underline{\text { Year } }&\underline{\text { Project A }}& & \underline{\text { Project B }} \
0 &-\$ 240,000 & & -\$ 198,900 \
1 &\$ 0 & & \$110,800 \
2 &  \$ 0 & & \$ 82,500\
3 & \$ 325,000 & & \$ 45,000\

\end{array}$

Accepted Answer

A) yes; Select A at 8% and B at 11%. 
B) yes; Select B at 8% and A at 11%. 
C) yes; Select A at 8% and select neither at 11%. 
D) no; Regardless of the required rate, project A always has the higher NPV. 
E) no; Regardless of the required rate, project B always has the higher NPV. 
A) yes; Select A at 8% and B at 11%. 
B) yes; Select B at 8% and A at 11%. 
C) yes; Select A at 8% and select neither at 11%. 
D) no; Regardless of the required rate, project A always has the higher NPV. 
E) no; Regardless of the required rate, project B always has the higher NPV.

Question 16

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 17

Based on the internal rate of return of _____ for this project, you should _____ the project.

Accepted Answer

A) 8.95%; accept 
B) 10.75%; accept 
C) 8.44%; reject 
D) 9.67%; reject 
E) 10.33%; reject 
A) 8.95%; accept 
B) 10.75%; accept 
C) 8.44%; reject 
D) 9.67%; reject 
E) 10.33%; reject

Question 18

The length of time required for an investment to generate cash flows sufficient to recover the initial cost of the investment is called the:

Accepted Answer

A) net present value. 
B) internal rate of return. 
C) payback period. 
D) profitability index. 
E) discounted cash period. 
A) net present value. 
B) internal rate of return. 
C) payback period. 
D) profitability index. 
E) discounted cash period.

Question 19

Given that the net present value (NPV) is generally considered to be the best method of analysis, why should you still use the other methods?

Accepted Answer

A) The other methods help validate whether or not the results from the net present value analysis are reliable. 
B) You need to use the other methods since conventional practice dictates that you only accept projects after you have generated three accept indicators. 
C) You need to use other methods because the net present value method is unreliable when a project has unconventional cash flows. 
D) The internal rate of return must always indicate acceptance since this is the best method from a financial perspective. 
E) The discounted payback method must always be computed to determine if a project returns a positive cash flow since NPV does not measure this aspect of a project. 
A) The other methods help validate whether or not the results from the net present value analysis are reliable. 
B) You need to use the other methods since conventional practice dictates that you only accept projects after you have generated three accept indicators. 
C) You need to use other methods because the net present value method is unreliable when a project has unconventional cash flows. 
D) The internal rate of return must always indicate acceptance since this is the best method from a financial perspective. 
E) The discounted payback method must always be computed to determine if a project returns a positive cash flow since NPV does not measure this aspect of a project.

Question 20

Explain the differences and similarities between net present value (NPV) and the profitability index (PI).

Accepted Answer

The NPV and PI are basically the same ca

Exam 5: Net Present Value and Other Investment Rules

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?

What is the profitability index for an investment with the following cash flows given a 9% required return? 0 -\ 21,500 1 \ 7,400 2 \ 9,800 3 \ 8,900

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?

When two projects both require the total use of the same limited economic resource, the projects are generally considered to be:

The discounted payback rule states that you should accept projects:

A project has an initial cost of $1,900.The cash inflows are $0, $500, $900, and $700 over the next four years, respectively.What is the payback period?

Based on the payback period of _____ for this project, you should _____ the project.

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

An investment is acceptable if the profitability index (PI) of the investment is:

An investment has the following cash flows.Should the project be accepted if it has been assigned a required return of 9.5%? Why or why not? 0 - \2 4,000 1 \ 8,000 2 \ 12,000 3 \ 9,000

An investment with an initial cost of $15,000 produces cash flows of $5,000 annually for 5 years.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?

You are considering two mutually exclusive projects with the following cash flows.Will your choice between the two projects differ if the required rate of return is 8% rather than 11%? If so, what should you do? 0 -\ 240,000 -\ 198,900 1 \ 0 \1 10,800 2 \ 0 \ 82,500 3 \ 325,000 \ 45,000

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

Based on the internal rate of return of _____ for this project, you should _____ the project.

The length of time required for an investment to generate cash flows sufficient to recover the initial cost of the investment is called the:

Given that the net present value (NPV) is generally considered to be the best method of analysis, why should you still use the other methods?

Explain the differences and similarities between net present value (NPV) and the profitability index (PI).

Introduction to Corporate Finance

Financial Statements and Cash Flow

Financial Statements Analysis and Long-Term Planning

Discounted Cash Flow Valuation

Making Capital Investment Decisions

Risk Analysis, Real Options, and Capital Budgeting

Interest Rates and Bond Valuation

Stock Valuation

Risk and Return: Lessons From Market History

Return and Risk: the Capital Asset Pricing Model

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

Risk, Cost of Capital, and Capital Budgeting

Efficient Capital Markets and Behavioral Challenges

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 Securities to the Public

Leasing

Options and Corporate Finance

Options and Corporate Finance: Extensions and Applications

Warrants and Convertibles

Derivatives and Hedging Risk

Short-Term Finance and Planning

Cash Management

Credit and Inventory Management

Mergers and Acquisitions

Financial Distress

International Corporate Finance

Filters

Based on the payback period of _ for this project, you should _ the project.

Based on the internal rate of return of _ for this project, you should _ the project.