Question 1

The elements that cause problems with the use of the IRR in projects that are mutually exclusive are:

Accepted Answer

A) the discount rate and scale problems. 
B) timing and scale problems. 
C) the discount rate and timing problems. 
D) scale and reversing flow problems. 
E) timing and reversing flow problems. 
A) the discount rate and scale problems. 
B) timing and scale problems. 
C) the discount rate and timing problems. 
D) scale and reversing flow problems. 
E) timing and reversing flow problems.

Question 2

A mutually exclusive project is a project whose:

Accepted Answer

A) acceptance or rejection has no effect on other projects. 
B) NPV is always negative. 
C) IRR is always negative. 
D) acceptance or rejection affects other projects. 
E) cash flow pattern exhibits more than one sign change. 
A) acceptance or rejection has no effect on other projects. 
B) NPV is always negative. 
C) IRR is always negative. 
D) acceptance or rejection affects other projects. 
E) cash flow pattern exhibits more than one sign change.

Question 3

Accepting positive NPV projects benefits the stockholders because:

Accepted Answer

A) it is the most easily understood valuation process. 
B) the present value of the expected cash flows are equal to the cost. 
C) the present value of the expected cash flows are greater than the cost. 
D) it is the most easily calculated. 
E) None of the above. 
A) it is the most easily understood valuation process. 
B) the present value of the expected cash flows are equal to the cost. 
C) the present value of the expected cash flows are greater than the cost. 
D) it is the most easily calculated. 
E) None of the above.

Question 4

Based on the profitability index (PI) rule, should a project with the following cash flows be accepted if the discount rate is 8%? Why or why not? $$\begin{array} { c c } 
\underline{\text { Year }} &\underline{ \text { Cash Flow }} \
 0 & - \$ 18,600 \
1 & \$ 10,000 \
2 & \$ 7,300 \
3 & \$3,700
\end{array}$$

Accepted Answer

A) yes; because the PI is 1.008. 
B) yes; because the PI is .992. 
C) yes; because the PI is .999. 
D) no; because the PI is 1.008. 
E) no; because the PI is .992. 
A) yes; because the PI is 1.008. 
B) yes; because the PI is .992. 
C) yes; because the PI is .999. 
D) no; because the PI is 1.008. 
E) no; because the PI is .992.

Question 5

The Walker Landscaping Company can purchase a piece of equipment for $3,600.The asset has a two-year life, and will produce a cash flow of $600 in the first year and $4,200 in the second year.The interest rate is 15%.Calculate the project's payback assuming steady cash flows.Also calculate the project's IRR.Should the project be taken? Check your answer by computing the project's NPV.

Accepted Answer

Payback = 1.714 year

Question 6

The Liberty Co.is considering two projects.Project A consists of building a wholesale book outlet on lot #169 of the Englewood Retail Center.Project B consists of building a sit-down restaurant on lot #169 of the Englewood Retail Center.When trying to decide whether to build the book outlet or the restaurant, management should rely most heavily on the analysis results from the _____ method of analysis.

Accepted Answer

A) profitability index 
B) internal rate of return 
C) payback 
D) net present value 
E) accounting rate of return 
A) profitability index 
B) internal rate of return 
C) payback 
D) net present value 
E) accounting rate of return

Question 7

Matt is analyzing two mutually exclusive projects of similar size and has prepared the following data.Both projects have 5 year lives. $$\begin{array} { l l l } 
& \frac { \text { Project } \mathrm { A } } { } & \frac { \text { Project B } } { } \
\text { Net present value } & \$ 15,090 & \$ 14,693 \
\text { Payback period } & 2.76 \text { years } & 2.51 \text { years } \
\text { Required return } & 8.3 \% & 8.0 \%
\end{array}$$ Matt has been asked for his best recommendation given this information.His recommendation should be to accept:

Accepted Answer

A) project B because it has the shortest payback period. 
B) both projects as they both have positive net present values. 
C) project A and reject project B based on their net present values. 
D) project B and reject project A based on other criteria not mentioned in the problem. 
E) project B and reject project A based on both the payback period and the average accounting return. 
A) project B because it has the shortest payback period. 
B) both projects as they both have positive net present values. 
C) project A and reject project B based on their net present values. 
D) project B and reject project A based on other criteria not mentioned in the problem. 
E) project B and reject project A based on both the payback period and the average accounting return.

Question 8

The discounted payback rule may cause:

Accepted Answer

A) some positive net present value projects to be rejected. 
B) the most liquid projects to be rejected in favor of less liquid projects. 
C) projects to be incorrectly accepted due to ignoring the time value of money. 
D) some projects with negative net present values to be accepted. 
E) Both A and D. 
A) some positive net present value projects to be rejected. 
B) the most liquid projects to be rejected in favor of less liquid projects. 
C) projects to be incorrectly accepted due to ignoring the time value of money. 
D) some projects with negative net present values to be accepted. 
E) Both A and D.

Question 9

The two fatal flaws of the internal rate of return rule are:

Accepted Answer

A) arbitrary determination of a discount rate and failure to consider initial expenditures. 
B) arbitrary determination of a discount rate and failure to correctly analyze mutually exclusive investment projects. 
C) arbitrary determination of a discount rate and the multiple rate of return problem. 
D) failure to consider initial expenditures and failure to correctly analyze mutually exclusive investment projects. 
E) failure to correctly analyze mutually exclusive investment projects and the multiple rate of return problem. 
A) arbitrary determination of a discount rate and failure to consider initial expenditures. 
B) arbitrary determination of a discount rate and failure to correctly analyze mutually exclusive investment projects. 
C) arbitrary determination of a discount rate and the multiple rate of return problem. 
D) failure to consider initial expenditures and failure to correctly analyze mutually exclusive investment projects. 
E) failure to correctly analyze mutually exclusive investment projects and the multiple rate of return problem.

Question 10

The internal rate of return may be defined as:

Accepted Answer

A) the discount rate that makes the NPV equal to zero. 
B) the difference between the market rate of interest and the NPV. 
C) the market rate of interest less the risk-free rate. 
D) the project acceptance rate set by management. 
E) None of the above. 
A) the discount rate that makes the NPV equal to zero. 
B) the difference between the market rate of interest and the NPV. 
C) the market rate of interest less the risk-free rate. 
D) the project acceptance rate set by management. 
E) None of the above.

Question 11

You are considering two independent projects both of which have been assigned a discount rate of 8%.Based on the profitability index, what is your recommendation concerning these projects?

Accepted Answer

A) You should accept both projects since both of their PIs are positive. 
B) You should accept project A since it has the higher PI. 
C) You should accept both projects since both of their PIs are greater than 1. 
D) You should only accept project B since it has the largest PI and the PI exceeds 1. 
E) Neither project is acceptable. 
A) You should accept both projects since both of their PIs are positive. 
B) You should accept project A since it has the higher PI. 
C) You should accept both projects since both of their PIs are greater than 1. 
D) You should only accept project B since it has the largest PI and the PI exceeds 1. 
E) Neither project is acceptable.

Question 12

Graham and Harvey (2001) found that ___ and ___ were the two most popular capital budgeting methods.

Accepted Answer

A) Internal Rate of Return; Payback Period 
B) Internal Rate of Return; Net Present Value 
C) Net Present Value; Payback Period 
D) Modified Internal Rate of Return; Internal Rate of Return 
E) Modified Internal Rate of Return; Net Present Value 
A) Internal Rate of Return; Payback Period 
B) Internal Rate of Return; Net Present Value 
C) Net Present Value; Payback Period 
D) Modified Internal Rate of Return; Internal Rate of Return 
E) Modified Internal Rate of Return; Net Present Value

Question 13

It will cost $2,600 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) .86 years 
B) 1.46 years 
C) 1.86 years 
D) 2.46 years 
E) 2.86 years 
A) .86 years 
B) 1.46 years 
C) 1.86 years 
D) 2.46 years 
E) 2.86 years

Question 14

The internal rate of return (IRR):
I.rule states that a typical investment project with an IRR that is less than the required rate should be accepted.
II.is the rate generated solely by the cash flows of an investment.
III.is the rate that causes the net present value of a project to exactly equal zero.
IV.can effectively be used to analyze all investment scenarios.

Accepted Answer

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

Question 15

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 16

You are considering an investment with the following cash flows.If the required rate of return for this investment is 13.5%, should you accept it based solely on the internal rate of return rule? Why or why not? $\begin{array}{ll}
\underline{\text { Year }} & \underline{\text { Cash Flow} } \
0& -\$ 12,000 \
1 & \$ 5,500 \
2 & \$ 8,000 \
3 & -\$ 1,500
\end{array}$

Accepted Answer

A) Yes; because the IRR exceeds the required return. 
B) Yes; because the IRR is a positive rate of return. 
C) No; because the IRR is less than the required return. 
D) No; because the IRR is a negative rate of return. 
E) You can not apply the IRR rule in this case because there are multiple IRRs. 
A) Yes; because the IRR exceeds the required return. 
B) Yes; because the IRR is a positive rate of return. 
C) No; because the IRR is less than the required return. 
D) No; because the IRR is a negative rate of return. 
E) You can not apply the IRR rule in this case because there are multiple IRRs.

Question 17

Based on the profitability index of _____ for this project, you should _____ the project.

Accepted Answer

A) .97; accept 
B) 1.05; accept 
C) 1.18; accept 
D) .97; reject 
E) 1.05; reject 
A) .97; accept 
B) 1.05; accept 
C) 1.18; accept 
D) .97; reject 
E) 1.05; reject

Exam 5: Net Present Value and Other Investment Rules

The elements that cause problems with the use of the IRR in projects that are mutually exclusive are:

A mutually exclusive project is a project whose:

Accepting positive NPV projects benefits the stockholders because:

Based on the profitability index (PI) rule, should a project with the following cash flows be accepted if the discount rate is 8%? Why or why not? 0 -\ 18,600 1 \ 10,000 2 \ 7,300 3 \3 ,700

The discounted payback rule may cause:

The two fatal flaws of the internal rate of return rule are:

The internal rate of return may be defined as:

You are considering two independent projects both of which have been assigned a discount rate of 8%.Based on the profitability index, what is your recommendation concerning these projects?

Graham and Harvey (2001) found that ___ and ___ were the two most popular capital budgeting methods.

It will cost $2,600 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?

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

You are considering an investment with the following cash flows.If the required rate of return for this investment is 13.5%, should you accept it based solely on the internal rate of return rule? Why or why not? 0 -\ 12,000 1 \ 5,500 2 \ 8,000 3 -\ 1,500

Based on the profitability index of _____ for this project, you should _____ the project.

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

Graham and Harvey (2001) found that _ and _ were the two most popular capital budgeting methods.

Based on the profitability index of _ for this project, you should _ the project.