Deck 17: Capital Budgeting Analysis

Question 1

The depreciation tax shield equals the amount of the depreciation expense multiplied by the firm's tax rate.

Answer 1

True

Question 2

The net present value of an investment is the present value of a project's future cash inflows minus its initial cost.

Answer 2

True

Question 3

The selection stage involves applying the appropriate capital budgeting techniques to help make a final decision.

Answer 3

True

Question 4

The profitability index is the ratio between the some of the cash flows and the projects' cost.

Question 5

Whenever the net present value of a project is positive, the profitability index is greater or equal to 1.0.

Question 6

The majority of capital budgeting projects are short-lived projects.

Question 7

The identification stage in capital budgeting involves finding potential capital investment opportunities and identifying determining whether a project involves a replacement decision and/or revenue expansion.

Question 8

The net present value, internal rate of return and payback period methods always agree on which project would enhance shareholder wealth and which would diminish it.

Question 9

Information generation develops three types of data: internal financial data, external economic and political data, and non-financial data.

Question 10

a sunk cost is a project-related expense that is dependent upon whether or not the project is undertaken.

Question 11

A capital budgeting project's cash flows, including the total up-front cost of the project, are typically known with certainty before the project starts.

Question 12

The net present value and internal rate of return methods will always agree on whether a project enhances or harms shareholder wealth.

Question 13

To maximize shareholder wealth, a financial manager needs to find capital budgeting projects that have positive net present values.

Question 14

Capital budgeting is the process of identifying, evaluating, and implementing a firm's investment opportunities.

Question 15

The internal rate of return is the return that caused the net present value to be zero.

Question 16

Capital budgeting decisions can only involve mutually exclusive projects.

Question 17

Estimates of revenues and costs should take the business unit view, rather than the corporate view.

Question 18

The typical capital budgeting project involves a large up-front cash outlay, followed by a series of smaller net cash outflows.

Question 19

The profitability index is the least preferable method to use to evaluate capital budgeting projects because it does not take the time value of money into account.

Question 20

Independent projects are not in direct competition with one another.

Question 21

Expansion projects involving new areas and product lines are usually associated with greater cash inflow uncertainty.

Question 22

One weakness of the payback period method is that all cash flows beyond the payback period are ignored.

Question 23

A positive NPV suggests that a project produces sufficient cash flows to cover not only its initial cost, but also all financing costs.

Question 24

A NPV profile shows how NPV varies given alternative IRRs.

Question 25

The stand alone principle suggests that a project must be viewed separately from the rest of the firm.

Question 26

A firm's cost of capital is the discount rate used in the evaluation of capital budgeting projects using payback and IRR.

Question 27

A firm's cost of capital is discount rate used in the evaluation of capital budgeting projects using NPV and IRR.

Question 28

Nonfinancial information plays no part in capital budgeting.

Question 29

The internal rate of return measures the return on the project's initial cost.

Question 30

Payback explicitly considers the time value of money.

Question 31

The stand-alone principle focuses on the project's own cash flows, uncontaminated by cash flows from the firm's other activities.

Question 32

Projects favored using payback techniques will be ranked the same using net present value.

Question 33

A firm's cost of capital represents a firm's weighted average cost of financing.
Not in chapter

Question 34

A higher-risk project needs to be evaluated using a lower required rate of return.

Question 35

Sound capital budgeting decisions require a variety of information including internal financial data, external economic and political data, and non-financial data.

Question 36

The profitability index is calculated by subtracting the net investment from the present value of the cash flows.

Question 37

Projects with negative net present values will lead to a decrease in the value of the firm.

Question 38

The profitability index is also sometimes referred to as the benefit/cost ratio.

Question 39

The profitability index measures the present value of benefits received for each dollar invested.

Question 40

Incremental cash flows represents a project's cash flows summed together with the firm's other cash flows to get a total firm view of the project.

Question 41

Internal rate of return (IRR) and net present value (NPV) methods:

A)generally arrive at the same accept/reject decisions
B)are less sophisticated than the payback period
C)cannot make use of the same cash flows
D)can be substituted for by the payback period

Question 42

Only oneWhich of the following features is characteristic of a payback period? .Identify this feature.

A)uses discounting
B)ignores cash flows beyond the payback period
C)equivalent to net present value
D)considers time value of money

Question 43

Mutually exclusive projects are projects that are not in direct competition with one another.

Question 44

The process of allocating funds among competing investment opportunities is referred to as:

A)capital expenditures
B)initial cash flow analysis
C)long-term forecasting
D)capital budgeting

Question 45

When applied to the analysis of independent projects, NPV and IRR never provide conflicting resultsaccept or reject decisions.

Question 46

Cannibalization occurs when a project robs cash flow from the firm's existing line of business.

Question 47

Sunk costs are relevant in capital budgeting analysis and should be considered in calculating a project's initial investment.

Question 48

Your company owns land in a busy shopping district.If the chair of the company's board of directors thinks they can build a plant on that land and that the land will incur no additional cost, the chair fails to take into account:

A)capital expenditures
B)opportunity costs
C)sunk costs
D)depreciation

Question 49

The higher the risk of a project, the higher its risk-adjusted discount rate and thus the lower the net present value for a given stream of cash inflows.

Question 50

Two years ago, a company spent $450,000 on a consulting study that focused on the technology of the firm's operations.Now it appears that technology is noncompliant with existing regulations.New technology must replace the old project.The $450,000 would represent:

A)an opportunity cost
B)an operating expenditure
C)a sunk cost
D)none of the above

Question 51

The time required for the cumulative cash flows from a project to equal zero is called the:

A)profitability index
B)cash flow time frame
C)project life
D)payback period

Question 52

Which of the following is true of sunk costs?

A)not included in initial cash flow
B)similar to opportunity costs
C)often combined with terminal cash flow
D)deciding factor in most project decisions

Question 53

In a capital budgeting context, a project's required rate of return is called the yield to maturity.

Question 54

The method that calculates the ratio of the present value of the positive cash flows of a project to the absolute value of the present value of the negative cash flows is called the: Awkwardly worded.#98 is phrased more clearly.

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

Question 55

Enhancement occurs when a project robs cash flow from the firm's existing line of business.

Question 56

Which of the following is the best expression of the net preset value (NPV) acceptance criterion?

A)positive cash flows total greater than negative flows
B)number of positive cash flows exceeds negative
C)payback within one third the life of the project
D)NPV is greater than or equal to zero

Question 57

The risk-adjusted discount rate (RADR) is the risk adjustment factor that represents the percent of estimated cash inflows that investors would be satisfied to receive for certain rather than the cash inflows that are possible for each year.

Question 58

In calculation of a payback period, what use is made of cash flows occurring after the end of the payback period?

A)they are ignored.
B)they are discounted back to time zero.
C)they are included in the accept/reject decision.
D)they are normally canceled by initial negative cash flows.

Question 59

Opportunity costs reflect the cost of passing up the next best alternative and are irrelevant in capital budgeting analysis.

Question 60

A net present value profile is a useful tool for evaluating the sensitivity of a project's NPV to changes in required return.

Question 61

When a project's net present value exceeds zero, then:

A)the project should be accepted
B)the project will be acceptable using the payback period method
C)the IRR should be calculated to ensure that the project's IRR exceeds the cost of capital
D)both a and c are true

Question 62

Which one of the following best explains the impact on a firm that accepts a project with a negative NPV?

A)negative cash flows
B)decrease in the value of the firm
C)high marginal cost of capital
D)low initial returns

Question 63

When the net present value is negative, the internal rate of return is __________ the cost of capital.

A)greater than
B)greater than or equal to
C)less than
D)equal to
E)none of the above

Question 64

If a project has a positive net present value, then the profitability index is:

A)greater than one
B)less than one
C)equal to one
D)cannot tell from this information

Question 65

As a rule, independent projects are accepted if the internal rate of return is greater than or equal to:

A)1.0
B)zero
C)marginal cost of capital
D)expected rate of return

Question 66

A firm is evaluating a proposal which has an initial investment of $50,000 and has cash flows of $15,000 per year for five years.The payback of the project is:

A)1.5 years
B)2 years
C)3.3 years
D)4 years
E)none of the above

Question 67

A firm is evaluating a proposal which has an initial investment of $50,000 and has cash flows of $15,000 per year for five years.If the firm's required return or cost of capital is 10%, the NPV of the project is:

A)$5,000
B)$6,862
C)-$5,000
D)-$6,862
E)none of the above

Question 68

A firm is evaluating a proposal which has an initial investment of $50,000 and has cash flows of $15,000 per year for five years.If the firm's required return or cost of capital is 15%, should it accept the project using the IRR as a decision criteria?

A)yes
B)no
C)can't tell
D)none of the above

Question 69

All of the groups of cash flows from the firm's statement of cash flows are also used in the analysis of project cash flows EXCEPT:

A)cash flow from financing
B)cash flow from investment
C)cash flow from operations
D)all are included

Question 70

The payback period concept is best explained by which of the following?

A)marginal cost of capital
B)point where initial investment has been returned
C)rate where NPV is equal to zero
D)accounting rate of return

Question 71

122.69.The capital budgeting process consists of all of the following stages except:

A)follow-up.
B)selection.
C)implementation.
D)development.
E)all of the above are included in the capital budgeting process

Question 72

The stand-alone principle means that:

A)projects should not be evaluated against one another
B)projects must operate independently of the firm's other projects
C)analysts should focus on the project's cash flows, uncontaminated by cash flows from the firm's other activities
D)none of the above

Question 73

All of the following are considered stages in the capital budgeting process EXCEPT:

A)development
B)identification
C)implementation
D)selection
E)all are included in the capital budgeting process

Question 74

The internal rate of return concept is best explained by which of the following?

A)rate where NPV is equal to zero
B)point where initial investment has been returned
C)marginal cost of capital
D)average book value

Question 75

The after-tax cash flows without the project are referred to as:

A)the net investment
B)incremental cash flows
C)the base case
D)none of the above

Question 76

With independent projects, NPV and IRR provide identical accept/reject decisions.If, however, you have two mutually exclusive projects to evaluate, the most accurate thing you could say about the eventual results is that:

A)NPV and IRR may give conflicting resultsrankings
B)NPV and IRR never give the same resultrankings
C)NPV and IRR always give the same resultrankings
D)IRR is more lenient in accepting

Question 77

All of the following are considered stages in the capital budgeting process EXCEPT:

A)invention
B)development
C)implementation
D)selection
E)all are included

Question 78

When the net present value for a project is negative, the internal rate of return is _________ the cost of capital.

A)greater than
B)greater than or equal to
C)less than
D)equal to

Question 79

When considering the time value of money, which of the following four methods of project evaluation would appear to be the least satisfactory?

A)internal rate of return
B)profitability index
C)net present value
D)payback period method

Question 80

Of the four options listed below and encountered in project evaluation, which one is most likely to make a project seem less attractive?

A)underestimating negative cash flows
B)overestimating positive cash flows
C)using a higher cost of capital
D)ignoring the time value of money