Deck 14: Investment Appraisal

Question 1

Which of the following statements is correct?

A) ARR includes the timing of cash flows and profits
B) ARR addresses the problems associated with the assumptions in profit measurement
C) ARR does not use profit figures
D) ARR can be calculated in a number of different ways

Answer 1

D

Question 2

Annual cash flows from a project are usually lower than the annual profits,because depreciation is not paid in cash

Answer 2

False

Question 3

Which of the following is not used as an investment appraisal technique?

A) IRR
B) ARR
C) NPV
D) Capital gearing

Answer 3

D

Question 4

In order to convert a future cash flow into a present value,you need to:

A) Divide by a discount factor
B) Divide by the current investment rate
C) Multiply by a discount factor
D) Multiply by the current investment rate

Question 5

The net present value (NPV)decision rule is:

A) Accept the project if the NPV is < 0
B) Reject the project if the NPV is > 0
C) Accept the project if the NPV is > 0
D) Accept the project if the NPV = 0

Question 6

Which of the following is false?

A) It is usually assumed that, at the end of a projects life, additional working capital will no longer be required and will become a cash inflow
B) Installation costs are not relevant for the purposes of investment appraisal
C) The scrap value of machinery to be replaced should be included in an investment appraisal
D) The amount of corporation tax to be paid should be included in an investment appraisal

Question 7

ARR is expressed as:

A) $\frac {\text { Total annual profit }} { \text { Total invested} }$ $\times 100$

B) $\frac {\text { Average annual profit }} { \text {Amount initially invested } }$ $\times 100$

C) $\frac {\text { Amount initially invested }} { \text { Average annual profit} }$ $\times 100$

D) $\frac {\text { IRR}} { \text {Amount initially invested } }$$\times 100$

Question 8

A company is evaluating an investment in a piece of machinery.The machine costs £10,000 and is expected to generate cash flows of £3,000 in year 1,£4,300 in year 2 and £5,800 in year 3.The discount rate is 10% and the relevant discount factors are:
$$\begin{array} { c c } \text { Year 1 } & 0.909 \\\text { Year 2 } & 0.826 \\\text { Year 3 } & 0.751\end{array}$$
Calculate the NPV

A) £13,100
B) £10,634.60
C) £634.60
D) £0

Question 9

The accounting rate of return (ARR)calculation uses accounting profits as opposed to cash flows

Question 10

Which of the following is correct?

A) The internal rate of return (IRR) is technically flawed and can lead to incorrect decisions
B) The internal rate of return (IRR) involves less calculations than other investment appraisal methods
C) The internal rate of return (IRR) can deal with mutually exclusive projects
D) The internal rate of return (IRR) can distinguish between projects involving investment from those requiring borrowing

Question 11

A project with a high IRR might have a lower NPV

Question 12

Which of the following is correct?

A) Payback is based on profit as opposed to cash flow
B) Payback is based on cash flow as opposed to profit
C) Payback shows the internal rate of return (IRR) of the project
D) None of the above statements are correct

Question 13

Which of the following would be a reason for preferring £100 now as opposed to £100 in 1 years time?

A) Risk
B) Interest lost
C) Inflation
D) All of the above

Question 14

The internal rate of return (IRR)calculates the discount rate at which the net present value (NPV)of the project is zero

Question 15

A company with a 12% cost of capital will consider pursuing a project which yields a 10% return per annum because it will increase the value of the company

Question 16

Which of the following statements is correct?

A) Payback is complex to calculate
B) Payback gives a better indication of return than NPV
C) The longer the payback period the less risk associated with the project
D) The shorter the payback period the less risk associated with the project

Question 17

Which of the following is correct?

A) The costs associated with feasibility studies should not be included in an investment appraisal
B) The cash flows from fixed overheads are usually excluded from an investment appraisal
C) HM Revenue and Customs allows profits to be reduced for tax purposes through capital allowances for depreciation
D) All of the above statements are correct

Question 18

Which of the following approaches could be used in assessing different projects with different degrees of risk?

A) Use lower discount rates for risky projects
B) Use higher discount rates for risky projects
C) Use IRR - as this will ensure risk is taken into account
D) Always take the less risky project

Question 19

Which of the following statements is correct?

A) There is no clear relationship between ROCE and cost of capital to be used for discounted cash flow (DCF)
B) The P/E ratio is a good indication of investors expectations and can be easily converted into a cost of capital of capital figure
C) If a companies dividend yield is high this means that shareholders expectations are high and future dividends are expected to grow
D) All of the above are correct

Question 20

One of the key advantages of using "payback" as a method of investment appraisal is that it considers cash flows after the initial investment has been paid back

Question 21

ROI stands for:

A) Residual or Other Income
B) Return On Investment
C) Revenue Over Investment
D) Revenue Only Income

Question 22

The difference between "Risk" and "Uncertainty" is:

A) "Risk" is quantifiable and can be estimated, with the use of probability. "Uncertainty" is unknown
B) "Risk" always exists. No investment can be "risk-free". But there are things that can be "certain"
C) There is no difference. The terms are interchangeable
D) "Risk" cannot be measured. "Certainty" can be estimated with the use of probability

Question 23

Which of the following statements considering investment appraisal methods are correct?
(i)Payback Period is based on Cashflow,not profits
(ii)ARR is based on cashflow,not profits
(iii)Discounted Cashflow includes the Time Value of Money in the calculation

A) They are all correct
B) (i) is false. (ii) and (iii) are correct
C) (i) and (iii) are correct. (ii) is false
D) They are all false

Question 24

Companies may have a variety of funding methods.
For example,a company may have 10,000 £1 shares in issue,currently trading at £2.00.This gives it an equity value of £20,000.The shareholders have an expected return of 20% i.e.for the £2 share they would expect a dividend of 40p
It also has a £5,000 loan at a rate of 10% interest (after tax).This gives it a debt value of £5,000.
The Weighted Average Cost of Capital is:

A) A conservative estimate of the Cost of Capital. Shareholders should be aware of the minimum expected return. Although they expect 40p, they may not get it and so the rate is lowered
B) 10%. This is the rate to use when discounting a new capital investment that is to be funded with a loan
C) 15% because some of the company is equity and some is debt
D) The different rates of the different funding methods, combined at their respective "weights"

Question 25

When considering which values to use in Investment Appraisal,only "Relevant Costs" are used.
A company has identified the following costs involved in a project:
(i)Project Manager salary £30,000.The Project Manager is currently an accountant paid £28,000 - when the project starts,a new accountant will be employed at a cost of £20,000.
(ii)The Project Office will be located in a current office; rent is £3,000.
(iii)The additional income is expected to be £400,000 before tax,which is payable at 30%
The Relevant Costs are:

A) £30,000 salary, £3,000 rent, £400,000 income
B) £22,000 salary, nil rent, £280,000 income
C) £30,000 salary, £3,000 rent, £280,000 income
D) £30,000 salary, nil rent, £280,000 income