Question 1

The average accounting return is determined by:

Accepted Answer

A) dividing the yearly cash ﬂows by the investment. 
B) dividing the average cash ﬂows by the investment. 
C) dividing the average net income by the average investment. 
D) dividing the average net income by the initial investment. 
E) dividing the net income by the cash ﬂow.

Question 2

The Ziggy Trim and Cut Company can purchase equipment on sale for £4,300.The asset has a three-year life, will produce a cash ﬂow of £1,200 in the ﬁrst and second year, and £3,000 in the third year.The interest rate is 12%.Calculate the project's Discounted Payback and Proﬁtability Index assuming end of year cash ﬂows.Should the project be taken? If the Average Accounting Return was positive, how would this affect your decision?

Accepted Answer

The answer of The Ziggy Trim and Cut Company can...

Question 3

Payback is frequently used to analyze independent projects because:

Accepted Answer

A) it considers the time value of money. 
B) all relevant cash ﬂows are included in the analysis. 
C) it is easy and quick to calculate. 
D) it is the most desirable of all the available analytical methods from a ﬁnancial perspective. 
E) it produces better decisions than those made using either NPV or IRR.

Question 4

The discounted payback rule may cause: I.some positive net present value projects to be rejected.
II)the most liquid projects to be rejected in favor of less liquid projects.
III)projects to be incorrectly accepted due to ignoring the time value of money.
IV)some projects with negative net present values to be accepted.

Accepted Answer

A) (I) correct only. 
B) (II) correct only. 
C) (III) correct only. 
D) (IV) correct only. 
E) (I) and (IV) correct only.

Question 5

Analysis using the proﬁtability index:

Accepted Answer

A) frequently conﬂicts with the accept and reject decisions generated by the application of
The net present value rule. 
B) is useful as a decision tool when investment funds are limited. 
C) cannot be used to aid capital rationing. 
D) utilizes the same basic variables as those used in the average accounting return. 
E) produces results which typically are diﬃcult to comprehend or apply.

Question 6

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

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. 
E) None of the above.

Question 8

The payback period rule:

Accepted Answer

A) discounts cash ﬂows. 
B) ignores initial cost. 
C) always uses all possible cash ﬂows in its calculation. 
D) discounts cash ﬂows, but does not ignore initial cost. 
E) None of the above.

Question 9

The payback period rule accepts all investment projects in which the payback period for the cash ﬂows is:

Accepted Answer

A) equal to the cut-off point. 
B) greater than the cut-off point. 
C) less than the cut-off point. 
D) positive. 
E) None of the above.

Question 10

The internal rate of return is:

Accepted Answer

A) more reliable as a decision making tool than net present value whenever you are
Considering mutually exclusive projects. 
B) equivalent to the discount rate that makes the net present value equal to one. 
C) diﬃcult to compute without the use of either a ﬁnancial calculator or a computer. 
D) dependent upon the interest rates offered in the marketplace. 
E) a better methodology than net present value when dealing with unconventional cash
ﬂows.

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?

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%.

Question 12

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?

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.

Question 13

A project will have more than one IRR if:

Accepted Answer

A) the IRR is positive. 
B) the IRR is negative. 
C) the NPV is zero. 
D) the cash ﬂow pattern exhibits more than one sign change. 
E) the cash ﬂow pattern exhibits exactly one sign change.

Question 14

If you want to review a project from a beneﬁt-cost perspective, you should use the _______ method of analysis.

Accepted Answer

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

Question 15

You are considering a project with the following data:
$\begin{array} { l l } \text { Internal rate of return: } & 8.7 \% \ \text { Profitability ratio: } & 0.98 \ \text { Net present value: } & - £ 393 \ \text { Payback period: } & 2.44 \text { years } \ \text { Required return: } & 9.5 \% \end{array}$
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.

Question 16

You are considering the following two mutually exclusive projects. Both projects will be depreciated using straight-line depreciation to a zero book value over the life of the project. Neither project has any salvage value.
$\begin{array}{l}
\begin{array} { | l | c | c | } 
\hline \text { Year } & \text { Project A } & \text { Project B } \
\hline 0 & £ 75,000 & £ 70,000 \
\hline 1 & £ 19,000 & £ 10,000 \
\hline 2 & £ 48,000 & £ 16,000 \
\hline 3 & £ 12,000 & £ 72,000 \
\hline
\end{array}\
\begin{array} { | l | l | l | } 
\hline & \text { Project A } & \text { Project B } \
\hline \text { Required rate of return } & 10 \% & 13 \% \
\hline \text { Required payback period } & 2.0 \text { years } & 2.0 \text { years } \
\hline \text { Required accounting return } & 8 \% & 11 \% \
\hline
\end{array}
\end{array}$
Based upon the payback period and the information provided in the problem, you should:

Accepted Answer

A) accept both project A and project B. 
B) reject both project A and project B. 
C) accept project A and reject project B. 
D) accept project B and reject project A. 
E) require that management extend the payback period for project A since it has a higher
Initial cost.

Question 17

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

Accepted Answer

A) 3.15 years. 
B) 3.38 years. 
C) 3.45 years. 
D) 3.60 years. 
E) 4.05 years.

Question 18

When the present value of the cash inﬂows exceeds the initial cost of a project, then the project should be:

Accepted Answer

A) accepted because the internal rate of return is positive. 
B) accepted because the proﬁtability index is greater than 1. 
C) accepted because the proﬁtability index is negative. 
D) rejected because the internal rate of return is negative. 
E) rejected because the net present value is negative.

Question 19

A £25 investment produces £27.50 at the end of the year.Which of the following is true?

Accepted Answer

A) NPV is positive if the interest rate is less than 10%. 
B) NPV is non-zero if the interest rate is equal to 10%. 
C) NPV is positive if the interest rate is more than 10%. 
D) NPV is negative if the interest rate is less than 10%. 
E) None of the above.

Question 20

Martin is analyzing a project and has gathered the following data. Based on this data, what is the average accounting rate of return? The firm depreciates it assets using straight-line depreciation to a zero book value over the life of the asset.

Accepted Answer

A) 13.08% 
B) 15.77% 
C) 21.83% 
D) 26.17% 
E) 31.54%

Exam 6: Net Present Value and Other Investment Rules