Question 1

The Monte Carlo simulation:

Accepted Answer

A)  can be useful for estimating a project's market risk. 
B)  uses probability distributions for variables as input data to estimate the project's net present value (NPV). 
C)  produces both an expected NPV (or IRR) and a measure of the riskiness of the NPV or IRR for different scenarios. 
D)  gives the exact outcome that can be expected from a project. 
E)  calculates NPV for a change in one key variable.

Question 2

_____ is the uncertainty associated with the price at which the currency from one country can be converted into the currency of another country.

Accepted Answer

A)  Pure play risk 
B)  Political risk 
C)  Beta risk 
D)  Exchange rate risk 
E)  Market risk

Question 3

If a firm is considering purchasing an asset whose beta is greater than the current beta of the firm, it should use a discount rate greater than the firm's average required rate of return to evaluate the possible investment.

Accepted Answer

A) True 
 B)False

Question 4

A firm is considering the purchase of an asset whose risk is greater than the current risk of the firm, based on any method for assessing risk. In evaluating this asset, the decision maker should:

Accepted Answer

A)  decrease the internal rate of return (IRR) of the asset to reflect the greater risk. 
B)  decrease the net present value NPV of the asset to reflect the greater risk. 
C)  reject the asset, since its acceptance would increase the risk of the firm. 
D)  ignore the risk differential if the asset to be accepted would comprise only a small fraction of the total assets of the firm. 
E)  increase the required rate of return from the project to reflect the higher risk of the project.

Question 5

Capital budgeting decisions must be based on the accounting income the project generates since stockholders are concerned with the reported net income the firm generates.

Accepted Answer

A) True 
 B)False

Question 6

Which of the following rules is essential for successful cash flow estimates, and ultimately, to successful capital budgeting?

Accepted Answer

A)  The return on invested capital is the only relevant cash flow. 
B)  Only incremental cash flows are relevant to the accept/reject decision. 
C)  Total cash flows are relevant to capital budgeting analysis and the accept/reject decision. 
D)  Inflation is considered while estimating incremental cash flows. 
E)  Shipping and installation costs are included in cash flow estimation.

Question 7

If an asset being considered for acquisition has a beta of zero, its expected return will be equal to the risk-free rate.

Accepted Answer

A) True 
 B)False

Question 8

Trust Engineering Company is considering the purchase of a new machine to replace an existing one. The old machine was purchased 5 years ago at a cost of $20,000, and it is being depreciated on a straight line basis to a zero salvage value over a 10-year life. The current market value of the old machine is $14,000. The new machine, which falls into the MACRS 5-year class, has an estimated life of 5 years, it costs $30,000. The change in depreciation expense to be considered while capital budgeting for this machine is _____. The MACRS rates for 5-year class are Year 1-20%, Year 2-32%, Year 3-19%, Year4-12%, Year 5-11%, Year 6-6%.

Accepted Answer

A)  $10,500 
B)  $23,400 
C)  $44,000 
D)  $20,000 
E)  $17,000

Question 9

Depreciation must be considered when evaluating the incremental operating cash flows associated with a capital budgeting project because:

Accepted Answer

A)  it represents a tax-deductible cash expense. 
B)  the firm has a cash outflow equal to the depreciation expense each year. 
C)  depreciation has an impact on the taxes paid by the firm, which is a cash flow. 
D)  depreciation is a sunk cost. 
E)  depreciation is a cash flow that doesn't change.

Question 10

Companies can reduce loss from expropriation:

Accepted Answer

A)  by expecting low returns from high risk foreign subsidiaries. 
B)  by establishing foreign subsidiaries in countries with volatile exchange rates. 
C)  by financing the foreign subsidiary using foreign currencies. 
D)  by obtaining insurance against economic losses from expropriation. 
E)  by investing all the funds in one foreign subsidiary.

Question 11

The process of sending cash flows from a foreign subsidiary back to the parent company is known as _____.

Accepted Answer

A)  net present value analysis 
B)  Monte Carlo simulation 
C)  pure play method 
D)  capital allocation 
E)  repatriation of earnings

Question 12

Which of the following methods involves calculating an average beta for firms in a similar business and then applying that beta to determine the beta of its own project?

Accepted Answer

A)  Sensitivity Analysis 
B)  Pure play method 
C)  Accounting beta method 
D)  Capital asset pricing model (CAPM) method 
E)  Net present value (NPV) analysis

Question 13

Quantification of risk is difficult, and there are different types of risks like stand-alone risk, market risk and political risk. Sensitivity analysis is a good technique to measure market risk.

Accepted Answer

A) True 
 B)False

Question 14

Which of the following statements is correct?

Accepted Answer

A)  Sensitivity analysis is incomplete because it fails to consider the range of likely values of key variables as reflected in their probability distributions. 
B)  In comparing two projects using sensitivity analysis, the one with the steeper lines would be considered less risky, because a small error in estimating a variable, such as unit sales, would produce only a small error in the project's net present value (NPV). 
C)  The primary advantage of simulation is that it provides a very accurate point estimate of a project's NPV. 
D)  One important benefit of simulation analysis as compared to scenario analysis is that once the analysis is complete, it provides a clear accept/reject decision rule. 
E)  Simulation considers only discrete outcomes for a project.

Question 15

When evaluating the cash flows associated with a capital budgeting project, shipping and installation costs associated with the purchase of an asset, such as a lathe, are considered part of the:

Accepted Answer

A)  initial investment outlay because these expenses are effectively part of the asset's purchase price. 
B)  incremental operating cash flows because shipping and installation costs represent expenses that have to be written off over the life of the asset. 
C)  terminal cash flows, because these expenses aren't paid until the end of the asset's life. 
D)  sunk costs because these expenses do not affect any current or future cash flows associated with investing in the asset. 
E)  opportunity cost of the project because these costs are increasing the potential of the project.

Question 16

One problem with Monte Carlo simulation analysis is that while the simulation may provide some insights into the riskiness of a project, the analysis does not lead to a clear-cut accept versus reject decision.

Accepted Answer

A) True 
 B)False

Question 17

According to the text, the financial staff's role in the forecasting process is to:

Accepted Answer

A)  develop different assumptions for different departments. 
B)  make sure that no biases are inherent in the forecasts. 
C)  ensure that all the costs like sunk costs are included in the forecasting. 
D)  set the sales price and coordinating marketing schemes for use by other departments. 
E)  provide a rough estimate of cash flows as sophisticated techniques are available to check their accuracy.

Question 18

Which of the following is used in analyzing systematic risk?

Accepted Answer

A)  Sensitivity analysis 
B)  Net present value 
C)  Beta 
D)  Monte Carlo simulation 
E)  Depreciation

Question 19

Which of the following statements is true about relevant cash flows?

Accepted Answer

A)  Day-to-day operating cash flows of a project are relevant cash flows. 
B)  Inflation during the project's lifetime is a relevant cash flow. 
C)  Depreciation expenses not relevant cash flows to be considered in the cash flow of a project. 
D)  Sunk costs of engineering study to determine the feasibility of a project are relevant cash flows. 
E)  Opportunity cost of land being used for the project that the firm already owns is a relevant cash flow.

Question 20

Triblaze Corp. is considering buying a new truck. The cost of the truck is $62,000 and the expected cash flows for the next 3 years due to savings from the new truck are $19,920, $22,800, and $31,280. The net present value (NPV) of the truck is ____ if the company's expected rate of return is 10%.

Accepted Answer

A)  $5,600 
B)  $(2,200.75) 
C)  $30,000 
D)  $(1,546.81) 
E)  $2,500

Exam 10: Project Cash Flows and Risk

The Monte Carlo simulation:

_____ is the uncertainty associated with the price at which the currency from one country can be converted into the currency of another country.

If a firm is considering purchasing an asset whose beta is greater than the current beta of the firm, it should use a discount rate greater than the firm's average required rate of return to evaluate the possible investment.

A firm is considering the purchase of an asset whose risk is greater than the current risk of the firm, based on any method for assessing risk. In evaluating this asset, the decision maker should:

Capital budgeting decisions must be based on the accounting income the project generates since stockholders are concerned with the reported net income the firm generates.

Which of the following rules is essential for successful cash flow estimates, and ultimately, to successful capital budgeting?

If an asset being considered for acquisition has a beta of zero, its expected return will be equal to the risk-free rate.

Depreciation must be considered when evaluating the incremental operating cash flows associated with a capital budgeting project because:

Companies can reduce loss from expropriation:

The process of sending cash flows from a foreign subsidiary back to the parent company is known as _____.

Which of the following methods involves calculating an average beta for firms in a similar business and then applying that beta to determine the beta of its own project?

Quantification of risk is difficult, and there are different types of risks like stand-alone risk, market risk and political risk. Sensitivity analysis is a good technique to measure market risk.

Which of the following statements is correct?

When evaluating the cash flows associated with a capital budgeting project, shipping and installation costs associated with the purchase of an asset, such as a lathe, are considered part of the:

One problem with Monte Carlo simulation analysis is that while the simulation may provide some insights into the riskiness of a project, the analysis does not lead to a clear-cut accept versus reject decision.

According to the text, the financial staff's role in the forecasting process is to:

Which of the following is used in analyzing systematic risk?

Which of the following statements is true about relevant cash flows?

Triblaze Corp. is considering buying a new truck. The cost of the truck is $62,000 and the expected cash flows for the next 3 years due to savings from the new truck are $19,920, $22,800, and $31,280. The net present value (NPV) of the truck is ____ if the company's expected rate of return is 10%.