Question 1

Assume a project has an initial cost of $207,600 and cash flows of $62,100,$99,100,and $105,300 for Years 1 to 3,respectively.The required discount rate is 11 percent,the required payback period is 3 years,and the required AAR is 13 percent.Should this project be accepted based on the two most commonly used methods of analysis by large firms? Justify your answer.

Accepted Answer

A) Accept based on the positive NPV but reject based on the payback period. 
B) Accept based on the positive NPV and an IRR that exceeds the required discount rate. 
C) Reject based on the negative NPV and the long payback period. 
D) Accept based on payback and an IRR that exceeds the required discount rate. 
E) Reject based on the negative NPV and an IRR that is less than the required rate of return.

Question 2

Leo is considering adding a deli to his general store.The remodelling expenses and shelving costs are estimated at $27,500.Deli sales are expected to produce net cash inflows of $7,300,$8,600,$9,700,and $9,750 for Years 1 to 4,respectively.Leo has a firm 3-year payback requirement.Should he add the deli?

Accepted Answer

A) Yes;because the payback period is 3.19 years 
B) Yes;because the payback period is 2.82 years 
C) No;because the project never pays back 
D) No;because the payback period is 2.82 years 
E) No;because the payback period is 3.19 years

Question 3

Uptown Developers is considering two projects.Project A consists of building a wholesale book outlet on the firm's downtown lot.Project B consists of building a sit-down restaurant on that same lot.The lot can only accommodate one of the projects.When trying to decide whether to build the book outlet or the restaurant,management should rely most heavily on the analysis results from which one of these methods?

Accepted Answer

A) Profitability index 
B) Internal rate of return 
C) Payback 
D) Net present value 
E) Accounting rate of return

Question 4

Assume a project has an initial cost of $48,000 and will produce net income for 5 years.The project will use straight-line depreciation over the life of the project.The AAR of this project can be computed as

Accepted Answer

A) (Sum of all net income / 5)/ ($48,000 / 2) 
B) (Sum of all net income / 2)/ ($48,000 / 2) 
C) ($48,000 / 5)/ (Sum of all net income / 5) 
D) ($48,000 / 2)/ (Sum of all net income / 2) 
E) (Sum of all net income / 5)/ $48,000

Question 5

A project has an initial cash inflow of $40,800 and a cash outflow of $44,900 in Year 1.The discount rate is 10 percent.Should this project be accepted or rejected based on IRR? Why?

Accepted Answer

A) Accepted,because the IRR is less than the discount rate. 
B) Rejected,because the IRR is less than the discount rate. 
C) Accepted,because the IRR is greater than the discount rate. 
D) Rejected,because the IRR is greater than the discount rate. 
E) Accepted,because the IRR equals the discount rate.

Question 6

Dorian International has $75,000 that it can invest for 2.5 years.After that,the funds are needed to repay an outstanding bond issue.The company has two potential projects that are within the funding limit.Project A has an initial cost of $40,000 and cash flows of $24,000 a year for 2 years.Project B has an initial cost of $75,000 and cash flows of $27,000 a year for 4 years.If the required rate of return on both projects is 12 percent,what is your recommendation?

Accepted Answer

A) Accept Project A and reject Project B 
B) Reject Project A and accept Project B 
C) Accept either Project A or Project B,but not both 
D) Reject both projects 
E) Accept both projects

Question 7

A project has an initial cost of $40,100 and anticipated cash flows of $10,200,$21,700,$15,600,and $7,800 for Years 1 to 4,respectively.What is the profitability index value if the required return is 12.6 percent?

Accepted Answer

A) .92 
B) 1.05 
C) 0.99 
D) 1.01 
E) .96

Question 8

Net present value

Accepted Answer

A) considers only cash flows occurring during the first 5 years of a project. 
B) is based on projected annual net income for each year of a project's life. 
C) calculations consider the risk of each project. 
D) ignores the time value of money. 
E) assumes all projects are risk-free.

Question 9

What is the key reason why a positive NPV project should be accepted?

Accepted Answer

A) The project is expected to increase shareholder value. 
B) The present value of the expected cash flows equals the project's cost. 
C) The project will produce positive cash flows in the future. 
D) The project's payback will be positive during its life. 
E) The project's PI will be less than 1,which indicates acceptance.

Question 10

Assume you are looking at a graph that relates the net present value of two mutually exclusive investment projects to various discount rates.Assume the projects have differing cash flows and finite lives.Which one of these statements accurately reflects this graph?

Accepted Answer

A) The lines representing the projects will be upward sloping. 
B) If one project has equal cash flows for each year of its life,the line representing that project will be horizontal. 
C) The lines representing the projects will be parallel over multiple discount rates. 
D) The lines representing the projects must cross at a point where the NPV of each project is positive. 
E) The project lines will reflect lower NPV values at higher discount rates.

Question 11

The internal rate of return

Accepted Answer

A) is more reliable as a decision making tool than net present value when considering mutually exclusive projects. 
B) is the discount rate that makes the net present value of a project equal to one. 
C) is easier to apply than net present value when cash flows are unconventional. 
D) will provide the same accept/reject decision as NPV when cash flows are conventional and projects are independent. 
E) is influenced by daily changes in the market rate of interest.

Question 12

You know that two mutually exclusive projects are of different sizes.The smaller project is known to have a positive NPV.Which one of these accurately describes a method of properly determining which one,if either,project should be accepted?

Accepted Answer

A) Select the project with the higher internal rate of return 
B) Accept the project with the shorter payback period 
C) Accept the larger project if the incremental IRR exceeds the discount rate 
D) Select the project with the higher profitability index 
E) Accept the smaller project without any further analysis

Question 13

A project has an initial cash inflow of $87,700 and cash flows of -$48,700 in Year 1 and -$57,200 in Year 2.The discount rate is 14 percent.Should this project be accepted or rejected based on IRR? Why?

Accepted Answer

A) Accepted,because this is a financing project and the IRR is less than the discount rate. 
B) Rejected,because this is an investing project and the IRR is less than the discount rate. 
C) Accepted,because this is a financing project and the IRR is greater than the discount rate. 
D) Rejected,because this is an investing project and the IRR is greater than the discount rate. 
E) Accepted,because the IRR equals the discount rate.

Question 14

Two mutually exclusive projects produce the same positive NPV at a discount rate of 11.34 percent.Both projects have 4-year lives.Project A has larger cash flows than Project B in the first 2 years.Given this information,you know that

Accepted Answer

A) it makes no difference which project you accept as long as the discount rate does not exceed 11.34 percent. 
B) Project A should always be preferred. 
C) one project will be preferred at rates less than 11.34 percent and the other will be preferred at higher rates. 
D) Project B must require a smaller investment than Project A at Time 0. 
E) Project B should only be accepted if the discount rate is 11.34 percent.

Question 15

Webster's wants to introduce a new product that has a start-up cost of $7,800.The product has a 2-year life and will provide cash flows of $6,700 in Year 1 and $4,300 in Year 2.The required rate of return is 14 percent.Should the product be introduced? Why or why not?

Accepted Answer

A) Yes;the NPV is $1,108.15. 
B) Yes;the IRR is 12.97 percent. 
C) Yes;the IRR is 28.72 percent. 
D) Yes;the NPV is $1,409.27. 
E) No;the IRR is 12.94 percent.

Question 16

The discounted payback method

Accepted Answer

A) discounts a project's initial cost. 
B) is simpler and more reliable than the payback period. 
C) is as reliable as NPV because both methods use discounted cash flo. 
D) uses an arbitrary cutoff period. 
E) ignores a project's initial costs.

Question 17

The value of a firm

Accepted Answer

A) increases when a new project with a negative net present value is accepted. 
B) equals the sum of the individual values of the firm's projects and divisions. 
C) is unaffected by the value of any one individual project. 
D) increases anytime a project with a zero net present value is accepted. 
E) is equal to the sum of all of the future cash flows derived from the firm's projects.

Question 18

A project requires an initial investment of $59,600 and will produce cash inflows of $21,200,$44,500,and $11,700 over the next 3 years,respectively.What is the project's NPV at a required return of 16 percent?

Accepted Answer

A) -$687.22 
B) -$757.69 
C) -$204.15 
D) -$878.92 
E) -$696.94

Question 19

Toy Town is considering a new toy with initial costs of $35,900.This toy is expected to produce cash flows of $52,500 in Year 1,$11,300 in Year 2,and nothing thereafter.The discount rate assigned to the toy is 18.7 percent.What is the IRR?

Accepted Answer

A) 65.28% 
B) 24.79% 
C) 38.03% 
D) 56.65% 
E) 20.04%

Question 20

What is the internal rate of return on an investment that has an initial cost of $63,100 and projected cash inflows of $18,700,$38,600,and $34,100 for Years 1 to 3,respectively?

Accepted Answer

A) 11.86% 
B) 12.37% 
C) 20.08% 
D) 13.92% 
E) 19.10%

Exam 7: Net Present Value AMCQ Other Investment Rules