CAPITAL BUDGETING 2

Question 1

There are several capital budgeting decision models that do not use discounted cash flows.
What is the name of the simple technique that calculates the total time it will take to recover,
using cash inflows from operations, the amount of cash invested in a project?

Answer 1

Payback model

Question 2

The technique most concerned with liquidity is

Answer 2

Payback method.

Question 3

Which of the following is a potential use of the payback method?

Answer 3

A. Help managers control the risks of estimating cash flows
B. Help minimize the impact of the investment on liquidity
C. Help control the risk of obsolescence

Question 4

The cash payback technique:

Answer 4

is relatively easy to compute and understand.

Question 5

Which of the following is NOT a defect of the payback method?

Answer 5

It ignores cash flows because it uses net income.

Question 6

The payback method, as a capital budgeting technique, assumes that all intermediate cash
inflows are reinvested to yield a return equal to:

Answer 6

ZERO

Question 7

Which of the following capital budgeting methods is the least theoretically correct?

Answer 7

payback method

Question 8

Which of the following methods of evaluating capital investment projects incorporates the time
value of money?

Answer 8

Net present value and internal rate of return

Question 9

Discounted cash flow analysis is used in which of the following techniques?

Answer 9

Net present value

Question 10

The primary capital budgeting method that uses discounted cash flow techniques is the

Answer 10

Net present value method

Question 11

The net present value (NPV) model can be used to evaluate and rank two or more proposed
projects. The approach that computes the total impact on cash flows for each option and then
converts these total cash flows to their present values is called the

Answer 11

total project approach.

Question 12

The discount rate commonly used in present value calculations is the

Answer 12

weighted average return on assets adjusted for risk

Question 13

Which is true of the net present value method of determining the acceptability of an investment?

Answer 13

The initial cost of the investment is subtracted from the present value of net cash flows

Question 14

The profitability index

Answer 14

allows comparison of the relative desirability of projects that require differing initial
investments.

Question 15

According to the reinvestment rate assumption, which method of capital budgeting assumes cash flows are reinvested at the project’s rate of return?

Answer 15

internal rate of return

Question 16

The rate of interest that produces a zero net present value when a project’s discounted cash
operating advantage is netted against its discounted net investment is the:

Answer 16

Internal rate of return

Question 17

A weakness of the internal rate of return method for screening investment projects is that it:

Answer 17

Implicitly assumes that the company is able to reinvest cash flows from the project at the
internal rate of return

Question 18

Which of the following methods of evaluating capital investment projects do not use a
percentage as a measurement unit?

Answer 18

Payback period and net present value

Question 19

If a company’s required rate of return is 12 percent and in using the profitability index method,
a project’s index is greater than 1.0, this indicates that the project’s rate of return is

Answer 19

greater than 12 percent.

Question 20

If the present value of the future cash flows for an investment equals the required investment,
the IRR is

Answer 20

equal to the cutoff rate

Question 21

The relationship between payback period and IRR is that

Answer 21

the payback period is the present value factor for the IRR.

Question 22

When comparing NPV and IRR, which is not true?

Answer 22

NPV can be used to compare investments of various size or magnitude

Question 23

In capital budgeting, sensitivity analysis is used

Answer 23

to see how a decision would be affected by changes in variables.

Question 24

An approach that uses a number of outcome estimates to get a sense of the variability among
potential returns is

Answer 24

sensitivity analysis

Question 25

Sensitivity analysis is the study of how the outcome of a decision making process

Answer 25

changes as one or more of the assumptions change

Question 26

Sensitivity analysis is:

Answer 26

An appropriate response to uncertainty in cash flow projections

Question 27

if the internal rate of return on an investment is zero:

Answer 27

its annual cash flows equal its required investment.

Question 28

Which of the following would decrease the net present value of a project?

Answer 28

An increase in the discount rate

Question 29

All other things being equal, as cost of capital increases

Answer 29

fewer capital projects will probably be acceptable.

Question 30

Assuming that a project has already been evaluated using the following techniques, the evaluation under which technique is least likely to be affected by an increase in the estimated residual value of the project?

Answer 30

Payback Period