Chapter 6

Question 1

But up to this point, we have glossed over the problem of what to discount. When you are faced with this problem, you should stick to four general rules:

Answer 1

1. Only cash flow is relevant.
2. Always estimate cash flows on an incremental basis.
3. Be consistent in your treatment of inflation.
4. Separate investment and financing decisions.

Question 2

What is cash flow?

Answer 2

Cash flow is simply the difference between cash received and cash paid out.

Question 3

what is capital expenditure?

Answer 3

Capital expenditures (CapEx) are funds used by a company to acquire, upgrade, and maintain physical assets such as property, plants, buildings, technology, or equipment. CapEx is often used to undertake new projects or investments by a company.

Question 4

Net working capital

Answer 4

(often referred to simply as working capital) is the difference between
a company’s short-term assets and liabilities.

Question 5

Current assets and Liabilities

Answer 5

Current assets (short term assets) listed include cash, accounts receivable, inventory, and other assets that are expected to be liquidated or turned into cash in less than one year.
Current liabilities (short term liabilities) include accounts payable, wages, taxes payable, and the current portion of long-term debt that’s due within one year.

Question 6

When appraising mutually exclusive investments in plant and equipment, financial managers
calculate the investments’ equivalent annual costs and rank the investments on this basis. Why is
this necessary? Why not just compare the investments’ NPVs? Explain briefly.

Answer 6

Comparing present values can be misleading when projects have different
economic lives and the projects are part of an ongoing business. For
example, a machine that costs $100,000 per year to buy and lasts 5 years is
not necessarily more expensive than a machine that costs $75,000 per year
to buy but lasts only 3 years. Calculating the machines’ equivalent annual
costs allows an unbiased comparison