Chapters 9, 10, & 11

Question 1

Which one of the following methods predicts the amount by which the value of a firm will change if a project is accepted?
A. Net present value
B. Discounted payback
C. Internal rate of return
D. Profitability index
E. Payback

Answer 1

A. Net present value

Question 2

The length of time a firm must wait to recoup the money it has invested in a project is called the:
A. internal return period.
B. payback period.
C. profitability period.
D. discounted cash period.
E. valuation period.

Answer 2

B. payback period.

Question 3

The length of time a firm must wait to recoup, in present value terms, the money it has invested in a project is referred to as the:
A. net present value period.
B. internal return period.
C. payback period.
D. discounted profitability period.
E. discounted payback period.

Answer 3

E. discounted payback period.

Question 4

The internal rate of return is defined as the:
A. maximum rate of return a firm expects to earn on a project.
B. rate of return a project will generate if the project is financed solely with internal funds.
C. discount rate that equates the net cash inflows of a project to zero.
D. discount rate which causes the net present value of a project to equal zero.
E. discount rate that causes the profitability index for a project to equal zero.

Answer 4

D. discount rate which causes the net present value of a project to equal zero.

Question 5

The present value of an investment’s future cash flows divided by the initial cost of the investment is called the:
A. net present value.
B. internal rate of return.
C. average accounting return.
D. profitability index.
E. profile period.

Answer 5

D. profitability index.

Question 6

A project that costs $21,500 today will generate cash flows of $7,700 per year for seven years. What is the project’s payback period?
A. 2.23 years
B. .36 years
C. 2.33 years
D. 2.79 years
E. 3.00 years

Answer 6

$21,500/$7,700=2.79 yrs

since it is $7,700 EVERY YEAR.

Question 7

Guerilla Radio Broadcasting has a project available with the following cash flows :

Year Cash Flow
0 −$ 12,600
1 5,200
2 6,500
3 5,900
4 4,300

What is the payback period?
A. 2.15 years
B. 1.85 years
C. 2.39 years
D. 2.51 years
E. 3.00 years

Answer 7

A. 2.15 years

after yr 2 there is still $900 left, which is less than yr 3. To solve, take:

(900/5900) + 2 (the number of yrs to that point) = 2.15

Question 8

Filter Corporation has a project available with the following cash flows:

Year Cash Flow
0 −$ 13,700
1 6,600
2 7,900
3 4,100
4 3,700

What is the project’s IRR?
A. 29.05%
B. 27.24%
C. 26.15%
D. 28.33%
E. 30.51%

Answer 8

C. 26.15%

use online calculator to solve

https://www.calculatestuff.com/financial/irr-calculator

Question 9

POD has a project with the following cash flows:

Year Cash Flows
0 −$ 253,000
1 146,900
2 164,400
3 129,500

The required return is 8.2 percent. What is the profitability index for this project?
A. 1.246
B. .669
C. .836
D. 1.496
E. 1.371

Answer 9

D. 1.496

use excel spreadsheets to calculate

Question 10

A company has a project available with the following cash flows:

Year Cash Flow
0 −$ 33,590
1 12,870
2 14,740
3 20,360
4 11,600

If the required return for the project is 8.9 percent, what is the project’s NPV?
A. $13,447.78
B. $25,980.00
C. $16,766.06
D. $14,670.30
E. $6,422.35

Answer 10

D. $14,670.30

using Net Present Value financial calculator online.

https://www.calculatorsoup.com/calculators/financial/net-present-value-calculator.php

or use excel spreadsheet

Question 11

_________________budgeting is the decision-making process for accepting and rejecting projects.

Answer 11

capital

Question 12

Net ______________ value is a measure of how much value is created or added today by undertaking an investment.

Answer 12

Present

Question 13

A project should be __________ if its NPV is greater than zero.

accepted

rejected

delayed

Answer 13

accepted

Question 14

The payback period rule ______ a project if it has a payback period that is less than or equal to a particular cutoff date.

suggests accepting

suggests rejecting

Answer 14

suggests accepting

Question 15

Which capital budgeting decision method finds the present value of each cash flow before calculating a payback period?

Average accounting return

Discounted payback period

Payback period

Modified internal rate of return

Answer 15

Discounted payback period

Question 16

Capital ______ is the decision-making process for accepting and rejecting projects.

budgeting

structure

relevance

spending

Answer 16

budgeting

Question 17

Capital Corp is considering a project whose internal rate of return is 14%. If Capital’s required return is 14%, the project’s NPV is:

zero

negative

positive

Answer 17

zero

Question 18

In capital budgeting, the net ______ determines the value of a project to the company.

present value

income

sales

future value

Answer 18

present value

Question 19

The basic NPV investment rule is: (MULTIPLE ANSWERS)

accept a project if the NPV is greater than zero.

reject a project if its NPV is less than zero.

accept a project if the discount rate is above zero.

accept a project if the NPV is less than zero.

if the NPV is equal to zero, acceptance or rejection of the project is a matter of indifference

Answer 19

accept a project if the NPV is greater than zero.

reject a project if its NPV is less than zero.

if the NPV is equal to zero, acceptance or rejection of the project is a matter of indifference

Question 20

The amount of time needed for the cash flows from an investment to pay for its initial cost is the _____ period.

payback

net present value

internal return

discounted payback

Answer 20

payback

Question 21

The difference between a company’s future cash flows if it accepts a project and the company’s future cash flows if it does not accept the project is referred to as the project’s:
A. incremental cash flows.
B. internal cash flows.
C. external cash flows.
D. erosion effects.
E. financing cash flows.

Answer 21

A. incremental cash flows.

Question 22

A project is expected to generate annual revenues of $128,900, with variable costs of $79,000, and fixed costs of $19,500. The annual depreciation is $4,550 and the tax rate is 21 percent. What is the annual operating cash flow?
A. $70,947
B. $51,447
C. $34,950
D. $24,972
E. $30,400

Answer 22

D. $24,972

Select the “tax shield approach)
OCF=(Sales-Costs)(1-T)+Depreciation x T

OCF = (128,900 - 79,000 - 19,500)(1-.21) + 4,550(.21)
(30,400)(.79) + 955.50

Question 23

Bi-Lo Traders is considering a project that will produce sales of $55,150 and have costs of $31,100. Taxes will be $5,400 and the depreciation expense will be $3,325. An initial cash outlay of $2,550 is required for net working capital. What is the project’s operating cash flow?
A. $16,100
B. $12,775
C. $18,650
D. $21,975
E. $15,325

Answer 23

C. $18,650

Use Top-Down Approach
OCF=Sales-Costs-Taxes

OCF = 55,150 - 31,100 - 5,400

Question 24

Scenario analysis is defined as the:
A. determination of the initial cash outlay required to implement a project.
B. determination of changes in NPV estimates when what-if questions are posed.
C. isolation of the effect that a single variable has on the NPV of a project.
D. separation of a project’s sunk costs from its opportunity costs.
E. analysis of the effects that a project’s terminal cash flows has on the project’s NPV.

Answer 24

B. determination of changes in NPV estimates when what-if questions are posed.

Question 25

A project with a life of 9 years is expected to provide annual sales of $290,000 and costs of $197,000. The project will require an investment in equipment of $535,000, which will be depreciated on a straight-line method over the life of the project. You feel that both sales and costs are accurate to +/−10 percent. The tax rate is 21 percent. What is the annual operating cash flow for the best-case scenario?
A. $92,105
B. $70,401
C. $124,426
D. $91,656
E. $49,601

Answer 25

C. $124,426

Use Tax Shield Approach OCF = (Sales - Costs) (1 - T) + Depreciation x T
For BEST CASE scenario ADD 10% to expected annual sales (290,000 x 1.10) = 319,000
For WORST CASE scenario SUBTRACT 10% from costs (197,000 x .90) = 177,300
For Depreciation divide 535,000 by 9 yrs = 535,000/9 = 59,444.44

OCF = (319,000 - 177,300) (1 - .21) + 59,444.44(.21)
(141,700) (.79) + 12,483.33

Question 26

A 6-year project is expected to provide annual sales of $165,000 with costs of $90,500. The equipment necessary for the project will cost $290,000 and will be depreciated on a straight-line method over the life of the project. You feel that both sales and costs are accurate to +/−15 percent. The tax rate is 21 percent. What is the annual operating cash flow for the worst-case scenario?
A. $38,728
B. $87,028
C. $64,463
D. $33,803
E. $21,705

Answer 26

A. $38,728

Use Tax Shield Approach OCF = (Sales - Costs) (1-T) + Depreciation x T
WORST CASE - SUBTRACT 15% from Sales (165,000 x .85) = 140,250
WORST CASE - ADD 15% to Costs (90,500 x 1.15) = 104,075
For Depreciation divide 290,000 by 6 yrs = 290,000/6 = 48,333.33

(140,250 - 104,075)(.79)+48,333.33(.21) =

Question 27

Sensitivity analysis determines the:
A. range of possible outcomes given that most variables are reliable only within a stated range.
B. degree to which the net present value reacts to changes in a single variable.
C. net present value range that can be realized from a proposed project.
D. degree to which a project relies on its initial costs.
E. ideal ratio of variable costs to fixed costs for profit maximization.

Answer 27

B. degree to which the net present value reacts to changes in a single variable.

Question 28

A project that has a payback period exactly equal to the project’s life is operating at:
A. its maximum capacity.
B. the financial break-even point.
C. the cash break-even point.
D. the accounting break-even point.
E. a zero level of output.

Answer 28

D. the accounting break-even point.

Question 29

Which one of the following represents the level of output where a project produces a rate of return just equal to its requirement?
A. Capital break-even
B. Cash break-even
C. Accounting break-even
D. Financial break-even
E. Internal break-even

Answer 29

D. Financial break-even

Question 30

8. The degree of operating leverage is equal to:
   A. 1 + OCF/(FC + VC).
   B. 1 + OCF/FC.
   C. 1 + FC/OCF.
   D. 1 + VC/OCF.
   E. 1 − (FC + VC)/OCF.

Answer 30

C. 1 + FC/OCF.

Question 31

A pro _________________ financial statement projects future years’ operations.

Answer 31

forma

Question 32

Operating cash flow is a function of _____.

earnings before interest and taxes

initial investment in equipment

depreciation

salvage value of equipment

taxes

Answer 32

earnings before interest and taxes
depreciation
taxes

Question 33

A calculated NPV of $15,000 means that the project is expected to create a positive value for the firm and _____.

the firm should only accepted if the project has a high payback period

should be accepted if there is no capital rationing constraint

it will never cost the firm more than calculated in the cash flow analysis

Answer 33

should be accepted if there is no capital rationing constraint

Question 34

To calculate the OCF using the bottom-up approach, add _____________________
to net income.

Answer 34

depreciation

Question 35

What is the equation for estimating operating cash flows using the top-down approach?

OCF = Sales - Costs - Taxes

OCF = Sales - Costs

OCF = Net Income + Depreciation

OCF = (Sales - Costs) X (1-T) + Depreciation X T

Answer 35

OCF = Sales - Costs - Taxes

Question 36

To prepare _________ financial statements, we need estimates of quantities such as unit sales, the selling price per unit, the variable cost per unit, and total fixed costs.

GAAP

certified

pro forma

Answer 36

pro forma

Question 37

Which approach to estimating the operating cash flows uses the following equation?

OCF = (Sales − Costs) × (1 − Tax rate) + Depreciation × Tax rate

Top-down approach

Tax shield approach

Bottom-up approach

Answer 37

Tax shield approach

Question 38

An increase in depreciation expense will ____ cash flows from operations.

not affect

increase

decrease

Answer 38

increase

Reason: An increase in depreciation expense will increase cash flows because it will decrease taxes paid.

Question 39

Once cash flows have been estimated, which of the following investment criteria can be applied to them?

NPV

payback period

IRR

the constant growth dividend discount model

YTM

Answer 39

NPV

payback period

IRR

Question 40

OCF is calculated as net income plus depreciation using the _____ approach.

accelerated depreciation

bottom-up

top-down

Answer 40

Bottom-up

Question 41

Using the top-down approach, OCF is calculated by subtracting costs and __________
from sales.

Answer 41

taxes

Question 42

Which one of the following is the equation for estimating operating cash flows using the tax shield approach?

OCF = (Sales - Costs) × Tax rate + Depreciation × (1 - Tax rate)

OCF = (Sales - Costs) + Deprecation × Tax rate

OCF = (Sales - Costs) × (1 - Tax rate) + Depreciation × Tax rate

OCF = (Sales - Costs) × (1 - Tax rate) + Depreciation

Answer 42

OCF = (Sales - Costs) × (1 - Tax rate) + Depreciation × Tax rate

Question 43

Operating cash flow is a function of _____.

initial investment in equipment

taxes

earnings before interest and taxes

depreciation

salvage value of equipment

Answer 43

taxes

earnings before interest and taxes

depreciation

Question 44

To be considered good, projected cash flows should _____ actual cash flows.

be in opposition to

exactly match

be close to

Answer 44

be close to

Question 45

The basic approach to evaluating cash flow and NPV estimates involves asking
_____________-if questions.

Answer 45

what

Question 46

Which of the following statements is true in the context of comparing accounting profit and present value break-even point?

Both techniques are equally good.

Accounting profit is superior because the financial statements report profits and not present value.

Present value is superior to accounting profit because it adjusts for time value and considers the depreciation tax shield effect.

The superiority of a particular technique will vary from firm to firm depending on the unique circumstances of the firm.

Answer 46

Present value is superior to accounting profit because it adjusts for time value and considers the depreciation tax shield effect.

Question 47

The sales level that results in a zero operating cash flow is called the ________________
break-even.

Answer 47

cash

Question 48

The _________________ break-even is the sales level that results in a zero NPV.

Answer 48

financial

Question 49

Evans Corporation estimated that the cash flows last year from a particular project would be $40,000, but the actual cash flow turned out to be $37,500. Evans Corporation should _____.

expect cash flow estimates to exactly right every time

not expect cash flow estimates to be exactly right every time

give up estimating cash flows

Answer 49

not expect cash flow estimates to be exactly right every time

Question 50

The degree to which a firm or project relies on fixed costs is called the __________________
leverage.

Answer 50

operating

Question 51

The basic approach to evaluating cash flow and NPV estimates involves asking _____.

what-if questions

random questions about the cash flow assumptions

for assistance from the federal government

Answer 51

what-if questions

Question 52

_____________________value is superior to accounting profit because it adjusts for time value and considers the depreciation tax shield effect.

Answer 52

present

Question 53

The cash break-even is the sales level that results in a ______ operating cash flows.

zero

negative

positive

Answer 53

zero

Question 54

Financial break-even is the sales level that results in _____.

an NPV of zero

a positive IRR

a positive NPV

an IRR that is less than the NPV

Answer 54

an NPV of zero

Question 55

A firm with higher operating leverage will have ______ fixed costs relative to a firm with low operating leverage.

insufficient

low

high

indeterminate

Answer 55

high

Question 56

When a project breaks even on an accounting basis, the cash flow for that period will equal _____.

the depreciation allowance for that period

net income for that period

revenues for that period

net working capital for that period

Answer 56

the depreciation allowance for that period

Reason: When a project breaks even on an accounting basis, the cash flow for that period will equal the depreciation allowance for that period; it is not a cash flow, but is subtracted from accounting income.

Question 57

The degree to which a firm or project relies on fixed costs is called the _______________
leverage.

Answer 57

operating

Question 58

Which of the following statements is true in the context of comparing accounting profit and present value break-even point?

The superiority of a particular technique will vary from firm to firm depending on the unique circumstances of the firm.

Accounting profit is superior because the financial statements report profits and not present value.

Both techniques are equally good.

Present value is superior to accounting profit because it adjusts for time value and considers the depreciation tax shield effect.

Answer 58

Present value is superior to accounting profit because it adjusts for time value and considers the depreciation tax shield effect.

Question 59

The fact that a proposed project is analyzed based on the project’s incremental cash flows is the assumption behind which one of the following principles?

Underlying value principle

Stand-alone principle

Equivalent cost principle

Salvage principle

Fundamental principle

Answer 59

Stand-alone principle

Question 60

The top-down approach to computing the operating cash flow:

ignores noncash expenses.

applies only if a project affects sales.

applies only to cost cutting projects.

is equal to sales − costs − taxes + depreciation.

is used solely to compute a bid price.

Answer 60

ignores noncash expenses.

Question 61

When you assign the lowest anticipated sales price and the highest anticipated costs to a project, you are analyzing the project under the condition known as:

best-case sensitivity analysis.

worst-case sensitivity analysis.

best-case scenario analysis.

worst-case scenario analysis.

Correct

base-case scenario analysis.

Answer 61

worst-case scenario analysis.

Question 62

Which type of analysis identifies the variable, or variables, that are most critical to the success of a particular project?

Scenario

Simulation

Break-even

Sensitivity

Correct

Cash flow

Answer 62

Sensitivity

Question 63

When the operating cash flow of a project is equal to zero, the project is operating at the:

maximum possible level of production.

minimum possible level of production.

financial break-even point.

accounting break-even point.

cash break-even point.

Answer 63

cash break-even point.

Question 64

Assume a project has a discounted payback that equals the project’s life. The project’s sales quantity must be at which one of these break-even points?

Accounting

Leveraged

Marginal

Cash

Financial

Answer 64

Financial

Question 65

A project is expected to generate annual revenues of $124,100, with variable costs of $77,200, and fixed costs of $17,700. The annual depreciation is $4,250 and the tax rate is 21 percent. What is the annual operating cash flow?

$33,450

$66,045

$23,960

$48,345

$29,200

Answer 65

$23,960

Use Tax Shield Approach
(124,100 - 77,200 - 17,700) (1-.21) + (4,250) .21