Investment Decisions: Look Ahead and Reason Back

Question 1

All investment decisions involve a trade-off between

Answer 1

current sacrifice and future gain

Question 2

Discounting is a tool to determine

Answer 2

whether the future benefits are bigger than current costs

Question 3

Compounding is the product of

Answer 3

present value and rate over time.

Question 4

Rule of 72 is the amount of time it takes to

Answer 4

double your money by dividing the rate of return by 72

Question 5

Discounting calculation is the division of

Answer 5

future value in time divided by the rate

Question 6

Discount the future benefits of an investment by

Answer 6

comparing them to the current cost of the investment

Question 7

Net Present Value

Answer 7

is the positive difference between future benefits and current cost of the investment

Question 8

If the net present value of discounted cash flow is larger than zero,

Answer 8

then the project earns more than the cost of capital

Question 9

To determine whether the investments are profitable,

Answer 9

discount all future inflows and outflows to the present and compare to initial investment

Question 10

Projects with positive NPV create economic profit because they earn

Answer 10

a return higher than the company’s cost of capital

Question 11

Projects with negative NPV may create accounting profit

Answer 11

but not economic profit

Question 12

One of the popular shortcuts is

Answer 12

break-even analysis

Question 13

If you can sell more than the break-even quantity,

Answer 13

then entry is profitable

Question 14

Compute break-even quantity

Answer 14

Quantity = Fixed Costs (annually) / (Price - Marginal Cost)

Question 15

Do not invoke break-even analysis to

Answer 15

justify higher prices or greater output

Question 16

Pricing and production are extent decisions that

Answer 16

requires marginal analysis

Question 17

If you shut down, you lose revenue but gain back

Answer 17

avoidable cost

Question 18

If price is less than average avoidable cost,

Answer 18

then shut down

Question 19

The break-even price

Answer 19

is the average avoidable cost per unit

Question 20

Sunk costs are unavoidable and make you vulnerable to

Answer 20

post-investment hold-up

Question 21

Hold up can occur

Answer 21

only if costs are sunk

Question 22

When one party makes a specific investment

Answer 22

they can be held up by the other party

Question 23

The goal is to ensure that each party has both the incentive to make

Answer 23

relationship specific investments and to trade

Question 24

Break-even quantity is equal to fixed cost

Answer 24

divided by the contribution margin

Question 25

Avoidable cost can be recovered by

Answer 25

shutting down