NINJA Q. Review Flashcards
A multiperiod project has a positive net present value. Which of the following statements is correct regarding its required rate of return?
A: Less than the project’s internal rate of return
The net present value of an investment is calculated:
Present Future Value - Initial Investment
A positive net present value means that the investment should be made, because the cash to be received (taking into account the time value of money) is greater than the initial investment.
By definition, an acceptable investment would also have an internal rate of return that is greater than the required rate of return—or, as the question states it, the required rate of return would be less than the project’s internal rate of return. Weighted average cost of capital has no bearing on this problem.
National Income (NI)
National income (NI):
net domestic product (NDP) + net income earned abroad - [indirect business taxes (e.g., sales taxes)]
NDP is gross domestic product ($4,000) minus depreciation ($500), or $3,500. Thus, national income is $3,290 ($3,500 NDP + $0 net income earned abroad - $210 indirect business taxes).
What are Imputed Costs?
Imputed costs are implied costs; they are not known with certainty and must be estimated.
The stated interest paid on a bank loan is known and therefore need not be imputed. The other examples must be calculated from other figures and cannot be known with certainty. They are, therefore, imputed costs.
Electronic Vaulting
Electronic vaulting is the process of electronically transmitting and storing backups of programs and data at a remote data storage facility.
Which of the following strategies would the Federal Reserve most likely pursue under an expansionary policy?
When the Federal Reserve buys federal securities, they expand the money supply. The effect on the economy is expansionary. Similarly, lowering the discount rate decreases interest rates paid by banks, which pass lower interest rates along to borrowers. People are more able to afford to borrow to invest, and the result is expansion of the economy.
If the net present value of a capital budgeting project is positive, it would indicate that the:
A: rate of return for this project is greater than the discount percentage rate used in the net present value computation.
Net present value (NPV) is defined as the excess of present value of cash inflows from a project over the discounted net cash outflows.
A positive net present value indicates that the project’s rate of return is greater than the discount (bundle) rate of interest. Projects promising a positive NPV should be undertaken if funds are available.
Kane Corp. estimates that it would incur a $100,000 cost to prepare a bid proposal. Kane estimates also that there would be an 80% chance of being awarded the contract if the bid is low enough to result in a net profit of $250,000. What is the expected value of the payoff?
Expected value is the mean or average value of a random variable over the possible outcomes. It is calculated by weighting the value of each possible outcome by its probability and summing over all values.
Here there are two possible outcomes:
- $250,000 profit with an 80% probability gives an expected value of 0.8 × $250,000, or $200,000.
- Zero profit with a 20% probability gives an expected value of -$100,000 (the cost of preparing the bid) for an expected value of -$20,000.
Summing an expected value of $200,000 with an expected loss of $20,000 gives a net expected value of $180,000.
We would not want to subtract the $100,000 cost of preparing the bid from the $250,000 profit because profit means revenue minus expenses. Therefore, the $250,000 profit is the amount after the $100,000 cost of preparing the bid has been subtracted from revenue.
Tam Company is negotiating for the purchase of equipment that would cost $100,000, with the expectation that $20,000 per year could be saved in after-tax cash costs if the equipment were acquired. The equipment’s estimated useful life is 10 years, with no residual value, and would be depreciated by the straight-line method. Tam’s predetermined minimum desired rate of return is 12%. Present value of an annuity of 1 at 12% for 10 periods is 5.65. Present value of 1 due in 10 periods at 12% is 0.322.
What is the net present value?
NPV is the difference between the present value of future cash inflows from an investment and the investment’s initial cost.
5.65 x savings of 20K = $113K
Inv. Cost = 100K
Dif. is PVAL = 13K
The present value of $20,000 per year for 10 years at 12% is 5.65 × $20,000, or $113,000. The investment cost is $100,000, so the difference, the net present value, is $13,000.
A ratio that examines the percentage change in earnings available to common stockholders that is associated with a given percentage change in earnings before interest and taxes is a measure of:
the degree of financial leverage.
This ratio basically compares the change in earnings after interest and taxes to the change in earnings before interest and taxes. The higher this ratio, the greater the return available to companies who finance their asset purchases with debt.
Manufacturing Cycle Efficiency
= Manufacturing or Process Time / Time from Start of Man. to Delivery
Which of the following is an assumption in a perfectly competitive financial market?
No single trader or traders can have a significant impact on market prices.
Perfect competition is characterized by a large number of sellers producing a standardized product with easy entry and exit into and out of the industry. An individual seller has no ability to influence the product price.
The purpose of a software monitor is to:
collect data on the use of various hardware components during a computer run.
What is an internal rate of return?
The internal rate of return (IRR) can be referred to as the yield (return) expected over the life of a project. It is computed by equating the initial investment with the present value of the cash flows over the life of the project. IRR is the discount rate that results in the net present value of all cash flows equal to zero. Due to the fact that present values of all cash flows are used in the determination of IRR, it is a time-adjusted rate of return related to the project being considered.
A company recently issued 9% preferred stock. The preferred stock sold for $40 a share with a par of $20. The cost of issuing the stock was $5 a share. What is the company’s cost of preferred stock?
5.1%
The cost of preferred stock is:
Annual Div Payment / NET Issuance Price of Pref. Stock
Annual Div Pay = $20 Par * .09 = $1.80
Net Issuance = $40-$5
1.8/35
Which of the following strategies would a CPA most likely consider in auditing an entity that processes most of its financial data only in electronic form, such as a paperless system?
Continuous monitoring and analysis of transaction processing with an embedded audit module
Which one of the following costs would be relevant in short-term decision making?
Incremental fixed costs
Only incremental costs, whether fixed or variable, are relevant in decision making. Incremental costs represent the difference in the total cost between two alternatives. It is these future incremental costs that are important (“relevant”) to the decision-making process, the act of choosing between/among alternative courses of action.
Future costs, whether fixed or variable (or opportunity costs), that are the same for the considered alternatives (i.e., that will not change regardless of which alternative is chosen) are irrelevant to the decision.
Past costs, or sunk or historical costs, are costs that have already been incurred; these costs are irrelevant to the decision-making process because they will not change regardless of which decision is made.
Disposable income is:
Disposable income is that income received by individuals which is available for consumption and saving (i.e., personal income minus personal income taxes). The example below demonstrates the calculation of disposable income:
Gross domestic product (GDP) $4,000
- Depreciation (500)
-------
= Net domestic product (NDP)(at mkt cost) $3,500
- Indirect business taxes (210)
------- = Net national income (NNI) (at factor cost) $3,290
- Corporate income taxes ( 50)
- Undistributed corporate profits ( 25)
- Social Security contributions (200)
\+ Transfer payments 500
-------
= PERSONAL INCOME $3,515
- Personal income taxes (250)
-------
= DISPOSABLE INCOME $3,265
=======
Change Control Process
- The change control board approves the change and assigns a project manager.
- The project manager makes sure all paperwork has been received and approved.
- The project manager sets up schedules for all personnel involved.
- The projects are completed.
- Changes are tested and approved before release.
The cost of funds from the sale of common stock is 7.6%. According to the Gordon Dividend Capitalization Model, the market value of a share of stock is equal to the present value of future dividend streams. This formula states:
kcm = (D / (P - u - f)) + g
= (7 / (100 - 3 - 5)) + 0
= 7 / 92
= 7.6%
Where:
•kcm = Cost, in percentage, of issuing new common stock
•D = Dividend the firm is expected to pay next year
•P = Current price of a share
•u = Dollar amount of underpricing per share from the market price needed to sell the new issue
•f = Flotation cost per share paid to the investment banking firm for selling the new issue
•g = Expected annual growth rate in dividends, in percentage
When the risks of the individual components of a project’s cash flows are different, an acceptable procedure to evaluate these cash flows is to:
A: discount each cash flow using a discount rate that reflects the degree of risk.
Risk analysis tries to evaluate the probability of the achievement of future returns from the proposed investment. Discount rates are often risk-adjusted to address the risk in an investment (adjusting the discount rate upward would require the expected net cash flow to be larger and thus compensating for a riskier project). This same technique may be applied to individual components of a project’s cash flows to produce acceptable results in a capital budgeting analysis.
COSO 8 Components
The eight components of COSO’s ERM framework are:
- internal environment
- objective setting
- event identification, risk assessment
- risk response
- control activities
- information and communication
- monitoring.
ERM processes must be monitored, deficiencies reported to management, and modifications performed when required.
When evaluating projects, the discounted breakeven period is best described as:
the point where discounted cumulative cash inflows on a project equal discounted total cash outflows.
Stated very simply, the discounted breakeven period is the time required to recover the cash invested in a project. However, since almost all investment projects span several years, it is necessary to discount both cash inflows and outflows.
When this is done, breakeven time becomes “the point where discounted cumulative cash inflows on a project equal discounted total cash outflows.”
Card Bicycle Co. has prepared production and raw materials budgets for next year. At the end of this year, the finished product inventory is expected to include 2,000 bicycles and raw material inventory is expected to include 3,000 bicycle tires. Each finished bicycle requires two tires. The marketing department provided the following data from the sales budget for the first quarter:
January February March
------- -------- ------- Expected Bicycle Sales (units) 12,000 16,000 18,000 The company inventory policy is to have finished product inventory equal to 20% of the following month's sales requirements and raw material equal to 10% of the following month's production requirements. In the January budget for raw materials, how many tires are expected to be purchased?
January production = Jan. sales + Desired ending inventory -
Beginning inventory
= 12,000 + (0.20 x 16,000) - 2,000 = 13,200 bicycles
February production = Feb. sales + Desired ending inventory -
Beginning inventory
= 16,000 + (0.20 x 18,000) - (0.20 x 16,000) =
16,400 bicycles
January purchases = Production needs + Desired ending inventory -
Beginning inventory
= (2 x 13,200) + (0.10 x 2 x 16,400) - 3,000 =
26,680 tires
Augusta, Inc., expects manufacturing and sales of 70,000 units of product Maggie, its only product, to occur evenly over a 10-week period. Augusta pays for materials in the week following use. The balance of accounts payable for materials at the beginning of the 10-week period is $40,000. There are no beginning inventories. The following information pertains to product Maggie for the 10-week period:
Sales price $11 per unit
Materials $3 per unit
Manufacturing conversion costs—Fixed $210,000
Variable $2 per unit
Selling and administrative costs—Fixed $45,000
Variable $1 per unit
Actual results are as budgeted, except that 60,000 of the 70,000 units produced were sold. Using absorption costing, what is the difference between the reported income and the budgeted net income?
A: 20,000
Absorption costing is a method of costing in which manufacturing fixed costs are treated as product costs and assigned to the units produced. Fixed costs follow the units through work-in-process and finished goods as an inventoriable cost and are expensed through cost of goods sold (COGS) when the units are sold.
Unit sales 60,000 70,000
Revenue $660,000 $770,000
Less COGS 480,000 560,000
Gross profit $180,000 $210,000
Less Fixed selling/admn. 45,000 45,000
Less Variable selling/admn. 60,000 70,000
——– ——–
Net profit $ 75,000 $ 95,000
The difference is pre-tax net income of $20,000 ($95,000 − $75,000).
In a large public corporation, evaluating internal control procedures should be the responsibility of:
internal audit staff who report to the board of directors.
National Income
= Net Domestic Product + Net Income Earned Abroad (LESS) indirect business taxes
Aggregate demand is defined as:
a schedule or curve that shows the amount of real GDP or output that buyers collectively desire to buy at every price level.
