Question 1

Which of the following statements is CORRECT?

Accepted Answer

A)  If two projects are mutually exclusive, then they are likely to have multiple IRRs. 
B)  If a project is independent, then it cannot have multiple IRRs. 
C)  Multiple IRRs can occur only if the signs of the cash flows change more than once. 
D)  If a project has two IRRs, then the smaller one is the one that is most relevant, and it should be accepted and relied upon. 
E)  For a project to have more than one IRR, then both IRRs must be greater than the cost of capital. 
A)  If two projects are mutually exclusive, then they are likely to have multiple IRRs. 
B)  If a project is independent, then it cannot have multiple IRRs. 
C)  Multiple IRRs can occur only if the signs of the cash flows change more than once. 
D)  If a project has two IRRs, then the smaller one is the one that is most relevant, and it should be accepted and relied upon. 
E)  For a project to have more than one IRR, then both IRRs must be greater than the cost of capital.

Question 2

Which of the following statements is CORRECT?

Accepted Answer

A)  The payback method is generally regarded by academics as being the best single method for evaluating capital budgeting projects. 
B)  The discounted payback method is generally regarded by academics as being the best single method for evaluating capital budgeting projects. 
C)  The net present value method (NPV) is generally regarded by academics as being the best single method for evaluating capital budgeting projects. 
D)  The modified internal rate of return method (MIRR) is generally regarded by academics as being the best single method for evaluating capital budgeting projects. 
E)  The internal rate of return method (IRR) is generally regarded by academics as being the best single method for evaluating capital budgeting projects. 
A)  The payback method is generally regarded by academics as being the best single method for evaluating capital budgeting projects. 
B)  The discounted payback method is generally regarded by academics as being the best single method for evaluating capital budgeting projects. 
C)  The net present value method (NPV) is generally regarded by academics as being the best single method for evaluating capital budgeting projects. 
D)  The modified internal rate of return method (MIRR) is generally regarded by academics as being the best single method for evaluating capital budgeting projects. 
E)  The internal rate of return method (IRR) is generally regarded by academics as being the best single method for evaluating capital budgeting projects.

Question 3

The primary reason that the NPV method is conceptually superior to the IRR method for evaluating mutually exclusive investments is that multiple IRRs may exist, and when that happens, we don't know which IRR is relevant.

Accepted Answer

A) True 
 B)False

Question 4

Which of the following statements is CORRECT?

Accepted Answer

A)  The IRR method can never be subject to the multiple IRR problem, while the MIRR method can be. 
B)  One reason some people prefer the MIRR to the regular IRR is that the MIRR is based on a generally more reasonable reinvestment rate assumption. 
C)  The higher the cost of capital, the shorter the discounted payback period. 
D)  The MIRR method assumes that cash flows are reinvested at the crossover rate. 
E)  The MIRR and NPV decision criteria can never conflict. 
A)  The IRR method can never be subject to the multiple IRR problem, while the MIRR method can be. 
B)  One reason some people prefer the MIRR to the regular IRR is that the MIRR is based on a generally more reasonable reinvestment rate assumption. 
C)  The higher the cost of capital, the shorter the discounted payback period. 
D)  The MIRR method assumes that cash flows are reinvested at the crossover rate. 
E)  The MIRR and NPV decision criteria can never conflict.

Question 5

Poder Inc.is considering a project that has the following cash flow data.What is the project's payback? $$\begin{array} { l c c c c } 
\text { Year } & 0 & 1 & 2 & 3 \
\hline  \text { Cash flows } & - \$ 750 & \$ 300 & \$ 325 & \$ 350
\end{array}$$

Accepted Answer

A)  1.91 years 
B)  2.12 years 
C)  2.36 years 
D)  2.59 years 
E)  2.85 years 
A)  1.91 years 
B)  2.12 years 
C)  2.36 years 
D)  2.59 years 
E)  2.85 years

Question 6

Spence Company is considering a project that has the following cash flow data.What is the project's IRR? Note that a project's IRR can be less than the cost of capital or negative, in both cases it will be rejected. $$\begin{array} { l c c c c c } 
\text { Year } & 0 & 1 & 2 & 3 & 4 \
\hline  \text { Cash flows } & - \$ 1,050 & \$ 400 & \$ 400 & \$ 400 & \$ 400
\end{array}$$

Accepted Answer

A)  14.05% 
B)  15.61% 
C)  17.34% 
D)  19.27% 
E)  21.20% 
A)  14.05% 
B)  15.61% 
C)  17.34% 
D)  19.27% 
E)  21.20%

Question 7

No conflict will exist between the NPV and IRR methods, when used to evaluate two equally risky but mutually exclusive projects, if the projects' cost of capital exceeds the rate at which the projects' NPV profiles cross.

Accepted Answer

A) True 
 B)False

Question 8

Ellmann Systems is considering a project that has the following cash flow and cost of capital (r) data.What is the project's NPV? Note that if a project's expected NPV is negative, it should be rejected. $$\begin{array} { l c c c c } 
\text { r: } &{ 90 \% } & & \
\text { Year } & 0 & 1 & 2 & 3 \
\hline \text { Cash flows } & - \$ 1,000 & \$ 500 & \$ 500 & \$ 500
\end{array}$$

Accepted Answer

A)  $265.65 
B)  $278.93 
C)  $292.88 
D)  $307.52 
E)  $322.90 
A)  $265.65 
B)  $278.93 
C)  $292.88 
D)  $307.52 
E)  $322.90

Question 9

Clifford Company is choosing between two projects.The larger project has an initial cost of $100,000, annual cash flows of $30,000 for 5 years, and an IRR of 15.24%.The smaller project has an initial cost of $50,000, annual cash flows of $16,000 for 5 years, and an IRR of 16.63%.The projects are equally risky.Which of the following statements is CORRECT?

Accepted Answer

A)  Since the smaller project has the higher IRR, the two projects' NPV profiles will cross, and the larger project will look better based on the NPV at all positive values of the cost of capital. 
B)  If the company uses the NPV method, it will tend to favor smaller, shorter-term projects over larger, longer-term projects, regardless of how high or low the cost of capital is. 
C)  Since the smaller project has the higher IRR but the larger project has the higher NPV at a zero discount rate, the two projects' NPV profiles will cross, and the larger project will have the higher NPV if the cost of capital is less than the crossover rate. 
D)  Since the smaller project has the higher IRR and the larger NPV at a zero discount rate, the two projects' NPV profiles will cross, and the smaller project will look better if the cost of capital is less than the crossover rate. 
E)  Since the smaller project has the higher IRR, the two projects' NPV profiles cannot cross, and the smaller project's NPV will be higher at all positive values of the cost of capital. 
A)  Since the smaller project has the higher IRR, the two projects' NPV profiles will cross, and the larger project will look better based on the NPV at all positive values of the cost of capital. 
B)  If the company uses the NPV method, it will tend to favor smaller, shorter-term projects over larger, longer-term projects, regardless of how high or low the cost of capital is. 
C)  Since the smaller project has the higher IRR but the larger project has the higher NPV at a zero discount rate, the two projects' NPV profiles will cross, and the larger project will have the higher NPV if the cost of capital is less than the crossover rate. 
D)  Since the smaller project has the higher IRR and the larger NPV at a zero discount rate, the two projects' NPV profiles will cross, and the smaller project will look better if the cost of capital is less than the crossover rate. 
E)  Since the smaller project has the higher IRR, the two projects' NPV profiles cannot cross, and the smaller project's NPV will be higher at all positive values of the cost of capital.

Question 10

Projects S and L, whose cash flows are shown below, are mutually exclusive, equally risky, and not repeatable.Hooper Inc.is considering which of these two projects to undertake.If the decision is made by choosing the project with the higher IRR, how much value will be forgone? Note that under certain conditions choosing projects on the basis of the IRR will not cause any value to be lost because the project with the higher IRR will also have the higher NPV, so no value will be lost if the IRR method is used. $\begin{array}{ccrrrr}\text { r: } 10.25 \%\
\text { Year } & 0 & 1 & 2 & 3 &{4} \
\hline\mathrm{CF}_{\mathrm{S}} & -\$ 2,050 & \$ 750 & \$ 760 & \$ 770 & \$ 780 \
\mathrm{CF}_{\mathrm{L}} & -\$ 4,300 & \$ 1,500 & \$ 1,518 & \$ 1,536 & \$ 1,554
\end{array}$

Accepted Answer

A)  $134.79 
B)  $141.89 
C)  $149.36 
D)  $164.29 
E)  $205.36 
A)  $134.79 
B)  $141.89 
C)  $149.36 
D)  $164.29 
E)  $205.36

Question 11

Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows, with one outflow followed by a series of inflows.

Accepted Answer

A)  If Project A has a higher IRR than Project B, then Project A must also have a higher NPV. 
B)  The IRR calculation implicitly assumes that all cash flows are reinvested at the cost of capital. 
C)  The IRR calculation implicitly assumes that cash flows are withdrawn from the business rather than being reinvested in the business. 
D)  If a project has normal cash flows and its IRR exceeds its cost of capital, then the project's NPV must be positive. 
E)  If Project A has a higher IRR than Project B, then Project A must have the lower NPV. 
A)  If Project A has a higher IRR than Project B, then Project A must also have a higher NPV. 
B)  The IRR calculation implicitly assumes that all cash flows are reinvested at the cost of capital. 
C)  The IRR calculation implicitly assumes that cash flows are withdrawn from the business rather than being reinvested in the business. 
D)  If a project has normal cash flows and its IRR exceeds its cost of capital, then the project's NPV must be positive. 
E)  If Project A has a higher IRR than Project B, then Project A must have the lower NPV.

Question 12

Murray Inc.is considering Projects S and L, whose cash flows are shown below.These projects are mutually exclusive, equally risky, and not repeatable.The CEO wants to use the IRR criterion, while the CFO favors the NPV method.You were hired to advise Murray on the best procedure.If the wrong decision criterion is used, how much potential value would Murray lose? $\begin{array}{cccccc}\text { r: } 6.00 \%\
\text { Year } & 0 & 1 & 2 & 3 & 4 \
\hline\mathrm{CF}_{\mathrm{S}} & -\$ 1,025 & \$ 380 & \$ 380 & \$ 380 & \$ 380 \
\mathrm{CF}_{\mathrm{L}} & -\$ 2,150 & \$ 765 & \$ 765 & \$ 765 & \$ 765
\end{array}$

Accepted Answer

A)  $188.68 
B)  $198.61 
C)  $209.07 
D)  $219.52 
E)  $230.49 
A)  $188.68 
B)  $198.61 
C)  $209.07 
D)  $219.52 
E)  $230.49

Question 13

An increase in the firm's cost of capital will decrease projects' NPVs, which could change the accept/reject decision for any potential project.However, such a change would have no impact on projects' IRRs.Therefore, the accept/reject decision under the IRR method is independent of the cost of capital.

Accepted Answer

A) True 
 B)False

Question 14

Which of the following statements is CORRECT?

Accepted Answer

A)  One drawback of the regular payback is that this method does not take account of cash flows beyond the payback period. 
B)  If a project's payback is positive, then the project should be accepted because it must have a positive NPV. 
C)  The regular payback ignores cash flows beyond the payback period, but the discounted payback method overcomes this problem. 
D)  One drawback of the discounted payback is that this method does not consider the time value of money, while the regular payback overcomes this drawback. 
E)  The shorter a project's payback period, the less desirable the project is normally considered to be by this criterion. 
A)  One drawback of the regular payback is that this method does not take account of cash flows beyond the payback period. 
B)  If a project's payback is positive, then the project should be accepted because it must have a positive NPV. 
C)  The regular payback ignores cash flows beyond the payback period, but the discounted payback method overcomes this problem. 
D)  One drawback of the discounted payback is that this method does not consider the time value of money, while the regular payback overcomes this drawback. 
E)  The shorter a project's payback period, the less desirable the project is normally considered to be by this criterion.

Question 15

Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows, with one outflow followed by a series of inflows.

Accepted Answer

A)  The lower the cost of capital used to calculate a project's NPV, the lower the calculated NPV will be. 
B)  If a project's NPV is less than zero, then its IRR must be less than the cost of capital. 
C)  If a project's NPV is greater than zero, then its IRR must be less than zero. 
D)  The NPV of a relatively low-risk project should be found using a relatively high cost of capital. 
E)  A project's NPV is found by compounding the cash inflows at the IRR to find the terminal value (TV), then discounting the TV at the cost of capital. 
A)  The lower the cost of capital used to calculate a project's NPV, the lower the calculated NPV will be. 
B)  If a project's NPV is less than zero, then its IRR must be less than the cost of capital. 
C)  If a project's NPV is greater than zero, then its IRR must be less than zero. 
D)  The NPV of a relatively low-risk project should be found using a relatively high cost of capital. 
E)  A project's NPV is found by compounding the cash inflows at the IRR to find the terminal value (TV), then discounting the TV at the cost of capital.

Question 16

Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows, with one outflow followed by a series of inflows.

Accepted Answer

A)  A project's MIRR is always less than its regular IRR. 
B)  If a project's IRR is greater than its cost of capital, then the MIRR will be less than the IRR. 
C)  If a project's IRR is greater than its cost of capital, then the MIRR will be greater than the IRR. 
D)  To find a project's MIRR, we compound cash inflows at the IRR and then discount the terminal value back to t = 0 at the cost of capital. 
E)  A project's MIRR is always greater than its regular IRR. 
A)  A project's MIRR is always less than its regular IRR. 
B)  If a project's IRR is greater than its cost of capital, then the MIRR will be less than the IRR. 
C)  If a project's IRR is greater than its cost of capital, then the MIRR will be greater than the IRR. 
D)  To find a project's MIRR, we compound cash inflows at the IRR and then discount the terminal value back to t = 0 at the cost of capital. 
E)  A project's MIRR is always greater than its regular IRR.

Question 17

Which of the following statements is CORRECT? Assume that all projects being considered have normal cash flows and are equally risky.

Accepted Answer

A)  If a project's IRR is equal to its cost of capital, then under all reasonable conditions, the project's IRR must be negative. 
B)  If a project's IRR is equal to its cost of capital, then under all reasonable conditions the project's NPV must be zero. 
C)  There is no necessary relationship between a project's IRR, its cost of capital, and its NPV. 
D)  When evaluating mutually exclusive projects, those projects with relatively long lives will tend to have relatively high NPVs when the cost of capital is relatively high. 
E)  If a project's IRR is equal to its cost of capital, then, under all reasonable conditions, the project's NPV must be negative. 
A)  If a project's IRR is equal to its cost of capital, then under all reasonable conditions, the project's IRR must be negative. 
B)  If a project's IRR is equal to its cost of capital, then under all reasonable conditions the project's NPV must be zero. 
C)  There is no necessary relationship between a project's IRR, its cost of capital, and its NPV. 
D)  When evaluating mutually exclusive projects, those projects with relatively long lives will tend to have relatively high NPVs when the cost of capital is relatively high. 
E)  If a project's IRR is equal to its cost of capital, then, under all reasonable conditions, the project's NPV must be negative.

Question 18

The regular payback method is deficient in that it does not take account of cash flows beyond the payback period.The discounted payback method corrects this fault.

Accepted Answer

A) True 
 B)False

Question 19

Garner Inc.is considering a project that has the following cash flow data.What is the project's payback? $$\begin{array} { l c c c c } 
\text { Year } & 0 & 1 & 2 & 3 \
\hline  \text { Cash flows } & - \$ 350 & \$ 200 & \$ 200 & \$ 200
\end{array}$$

Accepted Answer

A)  1.42 years 
B)  1.58 years 
C)  1.75 years 
D)  1.93 years 
E)  2.12 years 
A)  1.42 years 
B)  1.58 years 
C)  1.75 years 
D)  1.93 years 
E)  2.12 years

Question 20

Other things held constant, an increase in the cost of capital will result in a decrease in a project's IRR.

Accepted Answer

A) True 
 B)False

Exam 10: The Basics of Capital Budgeting: Evaluating Cash Flows

Which of the following statements is CORRECT?

Which of the following statements is CORRECT?

The primary reason that the NPV method is conceptually superior to the IRR method for evaluating mutually exclusive investments is that multiple IRRs may exist, and when that happens, we don't know which IRR is relevant.

Which of the following statements is CORRECT?

Poder Inc.is considering a project that has the following cash flow data.What is the project's payback? Year 0 1 2 3 Cash flows -\ 750 \ 300 \ 325 \ 350

Spence Company is considering a project that has the following cash flow data.What is the project's IRR? Note that a project's IRR can be less than the cost of capital or negative, in both cases it will be rejected. Year 0 1 2 3 4 Cash flows -\ 1,050 \ 400 \ 400 \ 400 \ 400

No conflict will exist between the NPV and IRR methods, when used to evaluate two equally risky but mutually exclusive projects, if the projects' cost of capital exceeds the rate at which the projects' NPV profiles cross.

Ellmann Systems is considering a project that has the following cash flow and cost of capital (r) data.What is the project's NPV? Note that if a project's expected NPV is negative, it should be rejected. r: 90\% Year 0 1 2 3 Cash flows -\ 1,000 \ 500 \ 500 \ 500

Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows, with one outflow followed by a series of inflows.

Which of the following statements is CORRECT?

Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows, with one outflow followed by a series of inflows.

Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows, with one outflow followed by a series of inflows.

Which of the following statements is CORRECT? Assume that all projects being considered have normal cash flows and are equally risky.

The regular payback method is deficient in that it does not take account of cash flows beyond the payback period.The discounted payback method corrects this fault.

Garner Inc.is considering a project that has the following cash flow data.What is the project's payback? Year 0 1 2 3 Cash flows -\ 350 \ 200 \ 200 \ 200

Other things held constant, an increase in the cost of capital will result in a decrease in a project's IRR.

An Overview of Financial Management and the Financial Environment

Financial Statements, Cash Flow, and Taxes

Analysis of Financial Statements

Time Value of Money

Bonds, Bond Valuation, and Interest Rates

Risk and Return

Corporate Valuation and Stock Valuation

Financial Options and Applications in Corporate Finance

The Cost of Capital

Cash Flow Estimation and Risk Analysis

Corporate Valuation and Financial Planning

Corporate Governance

Distributions to Shareholders: Dividends and Repurchases

Capital Structure Decisions

Supply Chains and Working Capital Management

Multinational Financial Management

Public and Private Financing: Initial Offerings, Seasoned Offerings, and Investment Banks

Lease Financing

Hybrid Financing: Preferred Stock, Warrants, and Convertibles

Dynamic Capital Structures and Corporate Valuation

Mergers and Corporate Control

Enterprise Risk Management

Bankruptcy, Reorganization, and Liquidation

Portfolio Theory and Asset Pricing Models

Real Options

Providing and Obtaining Credit

Advanced Issues in Cash Management and Inventory Control

Pension Plan Management

Financial Management in Not-For-Profit Businesses

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