Exam 11: The Basics of Capital Budgeting

Tuttle Enterprises is considering a project that has the following cash flow and WACC data.What is the project's NPV? Note that if a project's projected NPV is negative,it should be rejected. WACC: 11.50\% Year 0 1 2 3 4 Cash flows -\ 1,000 \ 350 \ 350 \ 350 \ 350

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 cash outflow at t = 0 followed by a series of positive cash flows.

Which of the following statements is CORRECT?

Which of the following statements is CORRECT?

Taggart 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 -\ 1,075 \ 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.

In theory,capital budgeting decisions should depend solely on forecasted cash flows and the opportunity cost of capital.The decision criterion should not be affected by managers' tastes,choice of accounting method,or the profitability of other independent projects.

Masulis Inc.is considering a project that has the following cash flow and WACC data.What is the project's discounted payback? WACC: 10.00\% Year 0 1 2 3 4 Cash flows -\ 925 \ 525 \ 485 \ 445 \ 405

Tesar Chemicals is considering Projects S and L,whose cash flows are shown below.These projects are mutually exclusive,equally risky,and not repeatable.The CEO believes the IRR is the best selection criterion,while the CFO advocates the NPV.If the decision is made by choosing the project with the higher IRR rather than the one with the higher NPV,how much,if any,value will be forgone,i.e. ,what's the chosen NPV versus the maximum possible NPV? Note that (1)"true value" is measured by NPV,and (2)under some conditions the choice of IRR vs.NPV will have no effect on the value gained or lost. $\text { WACC: } \quad 7.75 \%$ 0 1 2 3 4 -\ 1,100 \ 550 \ 600 \ 100 \ 100 -\ 2,700 \ 650 \ 725 \ 800 \ 1,400

Assume that the economy is in a mild recession,and as a result interest rates and money costs generally are relatively low.The WACC for two mutually exclusive projects that are being considered is 8%.Project S has an IRR of 20% while Project L's IRR is 15%.The projects have the same NPV at the 8% current WACC.However,you believe that the economy is about to recover,and money costs and thus your WACC will also increase.You also think that the projects will not be funded until the WACC has increased,and their cash flows will not be affected by the change in economic conditions.Under these conditions,which of the following statements is CORRECT?

Simkins Renovations Inc.is considering a project that has the following cash flow data.What is the project's IRR? Note that a project's projected IRR can be less than the WACC (and even negative),in which case it will be rejected. Year 0 1 2 3 4 Cash flows -\ 625 \ 300 \ 290 \ 280 \ 270 ?

Kosovski Company is considering Projects S and L,whose cash flows are shown below.These projects are mutually exclusive,equally risky,and are not repeatable.If the decision is made by choosing the project with the higher IRR,how much value will be forgone? Note that under some conditions choosing projects on the basis of the IRR will cause $0.00 value to be lost. $\text { WACC: } \quad 6.25 \%$ 0 1 2 3 4 -\ 1,050 \ 675 \ 650 -\ 1,050 \ 360 \ 360 \ 360 \ 360

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.

The NPV method is based on the assumption that projects' cash flows are reinvested at the project's risk-adjusted cost of capital.

Lasik Vision Inc.recently analyzed the project whose cash flows are shown below.However,before Lasik decided to accept or reject the project,the Federal Reserve took actions that changed interest rates and therefore the firm's WACC.The Fed's action did not affect the forecasted cash flows.By how much did the change in the WACC affect the project's forecasted NPV? Note that a project's projected NPV can be negative,in which case it should be rejected. Old WACC: 8.00\% New WACC: 9.75\% Year 0 1 2 3 Cash flows -\ 1,000 \ 410 \ 410 \ 410

The NPV and IRR methods,when used to evaluate two independent and equally risky projects,will lead to different accept/reject decisions and thus capital budgets if the projects' IRRs are greater than their costs of capital.

Last month,Lloyd's Systems analyzed the project whose cash flows are shown below.However,before the decision to accept or reject the project,the Federal Reserve took actions that changed interest rates and therefore the firm's WACC.The Fed's action did not affect the forecasted cash flows.By how much did the change in the WACC affect the project's forecasted NPV? Note that a project's projected NPV can be negative,in which case it should be rejected. Old WACC: 10.00\% New WACC: 9.50\% Year 0 1 2 3 Cash flows -\ 1,000 \ 410 \ 410 \ 410

Which of the following statements is CORRECT?

Warnock Inc.is considering a project that has the following cash flow and WACC data.What is the project's NPV? Note that a project's projected NPV can be negative,in which case it will be rejected. WACC: 10.00\% Year 0 1 2 3 Cash flows -\ 1,050 \ 500 \ 400 \ 300