Question 1

A major problem with using the risk-adjusted discount rate approach is the determination of

Accepted Answer

A) the beta value for the firm 
B) the firm's weighted cost of capital 
C) the firm's required rate of return 
D) beta values for individual projects 
A) the beta value for the firm 
B) the firm's weighted cost of capital 
C) the firm's required rate of return 
D) beta values for individual projects

Question 2

Billy Bob is considering building a water slide park that will require a net investment of $200,000 and yield the following net cash flows:
 
If the risk-free rate is 8 percent and the market risk premium is 6 percent, what is the certainty equivalent NPV for this project?

Accepted Answer

A) $12,805 
B) $5,746 
C) $3,703 
D) $11,025 
A) $12,805 
B) $5,746 
C) $3,703 
D) $11,025

Question 3

What item has made sensitivity analysis simple and inexpensive?

Accepted Answer

A) computer accounting software 
B) computer spreadsheet software 
C) computer webinars 
D) computer video and presentation software 
A) computer accounting software 
B) computer spreadsheet software 
C) computer webinars 
D) computer video and presentation software

Question 4

What is the reason companies utilize the certainty equivalent approach in evaluating projects?

Accepted Answer

1.It can adjust the cash flows to accoun

Question 5

Smart Bumpkins wants to increase production by adding new equipment.The cost of the upgrade is $190,000 and expected cash flows from the new upgrade are expected to be as follows over the next 6 years and the risk free rate is 5%.Should the company upgrade?
$$\begin{array} { | c | c | } 
\hline \text { Cash Flaws } & \text { Certainty Equivalents } \
\hline \$ 45,000 & .85 \
\hline \$ 45,000 & .80 \
\hline \$ 75,000 & .75 \
\hline \$ 110,000 & .70 \
\hline \$ 110,000 & .60 \
\hline \$ 110,000 & .50 \
\hline
\end{array}$$

Accepted Answer

A) Yes, the CNPV is $195,196.06 
B) Yes, the CNPV is $83,775.16 
C) No, the CNPV is -$75,522.84 
D) No, the CNPV is -$42,175.93 
A) Yes, the CNPV is $195,196.06 
B) Yes, the CNPV is $83,775.16 
C) No, the CNPV is -$75,522.84 
D) No, the CNPV is -$42,175.93

Question 6

All of the following are methods of adjusting a project for total risk EXCEPT:

Accepted Answer

A) sensitivity analysis 
B) carpe diem approach 
C) certainty equivalent approach 
D) simulation analysis 
A) sensitivity analysis 
B) carpe diem approach 
C) certainty equivalent approach 
D) simulation analysis

Question 7

The most expensive method of adjusting for total project risk in the evaluation of capital budgeting projects is the

Accepted Answer

A) sensitivity analysis method 
B) simulation approach 
C) net present value/payback method 
D) risk-adjusted discount rate approach 
A) sensitivity analysis method 
B) simulation approach 
C) net present value/payback method 
D) risk-adjusted discount rate approach

Question 8

Total project risk is

Accepted Answer

A) the contribution a project makes to the risk of the firm 
B) measured by the correlation coefficient 
C) the chance that a project will perform different from expectations 
D) measured by the project's beta 
A) the contribution a project makes to the risk of the firm 
B) measured by the correlation coefficient 
C) the chance that a project will perform different from expectations 
D) measured by the project's beta

Question 9

The risk-adjusted discount rate approach is preferable to the weighted cost of capital approach when

Accepted Answer

A) all projects have the same risk characteristics 
B) the risk-free rate is known with certainty 
C) the projects under consideration have different risk characteristics 
D) the firm is unlevered 
A) all projects have the same risk characteristics 
B) the risk-free rate is known with certainty 
C) the projects under consideration have different risk characteristics 
D) the firm is unlevered

Question 10

The hurdle rate is best described as:

Accepted Answer

A) the required rate of return. 
B) the risk adjusted discount rate. 
C) the net present value. 
D) the risk free rate. 
A) the required rate of return. 
B) the risk adjusted discount rate. 
C) the net present value. 
D) the risk free rate.

Question 11

The certainty equivalent approach is a risk evaluation technique.Which of the following statements is/are correct?

Accepted Answer

A) Only statement I is correct 
B) Only statement II is correct 
C) Both statements I and II are correct 
D) Neither statement I nor II is correct 
A) Only statement I is correct 
B) Only statement II is correct 
C) Both statements I and II are correct 
D) Neither statement I nor II is correct

Question 12

All of the following are advantages of the NPV-payback approach to risk analysis except

Accepted Answer

A) it is easy and inexpensive to apply 
B) it considers a project's liquidity 
C) it explicitly considers the variability of a project's return 
D) it is consistent with the notion that risk increases with futurity 
A) it is easy and inexpensive to apply 
B) it considers a project's liquidity 
C) it explicitly considers the variability of a project's return 
D) it is consistent with the notion that risk increases with futurity

Question 13

The net present value of a project is normally distributed with an expected value of $52,000 and a standard deviation of $31,515.Determine the probability that the project will have a net present value of less than zero.

Accepted Answer

A) 1.65% 
B) 95.1% 
C) 4.95% 
D) cannot be determined 
A) 1.65% 
B) 95.1% 
C) 4.95% 
D) cannot be determined

Question 14

The basic capital budgeting decision models, that is, NPV and IRR, handle risk by

Accepted Answer

A) ignoring it 
B) assuming all cash flows are known with certainty 
C) assuming all projects are of average risk and evaluating them based on expected values 
D) using risk-adjusted discount rates to evaluate projects 
A) ignoring it 
B) assuming all cash flows are known with certainty 
C) assuming all projects are of average risk and evaluating them based on expected values 
D) using risk-adjusted discount rates to evaluate projects

Question 15

DKA uses the certainty equivalent approach to deal with total project risk and is considering a project with the following:
 
What is the certainty equivalent NPV for this project if the risk-free rate is 8% and the required return on the market portfolio is 15%?

Accepted Answer

A) $3,233 
B) $17,743 
C) -$15,243 
D) $13,233 
A) $3,233 
B) $17,743 
C) -$15,243 
D) $13,233

Question 16

The the amount of debt in a firm's capital structure, the will be the firm's beta.

Accepted Answer

A) larger, larger 
B) smaller, larger 
C) larger, smaller 
D) smaller, smaller 
A) larger, larger 
B) smaller, larger 
C) larger, smaller 
D) smaller, smaller

Question 17

The Chris-Kraft Co.is financed entirely with equity and the firm has a beta of 1.6.The current risk-free rate is 9.5 percent and the expected market return is 16 percent.What rate of return should Chris-Kraft require on a project of average risk?

Accepted Answer

A) 25.6% 
B) 14.9% 
C) 10.4% 
D) 19.9% 
A) 25.6% 
B) 14.9% 
C) 10.4% 
D) 19.9%

Question 18

Faris currently has a capital structure of 40 percent debt and 60 percent equity, but is considering a new product that will be produced and marketed by a separate division.The new division will have a capital structure of 70 percent debt and 30 percent equity.Faris has a current beta of 1.1, but is not sure what the beta for the new division will be.AMX is a firm that produces a product similar to the product under consideration by Faris.AMX has a beta of 1.6, a capital structure of 40 percent debt and 60 percent equity and a marginal tax rate of 40 percent.If Faris' tax rate is 40 percent, estimate the levered beta for the new product division?

Accepted Answer

A) 2.44 
B) 1.14 
C) 2.74 
D) 3.88 
A) 2.44 
B) 1.14 
C) 2.74 
D) 3.88

Exam 11: Capital Budgeting and Risk

A major problem with using the risk-adjusted discount rate approach is the determination of

Billy Bob is considering building a water slide park that will require a net investment of $200,000 and yield the following net cash flows: If the risk-free rate is 8 percent and the market risk premium is 6 percent, what is the certainty equivalent NPV for this project?

What item has made sensitivity analysis simple and inexpensive?

What is the reason companies utilize the certainty equivalent approach in evaluating projects?

All of the following are methods of adjusting a project for total risk EXCEPT:

The most expensive method of adjusting for total project risk in the evaluation of capital budgeting projects is the

Total project risk is

The risk-adjusted discount rate approach is preferable to the weighted cost of capital approach when

The hurdle rate is best described as:

The certainty equivalent approach is a risk evaluation technique.Which of the following statements is/are correct?

All of the following are advantages of the NPV-payback approach to risk analysis except

The net present value of a project is normally distributed with an expected value of $52,000 and a standard deviation of $31,515.Determine the probability that the project will have a net present value of less than zero.

The basic capital budgeting decision models, that is, NPV and IRR, handle risk by

DKA uses the certainty equivalent approach to deal with total project risk and is considering a project with the following: What is the certainty equivalent NPV for this project if the risk-free rate is 8% and the required return on the market portfolio is 15%?

The the amount of debt in a firm's capital structure, the will be the firm's beta.

The Chris-Kraft Co.is financed entirely with equity and the firm has a beta of 1.6.The current risk-free rate is 9.5 percent and the expected market return is 16 percent.What rate of return should Chris-Kraft require on a project of average risk?

The Role and Objective of Financial Management

The Domestic and International Financial Marketplace

Evaluation of Financial Performance

Financial Planning and Forecasting

The Time Value of Money

A: The Time Value of Money

Fixed-Income Securities: Characteristics and Valuation

Common Stock: Characteristics, Valuation, and Issuance

Analysis of Risk and Return

Capital Budgeting and Cash Flow Analysis

Capital Budgeting: Decision Criteria and Real Option Considerations

A: Capital Budgeting: Decision Criteria and Real Option Considerations

The Cost of Capital, Capital Structure, and Dividend Policy

Capital Structure Concepts

Capital Structure Management in Practice

A: Capital Structure Management in Practice

Dividend Policy

Working Capital Management

The Management of Cash and Marketable Securities

The Management of Accounts Receivable and Inventories

Lease and Intermediate-Term Financing

Financing with Derivatives

A: Financing with Derivatives

Risk Management

International Financial Management

Corporate Restructuring

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