Question 1

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

Accepted Answer

A) True 
 B)False

Question 2

Which of the following statements is CORRECT?

Accepted Answer

A) One advantage of the NPV over the IRR is that NPV takes account of cash flows over a project's full life whereas IRR does not. 
B) One advantage of the NPV over the IRR is that NPV assumes that cash flows will be reinvested at the WACC, whereas IRR assumes that cash flows are reinvested at the IRR. The NPV assumption is generally more appropriate. 
C) One advantage of the NPV over the MIRR method is that NPV takes account of cash flows over a project's full life whereas MIRR does not. 
D) One advantage of the NPV over the MIRR method is that NPV discounts cash flows whereas the MIRR is based on undiscounted cash flows. 
E) Since cash flows under the IRR and MIRR are both discounted at the same rate (the WAC
C) , these two methods always rank mutually exclusive projects in the same order. 
A) One advantage of the NPV over the IRR is that NPV takes account of cash flows over a project's full life whereas IRR does not. 
B) One advantage of the NPV over the IRR is that NPV assumes that cash flows will be reinvested at the WACC, whereas IRR assumes that cash flows are reinvested at the IRR. The NPV assumption is generally more appropriate. 
C) One advantage of the NPV over the MIRR method is that NPV takes account of cash flows over a project's full life whereas MIRR does not. 
D) One advantage of the NPV over the MIRR method is that NPV discounts cash flows whereas the MIRR is based on undiscounted cash flows. 
E) Since cash flows under the IRR and MIRR are both discounted at the same rate (the WAC
C) , these two methods always rank mutually exclusive projects in the same order.

Question 3

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.

Accepted Answer

A) −$18.89 
B) −$19.88 
C) −$20.93 
D) −$22.03 
E) −$23.13 
A) −$18.89 
B) −$19.88 
C) −$20.93 
D) −$22.03 
E) −$23.13

Question 4

Anderson Systems 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.

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 5

Projects A and B are mutually exclusive and have normal cash flows.Project A has an IRR of 15% and B's IRR is 20%.The company's WACC is 12%,and at that rate Project A has the higher NPV.Which of the following statements is CORRECT?

Accepted Answer

A) The crossover rate for the two projects must be less than 12%. 
B) Assuming the timing pattern of the two projects' cash flows is the same, Project B probably has a higher cost (and larger scale). 
C) Assuming the two projects have the same scale, Project B probably has a faster payback than Project A. 
D) The crossover rate for the two projects must be 12%. 
E) Since B has the higher IRR, then it must also have the higher NPV if the crossover rate is less than the WACC of 12%. 
A) The crossover rate for the two projects must be less than 12%. 
B) Assuming the timing pattern of the two projects' cash flows is the same, Project B probably has a higher cost (and larger scale). 
C) Assuming the two projects have the same scale, Project B probably has a faster payback than Project A. 
D) The crossover rate for the two projects must be 12%. 
E) Since B has the higher IRR, then it must also have the higher NPV if the crossover rate is less than the WACC of 12%.

Question 6

An increase in the firm's WACC 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 7

Malholtra Inc.is considering a project that has the following cash flow and WACC data.What is the project's MIRR? Note that a project's projected MIRR can be less than the WACC (and even negative),in which case it will be rejected.

Accepted Answer

A) 14.08% 
B) 15.65% 
C) 17.21% 
D) 18.94% 
E) 20.83% 
A) 14.08% 
B) 15.65% 
C) 17.21% 
D) 18.94% 
E) 20.83%

Question 8

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 9

Projects C and D are mutually exclusive and have normal cash flows.Project C has a higher NPV if the WACC is less than 12%,whereas Project D has a higher NPV if the WACC exceeds 12%.Which of the following statements is CORRECT?

Accepted Answer

A) Project D probably has a higher IRR. 
B) Project D is probably larger in scale than Project C. 
C) Project C probably has a faster payback. 
D) Project C probably has a higher IRR. 
E) The crossover rate between the two projects is below 12%. 
A) Project D probably has a higher IRR. 
B) Project D is probably larger in scale than Project C. 
C) Project C probably has a faster payback. 
D) Project C probably has a higher IRR. 
E) The crossover rate between the two projects is below 12%.

Question 10

Which of the following statements is CORRECT?

Accepted Answer

A) If a project has "normal" cash flows, then its IRR must be positive. 
B) If a project has "normal" cash flows, then its MIRR must be positive. 
C) If a project has "normal" cash flows, then it will have exactly two real IRRs. 
D) The definition of "normal" cash flows is that the cash flow stream has one or more negative cash flows followed by a stream of positive cash flows and then one negative cash flow at the end of the project's life. 
E) If a project has "normal" cash flows, then it can have only one real IRR, whereas a project with "nonnormal" cash flows might have more than one real IRR. 
A) If a project has "normal" cash flows, then its IRR must be positive. 
B) If a project has "normal" cash flows, then its MIRR must be positive. 
C) If a project has "normal" cash flows, then it will have exactly two real IRRs. 
D) The definition of "normal" cash flows is that the cash flow stream has one or more negative cash flows followed by a stream of positive cash flows and then one negative cash flow at the end of the project's life. 
E) If a project has "normal" cash flows, then it can have only one real IRR, whereas a project with "nonnormal" cash flows might have more than one real IRR.

Question 11

Small businesses make less use of DCF capital budgeting techniques than large businesses.This may reflect a lack of knowledge on the part of small firms' managers,but it may also reflect a rational conclusion that the costs of using DCF analysis outweigh the benefits of these methods for very small firms.

Accepted Answer

A) True 
 B)False

Question 12

If you were evaluating two mutually exclusive projects for a firm with a zero cost of capital,the payback method and NPV method would always lead to the same decision on which project to undertake.

Accepted Answer

A) True 
 B)False

Question 13

Datta Computer Systems 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.

Accepted Answer

A) 9.70% 
B) 10.78% 
C) 11.98% 
D) 13.31% 
E) 14.64% 
A) 9.70% 
B) 10.78% 
C) 11.98% 
D) 13.31% 
E) 14.64%

Question 14

Because "present value" refers to the value of cash flows that occur at different points in time,a series of present values of cash flows should not be summed to determine the value of a capital budgeting project.

Accepted Answer

A) True 
 B)False

Question 15

The NPV and IRR methods,when used to evaluate two equally risky but mutually exclusive projects,will lead to different accept/reject decisions and thus capital budgets if the cost of capital at which the projects' NPV profiles cross is greater than the crossover rate.

Accepted Answer

A) True 
 B)False

Question 16

Sexton Inc.is considering Projects S and L,whose cash flows are shown below.These projects are mutually exclusive,equally risky,and not repeatable.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 one with the higher IRR will also have the higher NPV,so no value will be lost if the IRR method is used.

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 17

Harry's Inc.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.

Accepted Answer

A) $105.89 
B) $111.47 
C) $117.33 
D) $123.51 
E) $130.01 
A) $105.89 
B) $111.47 
C) $117.33 
D) $123.51 
E) $130.01

Question 18

Which of the following statements is CORRECT?

Accepted Answer

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

Question 19

The internal rate of return is that discount rate that equates the present value of the cash outflows (or costs)with the present value of the cash inflows.

Accepted Answer

A) True 
 B)False

Question 20

Cornell Enterprises 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.

Accepted Answer

A) $ 92.37 
B) $ 96.99 
C) $101.84 
D) $106.93 
E) $112.28 
A) $ 92.37 
B) $ 96.99 
C) $101.84 
D) $106.93 
E) $112.28

Exam 11: The Basics of Capital Budgeting

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

Which of the following statements is CORRECT?

Anderson Systems 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.

Projects A and B are mutually exclusive and have normal cash flows.Project A has an IRR of 15% and B's IRR is 20%.The company's WACC is 12%,and at that rate Project A has the higher NPV.Which of the following statements is CORRECT?

An increase in the firm's WACC 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.

Malholtra Inc.is considering a project that has the following cash flow and WACC data.What is the project's MIRR? Note that a project's projected MIRR can be less than the WACC (and even negative),in which case it will be rejected.

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.

Projects C and D are mutually exclusive and have normal cash flows.Project C has a higher NPV if the WACC is less than 12%,whereas Project D has a higher NPV if the WACC exceeds 12%.Which of the following statements is CORRECT?

Which of the following statements is CORRECT?

If you were evaluating two mutually exclusive projects for a firm with a zero cost of capital,the payback method and NPV method would always lead to the same decision on which project to undertake.

Datta Computer Systems 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.

Because "present value" refers to the value of cash flows that occur at different points in time,a series of present values of cash flows should not be summed to determine the value of a capital budgeting project.

The NPV and IRR methods,when used to evaluate two equally risky but mutually exclusive projects,will lead to different accept/reject decisions and thus capital budgets if the cost of capital at which the projects' NPV profiles cross is greater than the crossover rate.

Harry's Inc.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.

Which of the following statements is CORRECT?

The internal rate of return is that discount rate that equates the present value of the cash outflows (or costs)with the present value of the cash inflows.

Cornell Enterprises 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.

An Overview of Financial Management

Financial Markets and Institutions

Financial Statements, cash Flow, and Taxes

Analysis of Financial Statements

Time Value of Money

Interest Rates

Bonds and Their Valuation

Risk and Rates of Return

Stocks and Their Valuation

The Cost of Capital

Cash Flow Estimation and Risk Analysis

Real Options and Other Topics in Capital Budgeting

Capital Structure and Leverage

Distributions to Shareholders: Dividends and Share Repurchases

Working Capital Management

Financial Planning and Forecasting

Derivatives and Risk Management

Multinational Financial Management

Hybrid Financing: Preferred Stock, leasing, warrants, and Convertibles

Mergers and Acquisitions

Continuous Compounding and Discounting

Zero Coupon Bonds

Bankruptcy and Reorganization

Calculating Beta Coefficients

Using the Capm to Estimate the Risk-Adjusted Cost of Capital

Techniques for Measuring Beta Risk

Degree of Leverage

Filters