Question 1

Which of the following statements is FALSE?

Accepted Answer

A) Because value is lost when a resource is used by another project,we should include the opportunity cost as an incremental cost of the project. 
B) Sunk costs are incremental with respect to the current decision regarding the project and should be included in its analysis. 
C) Overhead expenses are associated with activities that are not directly attributable to a single business activity but instead affect many different areas of the corporation. 
D) When computing the incremental earnings of an investment decision,we should include all changes between the firm's earnings with the project versus without the project. 
A) Because value is lost when a resource is used by another project,we should include the opportunity cost as an incremental cost of the project. 
B) Sunk costs are incremental with respect to the current decision regarding the project and should be included in its analysis. 
C) Overhead expenses are associated with activities that are not directly attributable to a single business activity but instead affect many different areas of the corporation. 
D) When computing the incremental earnings of an investment decision,we should include all changes between the firm's earnings with the project versus without the project.

Question 2

Money that has been or will be paid regardless of the decision whether or not to proceed with the project is:

Accepted Answer

A) cannibalization. 
B) considered as part of the initial investment in the project. 
C) an opportunity cost. 
D) a sunk cost. 
A) cannibalization. 
B) considered as part of the initial investment in the project. 
C) an opportunity cost. 
D) a sunk cost.

Question 3

An analysis that breaks the NPV calculation into its component assumptions and shows how the NPV varies as one of the underlying assumptions is changed is called:

Accepted Answer

A) scenario analysis. 
B) IRR analysis. 
C) accounting break-even analysis. 
D) sensitivity analysis. 
A) scenario analysis. 
B) IRR analysis. 
C) accounting break-even analysis. 
D) sensitivity analysis.

Question 4

Which of the following statements is FALSE?

Accepted Answer

A) Because only the tax consequences of depreciation are relevant for free cash flow,we should use the depreciation expense that the firm will use for tax purposes in our free cash flow forecasts. 
B) A firm generally identifies its marginal tax rate by determining the tax bracket that it falls into based on its overall level of pre-tax income. 
C) Free Cash Flow = (Revenues - Costs)× (1 - τc)- Capital Expenditures - ΔNWC + τc × Depreciation. 
D) Net working capital is the difference between current liabilities and current assets. 
A) Because only the tax consequences of depreciation are relevant for free cash flow,we should use the depreciation expense that the firm will use for tax purposes in our free cash flow forecasts. 
B) A firm generally identifies its marginal tax rate by determining the tax bracket that it falls into based on its overall level of pre-tax income. 
C) Free Cash Flow = (Revenues - Costs)× (1 - τc)- Capital Expenditures - ΔNWC + τc × Depreciation. 
D) Net working capital is the difference between current liabilities and current assets.

Question 5

Which of the following questions is FALSE?

Accepted Answer

A) Net Working Capital = Current Assets - Current Liabilities. 
B) Because depreciation is not a cash flow,we do not include it in the cash flow forecast. 
C) Tax loss carry backs allow corporations to take losses during the current year and use them to offset income in future years. 
D) Earnings are an accounting measure of firm performance. 
A) Net Working Capital = Current Assets - Current Liabilities. 
B) Because depreciation is not a cash flow,we do not include it in the cash flow forecast. 
C) Tax loss carry backs allow corporations to take losses during the current year and use them to offset income in future years. 
D) Earnings are an accounting measure of firm performance.

Question 6

Use the information for the question(s)below.
The Sisyphean Corporation is considering investing in a new cane manufacturing machine that has an estimated life of three years.The cost of the machine is $30,000 and the machine will be depreciated straight line over its three-year life to a residual value of $0.
The cane manufacturing machine will result in sales of 2000 canes in year 1.Sales are estimated to grow by 10% per year each year through year three.The price per cane that Sisyphean will charge its customers is $18 each and is to remain constant.The canes have a cost per unit to manufacture of $9 each.
Installation of the machine and the resulting increase in manufacturing capacity will require an increase in various net working capital accounts.It is estimated that the Sisyphean Corporation needs to hold 2% of its annual sales in cash,4% of its annual sales in accounts receivable,9% of its annual sales in inventory,and 6% of its annual sales in accounts payable.The firm is in the 35% tax bracket,and has a cost of capital of 10%.
-Construct a simple income statement showing the incremental EBIT and the incremental unlevered net income for all three years of the Sisyphean Companies project.

Accepted Answer

Incrementa

Question 7

Use the information for the question(s)below.
Glucose Scan Incorporated (GSI)currently sells its latest glucose monitor,the Glucoscan 3000,to diabetic patients for $129.GSI plans on lowering their price next year to $99 per unit.The cost of goods sold for each Glucoscan unit is $50,and GSI expects to sell 100,000 units over the next year.
-Suppose that if GSI drops the price on the Glucoscan 3000 immediately,it can increase sales over the next year by 30% to 130,000 units.The incremental impact of this price drop on the firms EBIT is closest to:

Accepted Answer

A) a decline of 1.5 million. 
B) an increase of 1.5 million. 
C) a decline of 2.4 million. 
D) an increase of 2.4 million. 
A) a decline of 1.5 million. 
B) an increase of 1.5 million. 
C) a decline of 2.4 million. 
D) an increase of 2.4 million.

Question 8

Which of the following statements is FALSE?

Accepted Answer

A) We begin the capital budgeting process by determining the incremental earnings of a project. 
B) The marginal corporate tax rate is the tax rate the firm will pay on an incremental dollar of pre-tax income. 
C) Investments in plant,property,and equipment are directly listed as expense when calculating earnings. 
D) The opportunity cost of using a resource is the value it could have provided in its best alternative use. 
A) We begin the capital budgeting process by determining the incremental earnings of a project. 
B) The marginal corporate tax rate is the tax rate the firm will pay on an incremental dollar of pre-tax income. 
C) Investments in plant,property,and equipment are directly listed as expense when calculating earnings. 
D) The opportunity cost of using a resource is the value it could have provided in its best alternative use.

Question 9

Bubba Ho-Tep Company reported net income of $300 million for the most recent fiscal year.The firm had depreciation expenses of $125 million and capital expenditures of $150 million.Although they had no interest expense,the firm did have an increase in net working capital of $20 million.What is Bubba Ho-Tep's free cash flow?

Accepted Answer

A) $170 million 
B) $255 million 
C) $150 million 
D) $5 million 
A) $170 million 
B) $255 million 
C) $150 million 
D) $5 million

Question 10

Which of the following statements is FALSE?

Accepted Answer

A) Project externalities are direct effects of the project that may increase or decrease the profits of other business activities of the firm. 
B) Incremental earnings are the amount by which the firm's earnings are expected to change as a result of the investment decision. 
C) The average selling price of a product and its cost of production will generally change over time. 
D) Any money that has already been spent is a sunk cost and therefore irrelevant in the capital budgeting process. 
A) Project externalities are direct effects of the project that may increase or decrease the profits of other business activities of the firm. 
B) Incremental earnings are the amount by which the firm's earnings are expected to change as a result of the investment decision. 
C) The average selling price of a product and its cost of production will generally change over time. 
D) Any money that has already been spent is a sunk cost and therefore irrelevant in the capital budgeting process.

Question 11

Which of the following statements is FALSE?

Accepted Answer

A) Depreciation is a method used for accounting and tax purposes to allocate the original purchase cost of the asset over its life. 
B) Sometimes the firm explicitly forecast free cash flow over a shorter horizon than the full horizon of the project or investment. 
C) Earnings include the cost of capital investments,but do not include non-cash charges,such as depreciation. 
D) Firms often report a different depreciation expense for accounting and for tax purposes. 
A) Depreciation is a method used for accounting and tax purposes to allocate the original purchase cost of the asset over its life. 
B) Sometimes the firm explicitly forecast free cash flow over a shorter horizon than the full horizon of the project or investment. 
C) Earnings include the cost of capital investments,but do not include non-cash charges,such as depreciation. 
D) Firms often report a different depreciation expense for accounting and for tax purposes.

Question 12

Use the following information to answer the question(s)below.
(Include the MACRS Table from the Appendix. )
Casa Grande Farms is considering purchasing multiple tractors for a total purchase price of $540,000.These tractors are expected to generate EBITDA of $250,000 for each of the next three years.Casa Grande Farms has a 35% tax rate and has a cost of capital of 10%.
-Assuming that Casa Grande Farms depreciates these tractors straight line over the three year life,then the annual depreciation tax shield in year 2 is closest to:

Accepted Answer

A) 63,000 
B) 80,000 
C) 84,000 
D) 117,000 
A) 63,000 
B) 80,000 
C) 84,000 
D) 117,000

Question 13

Which of the following statements is FALSE?

Accepted Answer

A) When evaluating a capital budgeting decision,the correct tax rate to use is the firm's average corporate tax rate. 
B) To determine the capital budget,firms analyze alternative projects and decide which ones to accept through a process called capital budgeting. 
C) A new product typically has lower sales initially,as customers gradually become aware of the product. 
D) Sunk costs have been or will be paid regardless of the decision whether or not to proceed with the project. 
A) When evaluating a capital budgeting decision,the correct tax rate to use is the firm's average corporate tax rate. 
B) To determine the capital budget,firms analyze alternative projects and decide which ones to accept through a process called capital budgeting. 
C) A new product typically has lower sales initially,as customers gradually become aware of the product. 
D) Sunk costs have been or will be paid regardless of the decision whether or not to proceed with the project.

Question 14

Use the information for the question(s)below.
The Sisyphean Corporation is considering investing in a new cane manufacturing machine that has an estimated life of three years.The cost of the machine is $30,000 and the machine will be depreciated straight line over its three-year life to a residual value of $0.
The cane manufacturing machine will result in sales of 2000 canes in year 1.Sales are estimated to grow by 10% per year each year through year three.The price per cane that Sisyphean will charge its customers is $18 each and is to remain constant.The canes have a cost per unit to manufacture of $9 each.
Installation of the machine and the resulting increase in manufacturing capacity will require an increase in various net working capital accounts.It is estimated that the Sisyphean Corporation needs to hold 2% of its annual sales in cash,4% of its annual sales in accounts receivable,9% of its annual sales in inventory,and 5% of its annual sales in accounts payable.The firm is in the 35% tax bracket,and has a cost of capital of 10%.
-The required net working capital in the first year for the Sisyphean Corporation's project is closest to:

Accepted Answer

A) $3600 
B) $3960 
C) $2880 
D) $5400 
A) $3600 
B) $3960 
C) $2880 
D) $5400

Question 15

You are considering adding a microbrewery on to one of your firm's existing restaurants.This will entail an increase in inventory of $8000,an increase in Accounts payable of $2500,and an increase in property,plant,and equipment of $40,000.All other accounts will remain unchanged.The change in net working capital resulting from the addition of the microbrewery is:

Accepted Answer

A) $45,500 
B) $10,500 
C) $6500 
D) $5500 
A) $45,500 
B) $10,500 
C) $6500 
D) $5500

Question 16

Use the information for the question(s)below.
Shepard Industries is evaluating a proposal to expand its current distribution facilities.Management has projected the project will produce the following cash flows for the first two years (in millions).  
-The incremental EBIT for the Shepard Industries project in year two is closest to:

Accepted Answer

A) $415 
B) $875 
C) $595 
D) $510 
A) $415 
B) $875 
C) $595 
D) $510

Question 17

Epiphany is worried about the reliability of the sales forecast.How sensitive is the project's NPV to a 10% change in sales?

Accepted Answer

Base Case
 @#IMG-DLM& 
10% Decrease in S

Question 18

Use the following information to answer the question(s)below.
(Include the MACRS Table from the Appendix. )
Casa Grande Farms is considering purchasing multiple tractors for a total purchase price of $540,000.These tractors are expected to generate EBITDA of $250,000 for each of the next three years.Casa Grande Farms has a 35% tax rate and has a cost of capital of 10%.
-Assuming that Casa Grande Farms depreciates these tractors straight line over the three year life,then the NPV of buying the tractors is closest to:

Accepted Answer

A) 20,785 
B) 36,225 
C) 81,715 
D) 513,235 
A) 20,785 
B) 36,225 
C) 81,715 
D) 513,235

Question 19

The free cash flow from the Shepard Industries project in year two is closest to:

Accepted Answer

A) $345 
B) $455 
C) $275 
D) -$5 
A) $345 
B) $455 
C) $275 
D) -$5

Question 20

The NPV for Epiphany's Project is closest to:

Accepted Answer

A) $4825 
B) $39,000 
C) $11,946 
D) $20,400 
A) $4825 
B) $39,000 
C) $11,946 
D) $20,400

Exam 8: Fundamentals of Capital Budgeting

Which of the following statements is FALSE?

Money that has been or will be paid regardless of the decision whether or not to proceed with the project is:

An analysis that breaks the NPV calculation into its component assumptions and shows how the NPV varies as one of the underlying assumptions is changed is called:

Which of the following statements is FALSE?

Which of the following questions is FALSE?

Which of the following statements is FALSE?

Which of the following statements is FALSE?

Which of the following statements is FALSE?

Which of the following statements is FALSE?

Epiphany is worried about the reliability of the sales forecast.How sensitive is the project's NPV to a 10% change in sales?

The free cash flow from the Shepard Industries project in year two is closest to:

The NPV for Epiphany's Project is closest to:

The Corporation

Introduction to Financial Statement Analysis

Financial Decision Making and the Law of One Price

The Time Value of Money

Interest Rates

Valuing Bonds

Investment Decision Rules

Valuing Stocks

Capital Markets and the Pricing of Risk

Optimal Portfolio Choice and the Capital Asset Pricing Model

Estimating the Cost of Capital

Investor Behavior and Capital Market Efficiency

Capital Structure in a Perfect Market

Debt and Taxes

Financial Distress,managerial Incentives,and Information

Payout Policy

Capital Budgeting and Valuation With Leverage

Valuation and Financial Modeling: a Case Study

Financial Options

Option Valuation

Real Options

Raising Equity Capital

Debt Financing

Leasing

Working Capital Management

Short-Term Financial Planning

Mergers and Acquisitions

Corporate Governance

Risk Management

International Corporate Finance

Filters