Question 1

Which of the following statements 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 carrybacks 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 carrybacks 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 2

Which of the following statements is false?

Accepted Answer

A)  Many projects use a resource that the company already owns. 
B)  When evaluating a capital budgeting decision, we generally include interest expense. 
C)  Only include as incremental expenses in your capital budgeting analysis the additional overhead expenses that arise because of the decision to take on the project. 
D)  As a practical matter, to derive the forecasted cash flows of a project, financial managers often begin by forecasting earnings. 
A)  Many projects use a resource that the company already owns. 
B)  When evaluating a capital budgeting decision, we generally include interest expense. 
C)  Only include as incremental expenses in your capital budgeting analysis the additional overhead expenses that arise because of the decision to take on the project. 
D)  As a practical matter, to derive the forecasted cash flows of a project, financial managers often begin by forecasting earnings.

Question 3

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

Accepted Answer

A)  $240 million 
B)  $300 million 
C)  -$5 million 
D)  $390 million 
A)  $240 million 
B)  $300 million 
C)  -$5 million 
D)  $390 million

Question 4

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 forecasts 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 forecasts 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 5

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 6

A decrease in the sales of a current project because of the launching of a new project is

Accepted Answer

A)  cannibalization. 
B)  a sunk cost. 
C)  an overhead expense. 
D)  irrelevant to the investment decision. 
A)  cannibalization. 
B)  a sunk cost. 
C)  an overhead expense. 
D)  irrelevant to the investment decision.

Question 7

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 those 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 those without the project.

Question 8

The depreciation tax shield for Shepard Industries project in year two is closest to:

Accepted Answer

A)  $84 million 
B)  $196 million 
C)  $72 million 
D)  $96 million 
A)  $84 million 
B)  $196 million 
C)  $72 million 
D)  $96 million

Question 9

Firms can make best capital budgeting decision by first computing the free cash flow associated with each alternative and then choosing the alternative with the highest ________.

Accepted Answer

A)  net present value 
B)  net cash flow 
C)  payback period 
D)  profitability index 
A)  net present value 
B)  net cash flow 
C)  payback period 
D)  profitability index

Question 10

Use the information for the question(s) below.
Epiphany Industries is considering a new capital budgeting project that will last for three years. Epiphany plans on using a cost of capital of 12% to evaluate this project. Based on extensive research, it has prepared the following incremental cash flow projections:
  
-The free cash flow for the first year of Epiphany's project is closest to:

Accepted Answer

A)  $43,000 
B)  $25,000 
C)  $38,000 
D)  $45,000 
A)  $43,000 
B)  $25,000 
C)  $38,000 
D)  $45,000

Question 11

The most difficult part of capital budgeting is deciding how to estimate ________.

Accepted Answer

A)  the amount of net working capital 
B)  the internal rate of return 
C)  the cash flows and cost of capital 
D)  the free cash flows 
A)  the amount of net working capital 
B)  the internal rate of return 
C)  the cash flows and cost of capital 
D)  the free cash flows

Question 12

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 expenses 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 expenses when calculating earnings. 
D)  The opportunity cost of using a resource is the value it could have provided in its best alternative use.

Question 13

Which of the following statements is false?

Accepted Answer

A)  The firm deducts a fraction of the investments in plant, property, and equipment each year as depreciation. 
B)  If securities are fairly priced, the net present value of a fixed set of cash flows is independent of how those cash flows are financed. 
C)  Sunk cost fallacy is a term used to describe the tendency of people to ignore sunk costs in capital budgeting analysis. 
D)  A good rule to remember is that if our decision does not affect a cash flow then the cash flow should not affect our decision. 
A)  The firm deducts a fraction of the investments in plant, property, and equipment each year as depreciation. 
B)  If securities are fairly priced, the net present value of a fixed set of cash flows is independent of how those cash flows are financed. 
C)  Sunk cost fallacy is a term used to describe the tendency of people to ignore sunk costs in capital budgeting analysis. 
D)  A good rule to remember is that if our decision does not affect a cash flow then the cash flow should not affect our decision.

Question 14

________ breaks the NPV calculation down into its component assumptions,showing how the NPV varies as the values of the underlying assumptions change.

Accepted Answer

A)  Scenario analysis 
B)  Cost benefit analysis 
C)  Break-even analysis 
D)  Sensitivity analysis 
A)  Scenario analysis 
B)  Cost benefit analysis 
C)  Break-even analysis 
D)  Sensitivity analysis

Question 15

Use the information for the question(s) below.
Kinston Industries is considering investing in a machine that will cost $125,000 and will last for three years. The machine will generate revenues of $120,000 each year and the cost of goods sold will be 50% of sales. At the end of year three the machine will be sold for $15,000. The appropriate cost of capital is 10% and Kinston is in the 35% tax bracket.
-Assume that Kinston's new machine will be depreciated straight line to a salvage value of $5,000 at the end of year three.What is the NPV for this project?

Accepted Answer

@#IMG-DLM& Liquidation/Salvage Value Calculation:

Question 16

The Sisyphean Company is considering a new project that will have an annual depreciation expense of $2.5 million.If Sisyphean's marginal corporate tax rate is 40% and their average corporate tax rate is 30%,then what is the value of the depreciation tax shield on their new project?

Accepted Answer

A)  $750,000 
B)  $1,000,000 
C)  $1,500,000 
D)  $1,750,000 
A)  $750,000 
B)  $1,000,000 
C)  $1,500,000 
D)  $1,750,000

Question 17

Which of the following costs would you consider when making a capital budgeting decision?

Accepted Answer

A)  Sunk cost 
B)  Opportunity cost 
C)  Interest expense 
D)  Fixed overhead cost 
A)  Sunk cost 
B)  Opportunity cost 
C)  Interest expense 
D)  Fixed overhead cost

Question 18

Use the information for the question(s) below.
Temporary Housing Services Incorporated (THSI) is considering a project that involves setting up a temporary housing facility in an area recently damaged by a hurricane. THSI will lease space in this facility to various agencies and groups providing relief services to the area. THSI estimates that this project will initially cost $5 million to set up and will generate $20 million in revenues during its first and only year in operation (paid in one year). Operating expenses are expected to total $12 million during this year and depreciation expense will be another $3 million. THSI will require no working capital for this investment. THSI's marginal tax rate is 35%.
-Ignoring the original investment of $5 million,what is THSI's free cash flow for the first and only year of operation?

Accepted Answer

A)  $5.0 million 
B)  $3.75 million 
C)  $8.0 million 
D)  $6.25 million 
A)  $5.0 million 
B)  $3.75 million 
C)  $8.0 million 
D)  $6.25 million

Question 19

Use the information for the question(s) below.
Kinston Industries is considering investing in a machine that will cost $125,000 and will last for three years. The machine will generate revenues of $120,000 each year and the cost of goods sold will be 50% of sales. At the end of year three the machine will be sold for $15,000. The appropriate cost of capital is 10% and Kinston is in the 35% tax bracket.
-Assume that Kinston's new machine will be depreciated using MACRS according to the following schedule:
   What is the NPV of this project?

Accepted Answer

@#IMG-DLM& Liquidation/Salvage Value Calculation:

Question 20

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 2,000 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%.
-Construct a simple income statement showing the incremental EBIT and the incremental unlevered net income for all three years of the Sisyphean Corporation's project.

Accepted Answer

Incrementa

Exam 9: Fundamentals of Capital Budgeting

Which of the following statements is false?

Which of the following statements is false?

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

Which of the following statements is false?

A decrease in the sales of a current project because of the launching of a new project is

Which of the following statements is false?

The depreciation tax shield for Shepard Industries project in year two is closest to:

Firms can make best capital budgeting decision by first computing the free cash flow associated with each alternative and then choosing the alternative with the highest ________.

The most difficult part of capital budgeting is deciding how to estimate ________.

Which of the following statements is false?

Which of the following statements is false?

________ breaks the NPV calculation down into its component assumptions,showing how the NPV varies as the values of the underlying assumptions change.

The Sisyphean Company is considering a new project that will have an annual depreciation expense of $2.5 million.If Sisyphean's marginal corporate tax rate is 40% and their average corporate tax rate is 30%,then what is the value of the depreciation tax shield on their new project?

Which of the following costs would you consider when making a capital budgeting decision?

The Corporation

Introduction to Financial Statement Analysis

Arbitrage and Financial Decision Making

The Time Value of Money

Interest Rates

Valuing Bonds

Valuing Stocks

Investment Decision Rules

Capital Markets and the Pricing of Risk

Optimal Portfolio Choice and the Capital Asset Pricing Model

Estimating the Cost of Capital

Investor Behaviour and Capital Market Efficiency

Financial Options

Option Valuation

Real Options

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 Modelling: a Case Study

The Mechanics of Raising Equity Capital

Debt Financing

Leasing

Working Capital Management

Short-Term Financial Planning

Mergers and Acquisitions

Corporate Governance

Risk Management

International Corporate Finance

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