Exam 8: Investment Decision Rules

Use the information for the question(s) below. -The owner of a hair salon spends $1,000,000 to renovate its premises, estimating that this will increase her cash flow by $220,000 per year. She constructs the above graph, which shows the net present value (NPV) as a function of the discount rate. At what dollar value should the NPV profile cross the vertical axis?

A delivery service is buying 600 tires for its fleet of vehicles. One supplier offers to supply the tires for $80 per tire, payable in one year. Another supplier will supply the tires for $20,000 down today, then $45 per tire, payable in one year. What is the difference in PV between the first and the second offer, assuming interest rates are 8.1%?

An auto-parts company is deciding whether to sponsor a racing team for a cost of $1 million. The sponsorship would last for three years and is expected to increase cash flows by $570,000 per year. If the discount rate is 6.9%, what will be the change in the value of the company if it chooses to go ahead with the sponsorship?

A manufacturer of video games develops a new game over two years. This costs $830,000 per year with one payment made immediately and the other at the end of two years. When the game is released, it is expected to make $1.20 million per year for three years after that. What is the net present value (NPV) of this decision if the cost of capital is 10%?

A security firm is offered $80,000 in one year for providing CCTV coverage of a property. The cost of providing this coverage to the security firm is $74,000, payable now, and the interest rate is 8.5%. Should the firm take the contract?

Mary is in contract negotiations with a publishing house for her new novel. She has two options. She may be paid $100,000 up front, and receive royalties that are expected to total $26,000 at the end of each of the next five years. Alternatively, she can receive $200,000 up front and no royalties. Which of the following investment rules would indicate that she should take the former deal, given a discount rate of 8%?

Use the information for the question(s) below. Your firm is preparing to open a new retail strip mall and you have multiple businesses that would like lease space in it. Each business will pay a fixed amount of rent each month plus a percentage of the gross sales generated each month. The cash flows from each of the businesses has approximately the same amount of risk. The business names, square footage requirements, and monthly expected cash flows for each of the businesses that would like to lease space in your strip mall are provided below: -If your new strip mall will have 15,000 square feet of retail space available to be leased, to which businesses should you lease and why?

Which of the following statements is FALSE?

-An investor is considering the two investments shown above. Which of the following statements about these investments is true?

-You are trying to decide between three mutually exclusive investment opportunities. The most appropriate tool for identifying the correct decision is ________.

A company buys a color printer that will cost $16,000 to buy, and last 5 years. It is assumed that it will require servicing costing $500 each year. What is the equivalent annual annuity of this deal, given a cost of capital of 8%?

Consider a project with the following cash flows: If the appropriate discount rate for this project is 13%, then the net present value (NPV) is closest to ________.

Two mutually exclusive investment opportunities require an initial investment of $7 million. Investment A pays $1.5 million per year in perpetuity, while investment B pays $1.2 million in the first year, with cash flows increasing by 3% per year after that. At what cost of capital would an investor regard both opportunities as being equivalent?

Which of the following statements is FALSE?

The Sisyphean Company is planning on investing in a new project. This will involve the purchase of some new machinery costing $420,000. The Sisyphean Company expects cash inflows from this project as detailed below: The appropriate discount rate for this project is 16%. The net present value (NPV) for this project is closest to ________.

You can evaluate alternative projects with different lives by calculating and comparing their equivalent annual annuity.

You are opening up a brand new retail strip mall. You presently have more potential retail outlets wanting to locate in your mall than you have space available. What is the most appropriate tool to use if you are trying to determine the optimal allocation of your retail space?

What is the decision criterion using the Net Present Value rule?

The Sisyphean Company is planning on investing in a new project. This will involve the purchase of some new machinery costing $400,000. The Sisyphean Company expects cash inflows from this project as detailed below: The appropriate discount rate for this project is 15%. The internal rate of return (IRR) for this project is closest to ________.

Which of the following is NOT a limitation of the payback period rule?