Question 1

The primary reason that the NPV method is conceptually superior to the IRR method for evaluating mutually exclusive investments is that multiple IRRs may exist, and when that happens, we don't know which IRR is relevant.

Accepted Answer

A) True 
 B)False

Question 2

Which of the following statements is CORRECT?

Accepted Answer

A)  The regular payback method recognizes all cash flows over a project's life. 
B)  The discounted payback method recognizes all cash flows over a project's life, and it also adjusts these cash flows to account for the time value of money. 
C)  The regular payback method was, years ago, widely used, but virtually no companies even calculate the payback today. 
D)  The regular payback is useful as an indicator of a project's liquidity because it gives managers an idea of how long it will take to recover the funds invested in a project. 
E)  The regular payback does not consider cash flows beyond the payback year, but the discounted payback overcomes this defect.

Question 3

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

Question 4

Assume a project has normal cash flows. All else equal, which of the following statements is CORRECT?

Accepted Answer

A)  A project's IRR increases as the WACC declines. 
B)  A project's NPV increases as the WACC declines. 
C)  A project's MIRR is unaffected by changes in the WACC. 
D)  A project's regular payback increases as the WACC declines. 
E)  A project's discounted payback increases as the WACC declines.

Question 5

Warnock Inc. 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)  $54.62 
B)  $57.49 
C)  $60.52 
D)  $63.54 
E)  $66.72

Question 6

Taggart Inc. is considering a project that has the following cash flow data. What is the project's payback?

Accepted Answer

A)  1.86 years 
B)  2.07 years 
C)  2.30 years 
D)  2.53 years 
E)  2.78 years

Question 7

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 8

Which of the following statements is CORRECT?

Accepted Answer

A)  For a project to have more than one IRR, then both IRRs must be greater than the WACC. 
B)  If two projects are mutually exclusive, then they are likely to have multiple IRRs. 
C)  If a project is independent, then it cannot have multiple IRRs. 
D)  Multiple IRRs can only occur if the signs of the cash flows change more than once. 
E)  If a project has two IRRs, then the smaller one is the one that is most relevant, and it should be accepted and relied upon.

Question 9

Warr Company 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 or negative, in both cases it will be rejected.

Accepted Answer

A)  14.05% 
B)  15.61% 
C)  17.34% 
D)  19.27% 
E)  21.20%

Question 10

Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows, with one outflow followed by a series of inflows.

Accepted Answer

A)  The longer a project's payback period, the more desirable the project is normally considered to be by this criterion. 
B)  One drawback of the payback criterion for evaluating projects is that this method does not properly account for the time value of money. 
C)  If a project's payback is positive, then the project should be rejected because it must have a negative NPV. 
D)  The regular payback ignores cash flows beyond the payback period, but the discounted payback method overcomes this problem. 
E)  If a company uses the same payback requirement to evaluate all projects, say it requires a payback of 4 years or less, then the company will tend to reject projects with relatively short lives and accept long-lived projects, and this will cause its risk to increase over time.

Question 11

Maxwell Feed & Seed 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)  2.08% 
B)  2.31% 
C)  2.57% 
D)  2.82% 
E)  3.10%

Question 12

Susmel Inc. is considering a project that has the following cash flow data. What is the project's payback?

Accepted Answer

A)  2.03 years 
B)  2.25 years 
C)  2.50 years 
D)  2.75 years 
E)  3.03 years

Question 13

Simkins Renovations Inc. 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)  13.13% 
B)  14.44% 
C)  15.89% 
D)  17.48% 
E)  19.22%

Question 14

Which of the following statements is CORRECT?

Accepted Answer

A)  The NPV, IRR, MIRR, and discounted payback (using a payback requirement of 3 years or less) methods always lead to the same accept/reject decisions for independent projects. 
B)  For mutually exclusive projects with normal cash flows, the NPV and MIRR methods can never conflict, but their results could conflict with the discounted payback and the regular IRR methods. 
C)  Multiple IRRs can exist, but not multiple MIRRs. This is one reason some people favor the MIRR over the regular IRR. 
D)  If a firm uses the discounted payback method with a required payback of 4 years, then it will accept more projects than if it used a regular payback of 4 years. 
E)  The percentage difference between the MIRR and the IRR is equal to the project's WACC.

Question 15

Barry Company 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)  $250.15 
B)  $277.94 
C)  $305.73 
D)  $336.31 
E)  $369.94

Question 16

A basic rule in capital budgeting is that If a project's NPV exceeds its IRR, then the project should be accepted.

Accepted Answer

A) True 
 B)False

Question 17

Assume that the economy is in a mild recession, and as a result interest rates and money costs generally are relatively low. The WACC for two mutually exclusive projects that are being considered is 8%. Project S has an IRR of 20% while Project L's IRR is 15%. The projects have the same NPV at the 8% current WACC. However, you believe that the economy is about to recover, and money costs and thus your WACC will also increase. You also think that the projects will not be funded until the WACC has increased, and their cash flows will not be affected by the change in economic conditions. Under these conditions, which of the following statements is CORRECT?

Accepted Answer

A)  You should reject both projects because they will both have negative NPVs under the new conditions. 
B)  You should delay a decision until you have more information on the projects, even if this means that a competitor might come in and capture this market. 
C)  You should recommend Project L, because at the new WACC it will have the higher NPV. 
D)  You should recommend Project S, because at the new WACC it will have the higher NPV. 
E)  You should recommend Project S because it has the higher IRR and will continue to have the higher IRR even at the new WACC.

Question 18

Which of the following statements is CORRECT?

Accepted Answer

A)  An NPV profile graph shows how a project's payback varies as the cost of capital changes. 
B)  The NPV profile graph for a normal project will generally have a positive (upward) slope as the life of the project increases. 
C)  An NPV profile graph is designed to give decision makers an idea about how a project's risk varies with its life. 
D)  An NPV profile graph is designed to give decision makers an idea about how a project's contribution to the firm's value varies with the cost of capital. 
E)  We cannot draw a project's NPV profile unless we know the appropriate WACC for use in evaluating the project's NPV.

Question 19

One advantage of the payback method for evaluating potential investments is that it provides information about a project's liquidity and risk.

Accepted Answer

A) True 
 B)False

Question 20

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.

Exam 11: The Basics of Capital Budgeting

The primary reason that the NPV method is conceptually superior to the IRR method for evaluating mutually exclusive investments is that multiple IRRs may exist, and when that happens, we don't know which IRR is relevant.

Which of the following statements is CORRECT?

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.

Assume a project has normal cash flows. All else equal, which of the following statements is CORRECT?

Warnock Inc. 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.

Taggart Inc. is considering a project that has the following cash flow data. What is the project's payback?

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?

Warr Company 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 or negative, in both cases it will be rejected.

Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows, with one outflow followed by a series of inflows.

Maxwell Feed & Seed 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.

Susmel Inc. is considering a project that has the following cash flow data. What is the project's payback?

Simkins Renovations Inc. 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.

Which of the following statements is CORRECT?

Barry Company 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.

A basic rule in capital budgeting is that If a project's NPV exceeds its IRR, then the project should be accepted.

Which of the following statements is CORRECT?

One advantage of the payback method for evaluating potential investments is that it provides information about a project's liquidity and risk.

Which of the following statements is CORRECT?