Question 1

If a business owner is using the extra space at home for his business,does it imply a zero opportunity cost for the space?

Accepted Answer

As long as there is an alternative use of the place,it has an opportunity cost.Opportunity cost of idle assets is often mistaken as zero,but that is inaccurate.

Question 2

To evaluate a capital budgeting decision,it is sufficient to determine its consequences for the firms earnings.

Accepted Answer

A) True 
 B)False  False

Question 3

What is the most important function of sensitivity analysis?

Accepted Answer

Sensitivity analysis shows how the net present value (NPV)varies as the underlying assumptions change.Thus we understand the critical assumptions underlying the project.

Question 4

Use the figure for the question(s) below.
 
-A company planning to market a new model of motor scooter analyzes the effect of changes in the selling price of the motor scooter,the number of units that will be sold,the cost of making the motor scooter,the effect on Net Working Capital,and the cost of capital for the project.They predict that the break-even point for sales price for the motor scooter is $2480.What does this mean?

Accepted Answer

A)   If the motor scooter is sold for $2480, then the project will make a profit.
B)   If the motor scooter is sold for $2480, then the net present value (NPV)  for the product will be zero.
C)   The predicted selling price of the motor scooter is $2480.
D)   The maximum that the motor scooter can sell for and still make the project have a positive net present value (NPV)  is $2480.
E)   If the motor scooter is sold for $2480, the company will not go bankrupt.

Question 5

After research into where to place a new restaurant,Burger Billies,a small fast-food chain,plans to open a new store near a small college.The anticipated customer base is students attending the college.They learn that a major fast-food chain will be opening a franchise within the college,which leads the owners of Burger Billies to revise their estimate of sales to one below the break-even point.Which of the following is most likely the best real option for Burger Billies to take with regard to the proposed restaurant site?

Accepted Answer

A)   option to delay
B)   option to expand
C)   option to abandon
D)   option to switch
E)   option to sell

Question 6

Use the information for the question(s) below.
Food For Less (FFL), a grocery store, is considering offering one-hour photo developing in their store. The firm expects that sales from the new one-hour machine will be $150,000 per year. FFL currently offers overnight film processing with annual sales of $100,000. While many of the one-hour photo sales will be to new customers, FFL estimates that 60% of their current overnight photo customers will switch and use the one-hour service.
-A textile company invests $12 million in an open-end spinning machine.The machine belongs to asset class 43 and has a capital cost allowance (CCA)rate of 30%.It is expected that the new machine will increase revenues by $9 million per year with production and support costs of $0.5 million per year.If the company sold it immediately after the end of year 3 for $8 million,what would be the net present value (NPV)of owning the asset,given a tax rate of 40%,and a cost of capital of 12%?

Accepted Answer

A)   $7,561,553
B)   $5,231,801
C)   $1,867,311
D)   $249,339
E)   -$152,244

Question 7

Which of the following is an example of cannibalization?

Accepted Answer

A)   A toothpaste manufacturer adds a new line of toothpaste (that contains baking soda)  to its product line.
B)   A grocery store begins selling T-shirts featuring the local university's mascot.
C)   A basketball manufacturer adds basketball hoops to its product line.
D)   A convenience store begins selling pre-paid cell phones.
E)   A gas station starts selling diesel fuel.

Question 8

Use the table for the question(s) below.
 
-Panjandrum Industries,a manufacturer of industrial piping,is evaluating whether it should expand into the sale of plastic fittings for home garden sprinkler systems.It has made the above estimates of free cash flows resulting from such a decision (all quantities in millions of dollars).It is thought that if marketing expenses are increased by 40%,then revenues will rise.By how much will revenues have to rise for the net present value (NPV)of the project to increase?

Accepted Answer

A)   at least 2.0%
B)   at least 2.9%
C)   at least 3.2%
D)   at least 3.8%
E)   at least 4.1%

Question 9

A brewer is launching a new product:: brewed ginger ale with a low alcohol content.The brewer plans to spend $4 million promoting this product this year,which is expected to expand its sales of this product to $10 million this year and $8 million next year.They do expect there will be loss of sales of $1 million this year and next year in their other products as customers switch to drinking the new ginger ale.The gross profit margin for the new ginger ale is 40%,the gross profit margin of all of the brewer's other products is 30%,and the brewer's marginal corporate tax rate is 35%.What are incremental earnings arising from the promotional campaign this year?

Accepted Answer

A)   $1.95 million
B)   $4.290 million
C)   $4.68 million
D)   $5.28 million
E)   $8.00 million

Question 10

Which of the following best defines incremental earnings?

Accepted Answer

A)   cash flows arising from a particular investment decision
B)   the amount by which a firm's earnings are expected to change as the result of an investment decision
C)   the earnings arising from all projects that a company plans to undertake in a fixed timespan
D)   the net present value (NPV)  of earnings that a firm is expected to receive as the result of an investment decision
E)   the increase in cash flows resulting from a new product

Question 11

Longbow Lumber is purchasing a new horizontal resaw at a cost of $450,000.There is an additional $15,000 delivery and installation cost.The machine has a capital cost allowance (CCA)rate of 25%.What is the incremental undepreciated capital cost (UCC)for year 1?

Accepted Answer

A)   $232,500
B)   $450,000
C)   $225,000
D)   $465,000
E)   $435,000

Question 12

A machine is purchased for $500,000 and is used through the end of Year 2.The machine falls under asset class 43 with a capital cost allowance (CCA)rate of 30%.At the end of Year 2,the machine is sold for $75,000.What is the present value of the overall CCA tax shields if the firm's marginal tax rate is 40% and its cost of capital is 5%?

Accepted Answer

A)   $232,128
B)   $201,334
C)   $175,997
D)   $167,347
E)   $144,023

Question 13

Use the information for the question(s) below.
Ford Motor Company is considering launching a new line of hybrid diesel-electric SUVs. The heavy advertising expenses associated with the new SUV launch would generate operating losses of $35 million next year. Without the new SUV, Ford expects to earn pretax income of $80 million from operations next year. Ford pays a 30% tax rate on its pretax income.
-The amount that Ford Motor Company owes in taxes next year with the launch of the new SUV is closest to:

Accepted Answer

A)   $13.5 million
B)   $31.5 million
C)   $56.0 million
D)   $24.0 million
E)   $10.5 million

Question 14

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)   a past research and development expenditure.
E)   an opportunity cost.

Question 15

A firm is considering investing in a new machine that will cost $600,000 and will be be under asset class 43 with a CCA rate of 30%.If the firm's marginal tax rate is 39%,what is the CCA tax shield in the first year?

Accepted Answer

A)   $120,000
B)   $35,100
C)   $300,000
D)   $234,000
E)   $90,000

Question 16

Use the information for the question(s) below.
Ford Motor Company is considering launching a new line of hybrid diesel-electric SUVs. The heavy advertising expenses associated with the new SUV launch would generate operating losses of $35 million next year. Without the new SUV, Ford expects to earn pretax income of $80 million from operations next year. Ford pays a 30% tax rate on its pretax income.
-The amount that Ford Motor Company owes in taxes next year without the launch of the new SUV is closest to:

Accepted Answer

A)   $24.0 million
B)   $56.0 million
C)   $31.5 million
D)   $13.5 million
E)   $10.5 million

Question 17

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 falls under asset class 43 and has a capital cost allowance (CCA) rate of 30%.
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 3. 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 second year for the Sisyphean Corporation's project is closest to:

Accepted Answer

A)   $3960
B)   $4360
C)   $3190
D)   $5940
E)   $2160

Question 18

What is the ultimate goal of the capital budgeting process?

Accepted Answer

A)   to determine how the consequences of making a particular decision affects the firms revenues and costs
B)   to list the projects and investments that a company plans to undertake in the future
C)   to forecast the consequences of a list of future projects to the firm
D)   to determine the effect of the decision to accept or reject a project on the firms cash flows
E)   to calculate the incremental earnings of a project

Question 19

Use the table for the question(s) below.
 
-Panjandrum Industries,a manufacturer of industrial piping,is evaluating whether it should expand into the sale of plastic fittings for home garden sprinkler systems.It has made the above estimates of free cash flows resulting from such a decision (all quantities in millions of dollars).There are some concerns that estimates of manufacturing expenses may be low,due to the rising cost of raw materials.What is the break-even point for manufacturing expenses,if all other estimates are correct and the cost of capital is 10%?

Accepted Answer

A)   $0.78 million
B)   $0.88 million
C)   $0.97 million
D)   $1.22 million
E)   $1.36 million

Question 20

What are sunk costs?

Accepted Answer

The answer of What are sunk costs?...

Exam 9: Fundamentals of Capital Budgeting