Question 1

Interest payments on debt are not included in a project's incremental cash flows,but are instead accounted for in the project's discount rate.

Accepted Answer

A) True 
 B)False

Question 2

Alloy Corp.is considering the acquisition of a new processing line.The processor can be purchased for $4,550,000.It will cost $65,000 to ship and $190,500 to install the processor.A recently completed feasibility study that was performed at a cost of $45,000 indicated that the processor would produce a positive NPV.Studies have shown that employee-training expenses will be $150,000.What is the total investment in the processing line for capital budgeting purposes?

Accepted Answer

A)  $4,550,000 
B)  $4,700,000 
C)  $4,955,500 
D)  $5,000,500

Question 3

Incremental cash flows refer to

Accepted Answer

A)  the difference between after-tax cash flows and before-tax accounting profits. 
B)  the new cash flows that will be generated if a project is undertaken. 
C)  the cash flows of a project, minus financing costs. 
D)  the cash flows that are foregone if a firm does not undertake a project.

Question 4

The less-risky investment is always the more desirable choice.

Accepted Answer

A) True 
 B)False

Question 5

A wildcat oil driller has enough capital to invest in only one project,that is,to drill one well in an East Texas oil field.A major oil company is drilling 100 wells in the same field.The probability of successfully striking oil is 10% for any well drilled in this field.Which of the following statements is MOST correct concerning the risk involved in these capital budgeting projects?

Accepted Answer

A)  The risk for the wildcat driller is the same as the risk for the major oil company since they are both drilling in the same oil field. 
B)  The appropriate risk for the wildcat driller is systematic risk. 
C)  The appropriate risk for the major oil company is contribution-to-firm risk, if all shareholders of the firm are well diversified. 
D)  The best measure of risk for the wildcat oil driller is project standing alone risk.

Question 6

Which of the following expenses associated with a project should NOT be included in a capital budgeting analysis?

Accepted Answer

A)  additional allocated fixed overhead from corporate headquarters 
B)  additional maintenance expenses associated with new equipment 
C)  reengineering of a production line associated with a new project 
D)  training sales staff on a new product

Question 7

Increases in inventory and accounts receivable expected to occur if a proposed advertising campaign is undertaken are examples of sunk costs.

Accepted Answer

A) True 
 B)False

Question 8

Adding gourmet coffee stations to my convenience store is expected to increase sales of my breakfast sandwiches; however,the sales of breakfast sandwiches should not be included in the evaluation of the gourmet coffee project because only relevant,incremental cash flows should be considered.

Accepted Answer

A) True 
 B)False

Question 9

John Q.Enterprises is considering two potential investments.The probability distributions of annual end-of-year cash flows for the respective projects are:
  
Both projects will require an initial outlay of $45,000 and will have an estimated life of 6 years.Project A is considered a riskier investment and will have to have a risk-adjusted required rate of return of 15%,while Project B's risk-adjusted required rate of return is 12%.
a.Determine the expected value of each project's annual cash flow.
b.Determine each project's risk-adjusted net present value.

Accepted Answer

The answer of John Q.Enterprises is considering two potential investments.The...

Question 10

Calculate the internal rate of return on the following projects:
a.Initial outlay of $60,500 with an after-tax cash flow of $11,897 per year for eight years.
b.Initial outlay of $647,000 with an after-tax cash flow of $118,000 per year for ten years.
c.Initial outlay of $25,400 with an after-tax cash flow $11,788 per year for three years.

Accepted Answer

The answer of Calculate the internal rate of return on...

Question 11

The recapture of net working capital at the end of a project will

Accepted Answer

A)  increase terminal year free cash flow. 
B)  decrease terminal year free cash flow by the change in net working capital times the corporate tax rate. 
C)  increase terminal year free cash flow by the change in net working capital times the corporate tax rate. 
D)  have no effect on the terminal year free cash flow because the net working capital change has already been included in a prior year.

Question 12

If depreciation expense in year one of a project increases for a highly profitable company,

Accepted Answer

A)  net income decreases and incremental free cash flow decreases. 
B)  net income increases and incremental free cash flow increases. 
C)  the book value of the depreciating asset increases at the end of year one. 
D)  net income decreases and incremental free cash flow increases.

Question 13

Advantages of using simulation include

Accepted Answer

A)  adjustment for risk in the resulting distribution of net present values. 
B)  a range of possible outcomes presented. 
C)  is good only for single period investments since discounting is not possible. 
D)  graphically displays all possible outcomes of the investment.

Question 14

Agri-Industries purchased some agricultural land at the edge of a large metropolitan area for $250,000 five years ago.In order to have the land classified as agricultural for property tax purposes,the company has been leasing the property to neighboring farmers.The before-tax return from leasing the property is $12,000 per year.This company's corporate tax rate is 35 percent.If the company sells the land for $400,000 today,what is the internal rate of return on this investment?

Accepted Answer

The answer of Agri-Industries purchased some agricultural land at the...

Question 15

A new project is expected to generate $800,000 in revenues,$250,000 in cash operating expenses,and depreciation expense of $150,000 in each year of its 10-year life.The corporation's tax rate is 35%.The project will require an increase in net working capital of $85,000 in year one and a decrease in net working capital of $75,000 in year ten.What is the free cash flow from the project in year one?

Accepted Answer

A)  $298,000 
B)  $375,000 
C)  $380,000 
D)  $410,000

Question 16

A project's contribution to firm risk is relevant for undiversified investors or when bankruptcy costs exist.

Accepted Answer

A) True 
 B)False

Question 17

The financial manager selecting one of two projects of differing risk should

Accepted Answer

A)  select the project with the larger risk-adjusted net present value. 
B)  choose the project with the least relative risk. 
C)  choose the project with greater return even if that project has greater risk. 
D)  choose the project with less risk even though that project has less return.

Question 18

XYZ,Inc.has developed a project which results in additional accounts receivable of $400,000,additional inventory of $180,000,and additional accounts payable of $70,000.What is the additional investment in net working capital?

Accepted Answer

A)  $580,000 
B)  $510,000 
C)  $270,000 
D)  $150,000

Question 19

Redrock Inc.is a household products firm that is considering developing a new detergent.In evaluating whether to go ahead with the new detergent project,which of the following statements is MOST correct?

Accepted Answer

A)  The company will produce the detergent in a building that they already own. The cost of the building is therefore zero and should be excluded from the analysis. 
B)  The company will need to use some equipment that it could have leased to another company. This equipment lease could have generated $200,000 per year in after-tax income. The $200,000 should be excluded because the equipment can no longer be leased. 
C)  The company will need to hire 10 new workers whose salaries and benefits will total $400,000 per year. Labor costs are not part of capital budgeting and should be excluded. 
D)  The company will produce the detergent in a building that it renovated 2 years ago for $300,000. The $300,000 should be excluded from the analysis.

Question 20

Toyota's capital budgeting analysis for the Prius,a gas-electric hybrid,was faulty because the car line has not made a profit to date.

Accepted Answer

A) True 
 B)False

Exam 11: Cash Flows and Other Topics in Capital Budgeting

Interest payments on debt are not included in a project's incremental cash flows,but are instead accounted for in the project's discount rate.

Incremental cash flows refer to

The less-risky investment is always the more desirable choice.

Which of the following expenses associated with a project should NOT be included in a capital budgeting analysis?

Increases in inventory and accounts receivable expected to occur if a proposed advertising campaign is undertaken are examples of sunk costs.

Adding gourmet coffee stations to my convenience store is expected to increase sales of my breakfast sandwiches; however,the sales of breakfast sandwiches should not be included in the evaluation of the gourmet coffee project because only relevant,incremental cash flows should be considered.

The recapture of net working capital at the end of a project will

If depreciation expense in year one of a project increases for a highly profitable company,

Advantages of using simulation include

A project's contribution to firm risk is relevant for undiversified investors or when bankruptcy costs exist.

The financial manager selecting one of two projects of differing risk should

XYZ,Inc.has developed a project which results in additional accounts receivable of $400,000,additional inventory of $180,000,and additional accounts payable of $70,000.What is the additional investment in net working capital?

Redrock Inc.is a household products firm that is considering developing a new detergent.In evaluating whether to go ahead with the new detergent project,which of the following statements is MOST correct?

Toyota's capital budgeting analysis for the Prius,a gas-electric hybrid,was faulty because the car line has not made a profit to date.