Deck 8: Net Present Value and Other Investment Criteria

Question 1

A risky dollar is worth more than a safe one.

Answer 1

False

Question 2

The payback period considers all project cash flows.

Answer 2

False

Question 3

As the opportunity cost of capital decreases,the net present value of a project increases.

Answer 3

True

Question 4

For most managers,discounted cash flow analysis is in fact the dominant tool for project evaluation.

Question 5

Unlike using IRR,selecting projects according to their NPV will always lead to a correct accept-reject decision.

Question 6

When you have to choose between projects with different lives,you should put them on an equal footing by computing the equivalent annual annuity or benefit of the two projects.

Question 7

For mutually exclusive projects,the project with the higher IRR (and not the number of profitable years)is the correct selection.

Question 8

The IRR is the rate of return on the cash flows of the investment,also known as the opportunity cost of capital.

Question 9

Both the NPV and the internal rate of return methods recognize that the timing of cash flows affects project value.

Question 10

The payback rule states that a project is acceptable if you get your money back within a specified period.

Question 11

Projects with an NPV of zero decrease shareholders' wealth by the cost of the project.

Question 12

When you are considering whether to replace an aging machine with a new one,you should compare the annual cost of operating the old one with the equivalent annual annuity of the new one.

Question 13

If a project has multiple IRRs,the highest one is assumed to be correct.

Question 14

When we compare assets with different lives,we should select the machine that has the lowest equivalent annual annuity.

Question 15

Because of deficiencies associated with the payback method,it is seldom used in corporate financial analysis today.

Question 16

When calculating IRR with a trial and error process,discount rates should be raised when NPV is positive.

Question 17

A project's payback period is the length of time necessary to generate an NPV of zero.

Question 18

When choosing among mutually exclusive projects,the choice is easy using the NPV rule.As long as at least one project has positive NPV,simply choose the project with the highest NPV.

Question 19

The payback rule always makes shareholders better off.

Question 20

When using a profitability index (ratio of net present value to initial investment)to select projects,a value of 0.63 is preferred over a value of 0.21.

Question 21

If the IRR for a project is 15%,then the project's NPV would be:

A) negative at a discount rate of 10%.
B) positive at a discount rate of 20%.
C) negative at a discount rate of 20%.
D)positive at a discount rate of 15%.

Question 22

For many firms the limits on capital funds are "soft." By this we mean that the capital rationing is not imposed by investors.

Question 23

What is the approximate maximum amount that a firm should consider paying for a project that will return $15,000 annually for 5 years if the opportunity cost is 10%?

A) $33,520
B) $56,860
C) $62,540
D)$75,000

Question 24

As long as the NPV of a project declines smoothly with increases in the discount rate,the project is acceptable if its:

A) internal rate of return is positive.
B) payback period is greater than one.
C) rate of return exceeds the cost of capital.
D)cash inflows equals the initial cost

Question 25

When projects are mutually exclusive,selection should be made according to the project with the:

A) longer life.
B) larger initial size.
C) highest IRR.
D)highest NPV.

Question 26

Which of the following projects would you feel safest in accepting? Assume the opportunity cost of capital to be 12% for each project.

A) "A" has a small, but negative, NPV.
B) "B" has a positive NPV when discounted at 10%.
C) "C's" cost of capital exceeds its rate of return.
D)"D" has a zero NPV when discounted at 14%.

Question 27

If the net present value of a project that costs $20,000 is $5,000 when the discount rate is 10%,then the:

A) project's IRR equals 10%.
B) project's rate of return is greater than 10%.
C) net present value of the cash inflows is $4,500.
D) project's cash inflows total $25,000.

Question 28

As the discount rate is increased,the NPV of a specific project will:

A) increase.
B) decrease.
C) remain constant.
D)decrease to zero, then remain constant.

Question 29

A project's opportunity cost of capital is:

A) the forgone return from investing in the project.
B) the return earned by investing in the project.
C) equal to the average return on all company projects.
D) designed to be less than the project's IRR.

Question 30

The decision rule for net present value is to:

A) accept all projects with cash inflows exceeding initial cost.
B) reject all projects with rates of return exceeding the opportunity cost of capital.
C) accept all projects with positive net present values.
D)reject all projects lasting longer than 10 years.

Question 31

What is the NPV for the following project cash flows at a discount rate of 15%? C₀ = ($1,000),C₁ = $700,C₂ = $700.

A) ($308.70)
B) ($138.00)
C) $138.00
D)$308.70

Question 32

Which of the following changes will increase the NPV of a project?

A) A decrease in the discount rate
B) A decrease in the size of the cash inflows
C) An increase in the initial cost of the project
D) A decrease in the number of cash inflows

Question 33

Given a particular set of project cash flows,which of the following statements is correct?

A) There can be only one NPV for the project, even with multiple discount rates.
B) There can be only one IRR for the project.
C) There can be more than one IRR for the project.
D)There can be only one profitability index for the project, even with multiple discount rates

Question 34

Which of the following statements is correct for a project with a positive NPV?

A) The IRR must be greater than 0.
B) Accepting the project has an indeterminate effect on shareholders.
C) The discount rate exceeds the cost of capital.
D) The profitability index equals 1.

Question 35

When a manager does not accept a positive NPV project,shareholders face an opportunity cost in the amount of the:

A) project's initial cost.
B) project's NPV.
C) project's discounted cash flows.
D)soft capital rationing budget.

Question 36

One method that can be used to increase the NPV of a project is to decrease the:

A) project's payback.
B) profitability index.
C) time until receipt of cash inflows.
D)number of project IRRs.

Question 37

What is the NPV of a project that costs $100,000 and returns $50,000 annually for 3 years if the opportunity cost of capital is 14%?

A) $3,397.57
B) $4,473.44
C) $16,085.00
D)$35,000.00

Question 38

What is the maximum that should be invested in a project at time zero if the inflows are estimated at $50,000 annually for 3 years,and the cost of capital is 9%?

A) $101,251.79
B) $109,200.00
C) $126,565.00
D)$130,800.00

Question 39

What should occur when a project's net present value is determined to be negative?

A) The discount rate should be decreased.
B) The profitability index should be calculated.
C) The present value of the project cost should be determined.
D) The project should be rejected.

Question 40

Soft rationing should never cost the firm anything.

Question 41

The opportunity cost of capital is equal to:

A) the discount rate that makes project NPV equal zero.
B) the return offered by other projects of equal risk.
C) a project's internal rate of return.
D)the average rate of return for a firm's projects

Question 42

For mutually exclusive projects,the IRR can be used to select the best project:

A) by calculating the modified internal rate of return.
B) by calculating the IRR based on incremental cash flows.
C) by using the discount rate to calculate the IRR.
D)never. IRR cannot be utilized for mutually exclusive projects.

Question 43

According to the NPV rule,all projects should be accepted if NPV is positive when discounted at the:

A) internal rate of return.
B) opportunity cost of capital.
C) risk-free interest rate.
D)accounting rate of return

Question 44

The "gold standard" of investment criteria refers to:

A) net present value.
B) internal rate of return.
C) payback period.
D)profitability index.

Question 45

NPV fails as a decision rule when:

A) the firm faces capital rationing.
B) the firm faces mutually exclusive projects.
C) the firm faces long-lived projects.
D)positive profitability index

Question 46

When managers select correctly from among mutually exclusive projects,they:

A) may give up rate of return for NPV.
B) may give up NPV for rate of return.
C) have a tendency to select the largest project.
D)focus on payback method to avoid conflicting signals

Question 47

A polisher costs $10,000 and will cost $20,000 a year to operate and maintain.If the discount rate is 10% and the polisher will last for 5 years,what is the equivalent annual cost of the tool?

A) $17,163
B) $22,000
C) $22,638
D)none of these

Question 48

Which of the following investment criteria takes the time value of money into consideration?

A) Net present value
B) Profitability index
C) Internal rate of return for borrowing projects
D)All of these

Question 49

The modified internal rate of return can be used to correct for:

A) negative NPV calculations.
B) multiple internal rates of return.
C) undefined payback periods.
D)the net present value will be zero

Question 50

If two projects offer the same positive NPV,then:

A) they also have the same IRR.
B) they have the same payback period.
C) they are mutually exclusive projects.
D)they add the same amount to the value of the firm

Question 51

Which of the following is incorrect for a borrowing project?

A) Its NPV graph rises as discount rates increase.
B) Its cash flow at time zero is typically an inflow.
C) Its NPV is positive.
D)It's acceptable if IRR exceeds cost of capital.

Question 52

Borrowing and lending projects usually can be distinguished by whether:

A) they have positive or negative IRRs.
B) the time-zero cash flow is positive or negative.
C) their IRR increases as the discount rate increases.
D)their rate of return is high or low.

Question 53

When a project's internal rate of return equals its opportunity cost of capital,then:

A) the project should be rejected.
B) the project has no cash inflows.
C) the net present value will be positive.
D)the net present value will be zero

Question 54

Which of the following statements is most likely correct for a project costing $50,000 and returning $14,000 per year for 5 years?

A) NPV = $3,071.01.
B) NPV = $20,000.
C) IRR = 2.8%.
D) IRR is greater than 10%.

Question 55

Which of the following should be assumed about a project that requires a $100,000 investment at time-period zero,then returns $20,000 annually for 5 years?

A) The NPV is negative.
B) The NPV is zero.
C) The profitability index is 1.0.
D)The IRR is negative

Question 56

When graphing NPV at different discount rates for mutually exclusive projects,the project with the lower IRR should be selected whenever:

A) the rate corresponding to the crossover NPV exceeds the opportunity cost of capital.
B) the rate corresponding to the crossover NPV is less than the opportunity cost of capital.
C) that IRR exceeds the opportunity cost of capital.
D)the NPV is negative when discounted at the IRR.

Question 57

What is the IRR of a project that costs $100,000 and provides cash inflows of $17,000 annually for 6 years?

A) 0.57%
B) 2.00%
C) 5.69%
D)56.87%

Question 58

If the opportunity cost of capital for a project exceeds the project's IRR,then the project has a(n):

A) positive NPV.
B) negative NPV.
C) acceptable payback period.
D)borrowing projects

Question 59

What is the minimum cash flow that could be received at the end of year 3 to make the following project "acceptable"? Initial cost = $100,000; cash flows at end of years 1 and 2 = $35,000; opportunity cost of capital = 10%.

A) $29,494
B) $30,000
C) $39,256
D)$52,250

Question 60

What is the approximate IRR for a project that costs $100,000 and provides cash inflows of $30,000 for 6 years?

A) 19.9%
B) 30.0%
C) 32.3%
D)80.0%

Question 61

When managers cannot determine whether to invest now or wait until costs decrease later,the rule should be to:

A) postpone until costs reach their lowest.
B) invest now to maximize the NPV.
C) postpone until the opportunity cost reaches its lowest.
D)invest at the date that gives the highest NPV today.

Question 62

When calculating a project's payback period,cash flows are discounted at:

A) the opportunity cost of capital.
B) the internal rate of return.
C) the risk-free rate of return.
D)a discount rate of zero.

Question 63

What is the decision rule in the case of sign changes that produce multiple IRRs for a project?

A) Select the lowest IRR to be conservative.
B) Select the highest IRR to maximize the benefits.
C) Any or all of the IRRs are justified to use.
D)Evaluate the project according to NPV.

Question 64

If a project's IRR is 13% and the project provides annual cash flows of $15,000 for 4 years,how much did the project cost?

A) $44,617
B) $52,200
C) $60,000
D)$72,747

Question 65

What is the minimum number of years that an investment costing $500,000 must return $65,000 per year at a discount rate of 13% in order to be an acceptable investment?

A) 8.69 years
B) 14.00 years
C) 27.51 years
D)An infinite number of years

Question 66

When mutually exclusive projects have different lives,the project that should be selected will have the:

A) highest IRR.
B) longest life.
C) lowest equivalent annual cost.
D)highest NPV, discounted at the opportunity cost of capital.

Question 67

A project has a payback period of 5 years and the firm employs a 10% cost of capital.Which of the following statements is correct concerning this project's discounted payback?

A) Discounted payback will exceed 5 years.
B) Discounted payback will be less than 5 years.
C) Discounted payback will decrease if the project's IRR exceeds 10%.
D) Discounted payback will increase if the project's IRR is less than 10%.

Question 68

Project A has an IRR of 20% while Project B has an IRR of 30%.Under which of the following situations might you be inclined to select Project A,assuming the projects to be mutually exclusive,lending projects?

A) Project A is riskier.
B) Project A requires a smaller initial investment.
C) Project A requires a larger initial investment.
D)Project A requires cash outflows in the final period.

Question 69

Which of the following statements is true for a project with $20,000 initial cost,cash inflows of $5,800 per year for 6 years,and a discount rate of 15%?

A) Its payback period is roughly 3 1/2 years.
B) Its NPV is $2,194.
C) Its IRR is 1.85%.
D)Its profitability index is 0.109

Question 70

A project's payback period is determined to be 4 years.If it is later discovered that additional cash flows will be generated in years 5 and 6,then:

A) the project's payback period will be reduced.
B) the project's payback period will be increased.
C) the project's payback period will be unchanged.
D)the discount rate must be known to determine whether the payback period changes.

Question 71

Firms that make investment decisions based on the payback rule may be biased toward rejecting projects:

A) with short lives.
B) with long lives.
C) with late cash inflows.
D)that have negative NPVs.

Question 72

A project with an IRR that is less than the opportunity cost of capital should be:

A) accepted for all project types.
B) accepted for all lending projects.
C) accepted for all borrowing projects.
D)rejected for all projects.

Question 73

A project costing $20,000 generates cash inflows of $9,000 annually for the first 3 years,followed by cash outflows of $1,000 annually for 2 years.At most,this project has ______ different IRR(s).

A) one
B) two
C) three
D)five

Question 74

If a project's expected rate of return exceeds its opportunity cost of capital,one would expect:

A) the profitability index to exceed 1.0.
B) the opportunity cost of capital to be too low.
C) the IRR to exceed the opportunity cost of capital.
D)the NPV to be zero.

Question 75

The reason why the IRR criterion can give conflicting signals with mutually exclusive projects is:

A) the NPVs of these projects cross over at some discount rate.
B) discounted cash flow is not considered with mutually exclusive projects.
C) IRR performs better with accounting returns than with cash flows.
D)mutually exclusive projects have multiple IRRs

Question 76

How many IRRs are possible for the following set of cash flows? CF₀= 1,000,C₁= +500,C₂= -300,C₃= +1,000,C₄= +200.

A) 1
B) 2
C) 3
D)4

Question 77

Evaluate the following project using an IRR criterion,based on an opportunity cost of 10%: C₀= -6,000,C₁= +3,300,C₂= +3,300.

A) Accept, since IRR exceeds opportunity cost.
B) Reject, since opportunity cost exceeds IRR.
C) Accept, since opportunity cost exceeds IRR.
D)Reject, since IRR exceeds opportunity cost.

Question 78

Which of the following investment decision rules tends to improperly reject long-lived projects?

A) Net present value
B) Internal rate of return
C) Payback period
D)Profitability index

Question 79

A project can have as many different internal rates of return as it has:

A) cash inflows.
B) cash outflows.
C) periods of cash flow.
D)changes in the sign of the cash flows.

Question 80

A firm considers a project with the following cash flows: time-zero = +20,000,years 1-5 = -4,500.Should the project be accepted if the cost of capital is 10%?

A) Yes, the IRR of the project is 4.06%.
B) Yes, the IRR of the project is 12.5%.
C) No, the IRR of the project is 4.06%.
D)No, the IRR of the project is 12.5%.