Question 1

A firm with limited funds for investment in capital assets must ration those funds by allocating them to projects that will maximize share value.

Accepted Answer

This statement is true. In order to maximize share value, a firm with limited funds for investment in capital assets must carefully select which projects to allocate those funds to. The firm must prioritize projects with the highest potential return on investment in order to maximize shareholder value.

Question 2

A firm with unlimited funds must evaluate five projects.Projects 1 and 2 are independent and Projects 3,4,and 5 are mutually exclusive.The projects are listed with their returns.  A ranking of the projects on the basis of their returns from the best to the worst according to their acceptability to the firm would be ________.

Accepted Answer

The answer of A firm with unlimited funds must evaluate...

Question 3

In selecting the best group of unequal-lived projects,if the projects are mutually exclusive,the length of the projects lives is not critical.

Accepted Answer

If the projects are mutually exclusive, the length of the project lives becomes critical because it affects the overall profitability of the project. Shorter-lived projects may have higher returns on investment, but if the longer-lived projects produce a higher net present value over their entire lifespan, they should be prioritized over the shorter-lived projects. Therefore, the length of project lives is important to consider while selecting the best group of unequal-lived projects, even if they are mutually exclusive.

Question 4

The objective of capital rationing is to select the group of projects that provides the quickest overall payback and does not require more dollars than are budgeted.

Accepted Answer

The objective of capital rationing is to select the group of projects that provide the highest overall net present value (NPV) within the budgeted amount. It is not solely focused on the quickest payback period.

Question 5

Real options are opportunities that are embedded in capital budgeting projects that enable managers to alter their cash flows and risks in a way that affects project acceptability.

Accepted Answer

Real options are opportunities that are embedded in capital budgeting projects that allow managers to make decisions that can alter the cash flows and risks associated with a project in a way that can affect the project's acceptability. The ability to take advantage of these opportunities can create value for a company and should be considered in capital budgeting decisions.

Question 6

Annualized net present value approach is the most efficient technique for dealing with projects of unequal lives.

Accepted Answer

Annualized net present value approach calculates the equivalent annual cash flow of a project over its unequal life, making it an effective technique for comparing projects with different life spans.

Question 7

In case of unequal-lived,mutually exclusive projects,the use of net present value to select the better project results in an incorrect decision.

Accepted Answer

Net present value assumes that the projects have the same life span, thus when they have unequal lives, the calculation may result in the wrong decision. In such cases, other methods such as the equivalent annual annuity or internal rate of return should be considered.

Question 8

The annualized net present value approach used to evaluate projects with unequal lives converts the net present value of unequal-lived,mutually exclusive projects into an equivalent annual amount.

Accepted Answer

This statement is true. The annualized net present value approach is a method used to compare projects with different lives by converting the net present value of each project into an equivalent annual cash flow. This allows for a more accurate comparison and evaluation of the projects.

Question 9

Which of the following proposed projects should be accepted for the upcoming year since only $6 million is available for the next year's capital budget.What is the total NPV of the projects that should be accepted?

Accepted Answer

In order to maximize the NPV while staying within the budget constraint of $6 million, projects with the highest positive NPV should be selected. Option B includes three projects with the highest NPV in comparison to the other options. Additionally, the total cost of these projects is equal to the budget limit. Therefore, choice B is the best option.

Question 10

The ________ approach is used to convert the net present value of unequal-lived projects into an equivalent annual amount (in net present value terms).

Accepted Answer

The annualized net present value approach converts the NPV of projects with differing lives into an equivalent annual amount in NPV terms by assuming that the cash flows are repeated each year for the project's useful life. This allows for better comparison and evaluation of projects with different life spans. The other options (A, B, and C) are methods used for evaluating projects but do not specifically address converting NPV of unequal-lived projects.

Question 11

Futures and options are opportunities that are embedded in capital budgeting projects that enable managers to alter their cash flows and risks in a way that affects project acceptability.

Accepted Answer

The answer of Futures and options are opportunities that are...

Question 12

A(n)________ allows management to avoid or minimize losses on projects that turn bad.

Accepted Answer

An abandonment option is a type of real option that allows management to abandon or end a project before completion to avoid or minimize losses. It gives management the flexibility to cut its losses and move on to other potential projects. The other options listed (growth option, timing option, put option) are not specifically related to minimizing losses on projects.

Question 13

When unequal-lived projects are independent,the length of the project lives is not critical.

Accepted Answer

When unequal-lived projects are independent, their individual project lives do not affect the decision-making process as the projects are evaluated independently of each other. The focus is on selecting the project with the highest net present value (NPV) or internal rate of return (IRR) within its own project life.

Question 14

When unequal-lived projects are independent,the impact of differing lives must be considered because the projects do not provide service over comparable time periods.

Accepted Answer

The answer of When unequal-lived projects are independent,the impact of...

Question 15

The objective of capital rationing is to select the group of projects that provides the highest overall net present value and does not require more dollars than are budgeted.

Accepted Answer

Capital rationing is the process of selecting the group of projects that will provide the maximum overall net present value within a limited budget. The primary objective of capital rationing is to allocate limited capital resources to the most valuable projects, which will generate the highest return on investment. Therefore, the given statement is true.

Question 16

The risk-adjusted discount rate approach to evaluating projects with unequal lives converts the net present value of unequal-lived,mutually exclusive projects into an equivalent annual amount.

Accepted Answer

The risk-adjusted discount rate approach adjusts for risk by altering the discount rate used in NPV calculations, but it does not convert NPV into an equivalent annual amount. The equivalent annual annuity (EAA) method is used for that purpose.

Question 17

The objective of ________ is to select the group of projects that provides the highest overall net present value and does not require more dollars than are budgeted.

Accepted Answer

The objective of capital rationing is exactly as described in the question - to select the projects with the highest net present value, but within the budget constraint. Scenario analysis, real options, and sensitivity analysis are all tools and techniques used in financial analysis and decision making, but they do not specifically address the objective of selecting projects within a budget constraint.

Question 18

If a firm has a limited capital budget to fund its capital projects,it is said to be facing the problem of ________.

Accepted Answer

Capital rationing occurs when a firm has a limited capital budget and must prioritize which capital projects to fund based on their expected return. This is a common problem faced by firms, especially smaller ones with fewer resources, and can require careful analysis and decision making to maximize the firm's overall profitability.

Question 19

An IRR approach to capital rationing involves graphically plotting project IRRs in descending order against total dollar investment on an ________ graph.

Accepted Answer

The correct answer is D) IOS, which stands for Investment Opportunity Schedule. This approach involves graphically plotting project Internal Rates of Return (IRRs) in descending order against the total dollar investment to help in capital rationing decisions.

Question 20

The option to develop follow-on projects,expand markets,expand or retool plants,and so on that would not be possible without implementation of the project that is being evaluated is called ________.

Accepted Answer

A growth option allows for future expansion and development, while a timing option relates to when the project will be implemented. A flexibility option allows for changes and adaptations to the project, but does not necessarily lead to future growth. An abandonment option is the ability to shut down the project if it does not meet expectations. Therefore, the best choice that fits the description of developing follow-on projects and expanding markets is the growth option.

Quiz 11: Capital Budgeting Cash Flows and Risk Refinements