Deck 6: Replacing and Adding Assets - Capital Budgeting

Question 1

Which of the following statements is true regarding operating and capital budgets?

A) Capital budget items are infrequent purchases.
B) Capital outlays are far larger than operating outlays.
C) Capital budget items produce a stream of benefits over a multi-year horizon.
D) All of these are correct.

Answer 1

D

Question 2

Which of the following types of capital expenditures requires the most scrutiny?

A) Mandatory investments
B) Discretionary investments replacing existing assets
C) Discretionary investments expanding the size of current operations
D) Discretionary investments that push the organization into new products or markets

Answer 2

D

Question 3

Which of the following is the formula to calculate the discounted value of a single payment received in the future?

A) FV ÷ (1 + i)ⁿ
B) PV *(1 + i)ⁿ
C) FV * (1 - (1 ÷ (1 + i)ⁿ) ÷ i
D) PV* ((1 + i)ⁿ - 1) ÷ i

Answer 3

FV ÷ (1 + i)ⁿ

Question 4

Which of the following is the formula to calculate the compounded value of a single payment invested today to be withdrawn in the future?

A) FV ÷ (1 + i)ⁿ
B) PV*(1 + i)ⁿ
C) FV* (1 - (1 ÷ (1 + i)ⁿ) ÷ i
D) PV* ((1 + i)ⁿ -1) ÷ i

Question 5

The decision rule for internal rate of return (IRR) when unlimited funds are available is:

A) pursue any investment with an IRR < 0.
B) pursue any investment with a IRR ≥ 0.0.
C) pursue any investment with a IRR ≥ discount rate.

Question 6

The goal of capital budgeting is to:

A) ensure total revenues exceed expenses.
B) determine whether an investment producing a stream of revenues over multiple years will recoup its initial investment.
C) determine whether an organization's assets exceed its liabilities.
D) predict future output.

Question 7

Given a $10,000,000 capital budget, a discount rate of 10%, and seven projects totaling $14,000,000, which capital rationing rule should be used?

A) Invest in the lowest cost projects until all investment funds are exhausted
B) Invest in all projects with an IRR > 0
C) Invest in all projects with an IRR > 10%
D) Invest in the projects with the highest IRR until all investment funds are exhausted
E) Invest in the projects with the highest IRR that are greater than or equal to 10% until all investment funds are exhausted

Question 8

The role of sensitivity analysis is to:

A) determine the amount of variation in key variables (e.g., output, revenues, or expenses).
B) determine how much key variables can change before an investment will fail to meet financial targets.
C) forecast future discount rates.
D) recommend the projects to be pursued and rejected.

Question 9

The goal of post-expenditure review in the capital budgeting process is to:

A) identify managers that produce accurate and inaccurate output, revenue, and expense forecasts for investments.
B) discover how and why forecasts differed from actual operating results.
C) hold managers accountable for poor forecasts.
D) All of these are correct.

Question 10

An increase in the discount rate will reduce the present value of future cash flows.

Question 11

An increase in the discount rate will increase the future value of current investments.

Question 12

An increase in the number of years before future cash flows are received will increase their present value.

Question 13

An increase in the number of year an amount of money is invested will increase the future value of the investment.

Question 14

Sensitivity analysis is used to determine how much a variable, such as output, can change before a project will fail to meet financial goals (e.g., produce an insufficient return on investment).