Question 1

A capacity alternative has an initial cost of $30,000 and cash flow of $20,000 for each of the next four years. If the cost of capital (i.e., interest rate) is 5 percent, the net present value of this investment is:

Accepted Answer

The net present value (NPV) is calculated by discounting the cash flows at the cost of capital and subtracting the initial investment. The NPV is less than $50,000 when calculated with a 5% discount rate.

Question 2

One limitation of the net present value approach to investments is that investments with identical net present values may have very different cash flows.

Accepted Answer

The net present value approach only considers the timing and amount of cash flows, not the specific pattern or variability of those cash flows over time. Therefore, investments with the same net present value can have different cash flow profiles, which may affect their risk or desirability to investors.

Question 3

Health Care Systems of the South is about to buy an expensive piece of diagnostic equipment. The company estimates that it will generate uniform revenues of $250,000 for each of the next eight years. What is the present value of this stream of earnings, at an interest rate of 7%? What is the net present value if the machine lasts ten years, not eight? If the equipment cost $1,500,000, should the company purchase it?

Accepted Answer

The answer of Health Care Systems of the South is...

Question 4

The net present value of $10,000 to be received in exactly three years is considerably greater than $10,000.

Accepted Answer

The net present value of $10,000 to be received in the future is always less than $10,000 due to the effects of inflation and the time value of money. Therefore, the statement is false.

Question 5

________ is a means of determining the discounted value of a series of future cash receipts.

Accepted Answer

The answer of ________ is a means of determining the...

Question 6

What are the four limitations of the net present value technique?

Accepted Answer

The answer of What are the four limitations of the...

Question 7

Investments with identical net present values will also have similar salvage values.

Accepted Answer

The salvage value of an investment is usually dependent on factors such as the condition of the asset at the end of its useful life, market demand for the asset, and other economic factors. Therefore, investments with identical net present values may have different salvage values.

Question 8

A capacity alternative has an initial cost of $50,000 and cash flow of $20,000 for each of the next six years. If the cost of capital (i.e., interest rate) is 8 percent, what is the approximate net present value of this investment?

Accepted Answer

To calculate the net present value, we need to find the present value of each cash flow and add them together. Using a financial calculator or Excel, we find that the present value of each cash flow is:

Year 0: -$50,000 (initial cost)
Year 1: $18,518.52 (= $20,000 / 1.08^1)
Year 2: $17,138.07 (= $20,000 / 1.08^2)
Year 3: $15,856.93 (= $20,000 / 1.08^3)
Year 4: $14,668.80 (= $20,000 / 1.08^4)
Year 5: $13,568.52 (= $20,000 / 1.08^5)
Year 6: $12,551.15 (= $20,000 / 1.08^6)

Adding up these present values, we get a net present value of $42,462.97, which is closest to answer choice C ($42,460). Therefore, the best choice is C.

Question 9

Net present value will be greater:

Accepted Answer

The net present value will be greater for twelve monthly receipts of $100 each than for one end-of-year receipt of $1200 because the time value of money is a key factor in computing net present value. The earlier the cash flow, the less it is discounted, and the later it is expected, the more it is discounted. Thus, option A is incorrect. A smaller future value of a cash flow means less cash in hand in the future, which reduces the net present value, making option B incorrect. Option D is incorrect because a higher discount rate will decrease the net present value by increasing the rate at which future cash flows are discounted. Therefore, the correct answer is option C.

Question 10

For net present value calculations, we assume that payments are always made at the beginning of the period.

Accepted Answer

For net present value calculations, we assume that payments are made at the end of the period. This is because we are calculating the present value of future cash flows discounted to the present day, and those cash flows occur at the end of the period.

Question 11

Advantage Milling Devices is preparing to buy a new machine for precision milling of special metal alloys. This device can earn $200 per hour, and can run 3,000 hours per year. The machine is expected to be this productive for four years. If the interest rate is 5%, what is the net present value of the annual cash flows? What is the net present value if the interest rate is not 5%, but 8%? Why does present value fall when interest rates rise?

Accepted Answer

The answer of Advantage Milling Devices is preparing to buy...

Question 12

Net present value:

Accepted Answer

Net present value is the present value of cash inflows minus the present value of cash outflows over a period of time, taking into account the time value of money. It represents the value that an investment adds to the shareholder's wealth.

Question 13

A new machine tool is expected to generate receipts as follows: $5,000 in year one; $3,000 in year two, nothing in the next year, and $2,000 in the fourth year. At an interest rate of 6%, what is the net present value of these receipts? Is this a better net present value than $2,500 each year over four years? Explain.

Accepted Answer

The answer of A new machine tool is expected to...

Quiz 8: Location Strategies