Question 1

Capital budgeting results are no more accurate than the projections of the future used as inputs.

Accepted Answer

Capital budgeting involves making assumptions about future cash flows, which may not always be accurate. Thus, the results of capital budgeting are only as reliable as the projections of the future used as inputs.

Question 2

The impact of a project on cash flows in other parts of the business is outside of the project's scope and therefore need not be considered in estimating the project's cash flows.

Accepted Answer

The impact of a project on cash flows in other parts of the business should be considered in estimating the project's cash flows. This is because the success or failure of the project may impact the overall financial health of the organization, and therefore should be taken into account when assessing the project's viability.

Question 3

If the selling price of a depreciable asset exceeds its original cost, the excess of the selling price over that original cost is taxed as a capital gain.

Accepted Answer

The answer of If the selling price of a depreciable...

Question 4

A major responsibility of the financial analyst is to ensure that only reasonable cash flow estimates are used in capital budgeting.

Accepted Answer

Ensuring reasonable cash flow estimates is a key responsibility of a financial analyst in capital budgeting as it impacts the investment decision-making process. Unreasonable or inaccurate cash flow estimates could lead to poor investment decisions and potential losses for the company.

Question 5

The results of an NPV or IRR analysis are only as accurate as the cash flows used as inputs.

Accepted Answer

This statement is true. The validity and accuracy of the NPV or IRR analysis are dependent on the accuracy and reliability of the cash flow projections used as inputs. If the cash flow projections are flawed or unrealistic, the resulting NPV or IRR analysis will be inaccurate and unreliable. Therefore, it is important to carefully scrutinize and validate the cash flow projections before using them in an NPV or IRR analysis.

Question 6

In the case of a replacement proposal, there are no tax effects reflected in the initial cash flows.

Accepted Answer

Tax effects, such as depreciation or capital gains taxes, can impact the initial cash flows in a replacement proposal.

Question 7

All capital budgeting cash flows must be stated after tax.

Accepted Answer

This is because capital budgeting involves investment decisions that will affect the company's tax liabilities, so the cash flows must reflect the after-tax impact of those decisions.

Question 8

Cash flows forecast to continue forever are compressed into finite terminal values using future value formulas.

Accepted Answer

Cash flows forecast to continue forever are typically compressed into a single value using present value formulas, not future value formulas, to calculate their net present value as of today. This is often done through a process known as capitalizing the perpetual cash flows.

Question 9

Proceeds from the sale of old equipment are generally not considered when estimating cash flows.

Accepted Answer

Proceeds from the sale of old equipment should be considered when estimating cash flows, as they represent an inflow of cash that can offset the cost of new equipment or other investments. Ignoring these proceeds would result in an inaccurate estimation of cash flows.

Question 10

If a project requires a plant addition that replaces an existing structure, then the cash inflow from the disposal of the existing structure must be counted as part of the project's initial outlay.

Accepted Answer

The cash inflow from the disposal of the existing structure represents a reduction in the initial outlay required for the project, and should be accounted for as such.

Question 11

The incremental cash flows of a new venture tend to be easy to visualize, because the project is readily seen as separate and distinct from the existing business.

Accepted Answer

Because a new venture is separate and distinct from the existing business, its incremental cash flows can be more easily identified and visualized.

Question 12

An opportunity cost must be included in the cash flow estimate when using a resource requires foregoing real or potential alternative income, even though no cash is spent to obtain the resource.

Accepted Answer

An opportunity cost refers to the potential benefit that could have been gained from an alternative use of a resource. This cost must be considered as a relevant cash flow in financial analysis, even if no actual cash is spent.

Question 13

All capital budgeting techniques ignore the time value of money.

Accepted Answer

All capital budgeting techniques consider the time value of money by discounting future cash flows to their present value using a required rate of return or cost of capital.

Question 14

The incremental cash flows of a replacement project can be estimated as the difference between operating with the new and the old equipment.

Accepted Answer

This is a correct statement. Incremental cash flows for a replacement project can be calculated as the difference between the expected cash flows with the new equipment and the expected cash flows with the old equipment. This allows for a comparison of the potential profitability of the new investment.

Question 15

The sale of an asset below its book value at the time of sale generates cash inflows that exceed the asset's selling price.

Accepted Answer

The answer of The sale of an asset below its...

Question 16

It is generally best to forecast revenue with unit and price detail.

Accepted Answer

Forecasting revenue with unit and price detail allows for a more accurate and detailed understanding of where revenue is coming from, and how changes in product or pricing may affect revenue.

Question 17

Subjective benefits are based on opinions and can be easily quantified without any kind of biases.

Accepted Answer

Subjective benefits are based on opinions and are therefore subjective, meaning that biases can easily influence their quantification.

Question 18

Accelerated depreciation follows the half-year convention. That is, assets receive a half-year of depreciation in the 1st year and the remaining half-year of depreciation in the T+1 year where T is the designated life of the asset.

Accepted Answer

This statement is true. Accelerated depreciation follows the half-year convention, which means that in the first year, assets receive a half-year of depreciation, and the remaining half-year of depreciation is taken in the T+1 year, where T is the designated life of the asset.

Question 19

Project proposals often come with favorably biased input assumptions.  The finance department should ensure that only reasonable assumptions are used in the capital budgeting process.

Accepted Answer

The finance department is responsible for ensuring that only reasonable assumptions are used in the capital budgeting process, and they should reject any input assumptions that are unrealistically optimistic or favorably biased. This is because inaccurate assumptions can lead to flawed decision-making and result in wasteful spending, misallocation of resources, and negative impacts on the company's financial performance. Therefore, it is important for the finance department to exercise diligence and objectivity in evaluating project proposals and input assumptions.

Question 20

An increase in a firm's annual depreciation expense that results from replacing an existing asset with a new asset can increase the firm's annual cash inflows.

Accepted Answer

The increase in depreciation expense reduces taxable income, which in turn reduces the amount of taxes a firm has to pay. This reduction in taxes increases the firm's net cash inflow.

Quiz 11: Cash Flow Estimation