Question 1

What is the profitability index for an investment with the following cash flows given a 14.5 percent required return?

Accepted Answer

To calculate the profitability index (PI), we need to divide the present value of the cash inflows by the initial investment.

The present value of the cash inflows can be calculated using a financial calculator or excel, and we get a value of $26,245.

The initial investment is given as $25,800.

Thus, PI = $26,245 / $25,800 = 1.02

A PI greater than 1 indicates that the project is expected to be profitable and thus, the investment should be accepted. Therefore, C) 1.02 is the best choice.

Question 2

You are considering a project with an initial cost of $7,500.What is the payback period for this project if the cash inflows are $1,100,$1,640,$3,800,and $4,500 a year over the next four years,respectively?

Accepted Answer

The payback period is calculated by adding the cash inflows each year until the initial investment is recovered. Here, the cumulative cash inflows are: Year 1: $1,100, Year 2: $1,100 + $1,640 = $2,740, Year 3: $2,740 + $3,800 = $6,540, and Year 4: $6,540 + $4,500 = $11,040. The initial investment of $7,500 is recovered between Year 3 and Year 4. To find the exact payback period: $7,500 - $6,540 = $960 to be recovered in Year 4. $960/$4,500 = 0.213 years. Adding this to the 3 years gives a payback period of 3.21 years.

Question 3

You would like to invest in the following project.  Sis,your boss,insists that only projects returning at least $1.06 in today's dollars for every $1 invested can be accepted.She also insists on applying a 14 percent discount rate to all cash flows.Based on these criteria,you should:

Accepted Answer

The answer of You would like to invest in the...

Question 4

A project has an initial cost of $6,500.The cash inflows are $900,$2,200,$3,600,and $4,100 over the next four years,respectively.What is the payback period?

Accepted Answer

To calculate the payback period, we need to add up the cash inflows until we recover the initial cost of the project.

Year 1: $900 (remaining cost: $5,600)
Year 2: $2,200 (remaining cost: $3,400)
Year 3: $3,600 (remaining cost: $800)
Year 4: $4,100 (remaining cost: -$3,300)

The payback period occurs at the end of year 3, when the remaining cost becomes negative. Therefore, the payback period is 3 years + ($800 / $3,600 Year 3 cash inflow) = 3.22 years. Rounded to two decimal places, the payback period is 2.94 years.

Choice C is the best answer as it is the closest choice to the calculated payback period.

Question 5

You are considering two independent projects both of which have been assigned a discount rate of 15 percent.Based on the profitability index,what is your recommendation concerning these projects?

Accepted Answer

The answer of You are considering two independent projects both...

Question 6

Scott is considering a project that will produce cash inflows of $2,100 a year for 4 years.The project has a 12 percent required rate of return and an initial cost of $6,000.What is the discounted payback period?

Accepted Answer

The discounted payback period is the time it takes for the discounted cash flows to pay back the initial investment. To find this, we discount each cash inflow at the required rate of return (12% in this case) and then cumulatively add these discounted cash flows until they equal or exceed the initial investment. Year 1: $2,100 / (1 + 0.12)^1 = $1,875.00Year 2: $2,100 / (1 + 0.12)^2 = $1,674.11Year 3: $2,100 / (1 + 0.12)^3 = $1,495.10Year 4: $2,100 / (1 + 0.12)^4 = $1,335.09Cumulative discounted cash flows:End of Year 1: $1,875.00End of Year 2: $3,549.11 ($1,875.00 + $1,674.11)End of Year 3: $5,044.21 ($3,549.11 + $1,495.10)End of Year 4: $6,379.30 ($5,044.21 + $1,335.09)The initial investment of $6,000 is recovered between Year 3 and Year 4. To find the exact time, we interpolate between these two years. The amount needed to recover at the start of Year 3 is $6,000 - $3,549.11 = $2,450.89. The amount available in Year 3 is $1,495.10, leaving $2,450.89 - $1,495.10 = $955.79 to be recovered in Year 4. The fraction of the year needed to recover this in Year 4 is $955.79 / $1,335.09 ≈ 0.72.Therefore, the discounted payback period is approximately 3 years + 0.72 = 3.72 years.

Question 7

You are considering two mutually exclusive projects with the following cash flows.Which project(s)should you accept if the discount rate is 8.5 percent? What if the discount rate is 13 percent?

Accepted Answer

The answer of You are considering two mutually exclusive projects...

Question 8

A project has an initial cost of $18,400 and produces cash inflows of $7,200,$8,900,and $7,500 over three years,respectively.What is the discounted payback period if the required rate of return is 16 percent?

Accepted Answer

The answer of A project has an initial cost of...

Question 9

Home Décor & More is considering a proposed project with the following cash flows.Should this project be accepted based on the combination approach to the modified internal rate of return if both the discount rate and the reinvestment rate are 16 percent? Why or why not?

Accepted Answer

The answer of Home Décor & More is considering a...

Question 10

It will cost $6,000 to acquire an ice cream cart.Cart sales are expected to be $3,600 a year for three years.After the three years,the cart is expected to be worthless as the expected life of the refrigeration unit is only three years.What is the payback period?

Accepted Answer

Payback period = $6,000/$3,600 = 1.67 years

Question 11

Alicia is considering adding toys to her gift shop.She estimates that the cost of inventory will be $7,500.The remodeling expenses and shelving costs are estimated at $1,800.Toy sales are expected to produce net cash inflows of $2,300,$2,900,$3,200,and $3,400 over the next four years,respectively.Should Alicia add toys to her store if she assigns a three-year payback period to this project? Why or why not?

Accepted Answer

The total initial investment is $7,500 (inventory) + $1,800 (remodeling and shelving) = $9,300. The cash inflows over the first three years are $2,300 + $2,900 + $3,200 = $8,400. By the end of the third year, Alicia has not yet recovered her initial investment of $9,300, indicating the payback period is longer than 3 years. To find the exact payback period, we note that by the end of the third year, Alicia still needs $900 ($9,300 - $8,400) to break even. With a cash inflow of $3,400 in the fourth year, the additional time needed to recover the full investment is $900 / $3,400 = 0.26 years. Therefore, the total payback period is 3 years + 0.26 years = 3.26 years, which exceeds her three-year payback period criterion.

Question 12

You are considering an investment with the following cash flows.If the required rate of return for this investment is 15.5 percent,should you accept the investment based solely on the internal rate of return rule? Why or why not?

Accepted Answer

Since the cash flow direction changes twice, there are two IRRs. Thus, the IRR rule cannot be used to determine acceptance or rejection.

Question 13

J&J Enterprises is considering an investment that will cost $318,000.The investment produces no cash flows for the first year.In the second year,the cash inflow is $47,000.This inflow will increase to $198,000 and then $226,000 for the following two years,respectively,before ceasing permanently.The firm requires a 15.5 percent rate of return and has a required discounted payback period of three years.Should the project be accepted? Why or why not?

Accepted Answer

The project should be rejected because it never pays back on a discounted basis.

Question 14

Based on the profitability index rule,should a project with the following cash flows be accepted if the discount rate is 14 percent? Why or why not?

Accepted Answer

The answer of Based on the profitability index rule,should a...

Question 15

Sheakley Industries is considering expanding its current line of business and has developed the following expected cash flows for the project.Should this project be accepted based on the discounting approach to the modified internal rate of return if the discount rate is 13.4 percent? Why or why not?

Accepted Answer

The answer of Sheakley Industries is considering expanding its current...

Question 16

Blue Water Systems is analyzing a project with the following cash flows.Should this project be accepted based on the discounting approach to the modified internal rate of return if the discount rate is 14 percent? Why or why not?

Accepted Answer

The answer of Blue Water Systems is analyzing a project...

Question 17

Day Interiors is considering a project with the following cash flows.What is the IRR of this project?

Accepted Answer

The answer of Day Interiors is considering a project with...

Question 18

An investment has the following cash flows and a required return of 13 percent.Based on IRR,should this project be accepted? Why or why not?

Accepted Answer

The IRR of an investment is the discount rate that makes the present value of its cash inflows equal to the present value of its cash outflows. To determine whether a project should be accepted or not based on IRR, we compare it to the required return. 
In this case, the required return is 13 percent. If the IRR is greater than 13 percent, the project should be accepted, whereas if the IRR is less than 13 percent, the project should be rejected. 
Using a financial calculator or spreadsheet, we can solve for the IRR of the cash flows provided in the question, which is approximately 11.47 percent. This is less than the required return of 13 percent, by about 1.53 percent. Therefore, the project should be rejected, and the answer is B.

Question 19

You are considering two independent projects with the following cash flows.The required return for both projects is 16 percent.Given this information,which one of the following statements is correct?

Accepted Answer

Since both projects have a required return of 16 percent, we can compare them using the NPV and IRR decision rules. Both Project A and Project B have positive NPVs and IRRs greater than the required return of 16 percent, which means they are both acceptable. Therefore, the best choice is to accept both projects based on both the NPV and IRR decision rules.

Question 20

Cool Water Drinks is considering a proposed project with the following cash flows.Should this project be accepted based on the combined approach to the modified internal rate of return if both the discount rate and the reinvestment rate are 12.6 percent? Why or why not?

Accepted Answer

The answer of Cool Water Drinks is considering a proposed...

Quiz 9: Net Present Value and Other Investment Criteria