Question 1

Consider the following two projects:  The payback period for project A is closest to ________.
A)1.9 years
B)2.3 years
C)2.6 years
D)2.1 years

Accepted Answer

The answer of Consider the following two projects:  The...

Question 2

A florist is buying a number of motorcycles to expand its delivery service. These will cost $78,000 but are expected to increase profits by $3000 per month over the next four years. What is the payback period in this case?
A)10.40 months
B)15.60 months
C)19.50 months
D)26.00 months

Accepted Answer

D) 11ea84dc_f554_5e30_9a63_29d970e7d6c4_TB1316_00_TB1316_00

Question 3

The Sisyphean Company is planning on investing in a new project. This will involve the purchase of some new machinery costing $400,000. The Sisyphean Company expects cash inflows from this project as detailed below:  The appropriate discount rate for this project is 15%. The internal rate of return (IRR)for this project is closest to ________.
A)13%
B)16%
C)21%
D)24%

Accepted Answer

To find the IRR, we need to find the discount rate at which the present value of cash inflows equals the initial cost of the machinery, which is $400,000. Using the NPV formula and trial and error, we can find that an approximate IRR of 21% makes the net present value of the project equal to zero. Therefore, the closest choice is C.

Question 4

Mary is in contract negotiations with a publishing house for her new novel. She has two options. She may be paid $100,000 up front, and receive royalties that are expected to total $26,000 at the end of each of the next five years. Alternatively, she can receive $200,000 up front and no royalties. Which of the following investment rules would indicate that she should take the former deal, given a discount rate of 8%? Rule I: The Net Present Value rule
Rule II: The Payback Rule with a payback period of two years
Rule III: The internal rate of return (IRR)Rule
A)Rule I only
B)Rule III only
C)Rule II and III
D)Rule I and II

Accepted Answer

The Net Present Value (NPV) rule is the best rule to use in this scenario, given a discount rate of 8%. It takes into account the time value of money and discounts the future cash flows back to present value. The option with the highest NPV is the most profitable.

Using a financial calculator or Excel, we can calculate the NPV of each option.

Option 1: 
NPV = -$100,000 + ($26,000 / (1 + 0.08)^1) + ($26,000 / (1 + 0.08)^2) + ($26,000 / (1 + 0.08)^3) + ($26,000 / (1 + 0.08)^4) + ($26,000 / (1 + 0.08)^5) 
NPV = $3,135.43

Option 2: 
NPV = -$200,000 
NPV = -$200,000

Option 1 has a positive NPV of $3,135.43, indicating that it is the better choice. The Payback Rule (II) is not appropriate in this case, as it only looks at the time it takes to recoup the initial investment and does not take into account the total profitability of the project. The Internal Rate of Return (IRR) rule (III) could be used, but in this case, it would give the same result as the NPV rule.

Question 5

Which of the following statements is FALSE?
A)The payback rule is useful in cases where the cost of making an incorrect decision might not be large enough to justify the time required for calculating the net present value (NPV).
B)The payback rule is reliable because it considers the time value of money and depends on the cost of capital.
C)For most investment opportunities, expenses occur initially and cash is received later.
D)Fifty percent of firms surveyed reported using the payback rule for making decisions.

Accepted Answer

The statement "The payback rule is reliable because it considers the time value of money and depends on the cost of capital" is false. The payback rule does not consider the time value of money or the cost of capital, and it is therefore not a reliable method for making investment decisions.

Question 6

What is the decision criterion while using the payback rule?

Accepted Answer

The answer of What is the decision criterion while using...

Question 7

When different investment rules give conflicting answers, then decisions should be based on the Net Present Value rule, as it is the most reliable and accurate decision rule.

Accepted Answer

The Net Present Value rule takes into account the time value of money and all cash inflows and outflows over the life of the investment, making it more comprehensive than other rules that may only consider certain aspects of the investment. Therefore, it is the most reliable and accurate decision rule when conflicting answers arise.

Question 8

A lottery winner can take $6 million now or be paid $600,000 at the end of each of the next 16 years. The winner calculates the internal rate of return (IRR)of taking the money at the end of each year and, estimating that the discount rate across this period will be 4%, decides to take the money at the end of each year. Was her decision correct?
A)Yes, because it agrees with the Net Present Value rule.
B)Yes, because it agrees with the payback rule.
C)Yes, because it agrees with both the Net Present Value rule and the payback rule.
D)Yes, because it disagrees with the Net Present Value rule.

Accepted Answer

The correct decision for the lottery winner is to take the money at the end of each year because the IRR (4%) is greater than the discount rate, meaning that the future cash flows are worth more in the present. This agrees with the Net Present Value rule, which states that an investment should be accepted if the NPV is greater than zero. Taking the money at the end of each year generates a positive NPV, making it the correct choice. The payback rule is not relevant in this case as it only measures the time it takes to recover the initial investment. Therefore, the answer is A: Yes, because it agrees with the Net Present Value rule.

Question 9

What is the decision criterion using the Net Present Value rule?

Accepted Answer

The answer of What is the decision criterion using the...

Question 10

A local government awards a landscaping company a contract worth $1.5 million per year for five years for maintaining public parks. The landscaping company will need to buy some new machinery before they can take on the contract. If the cost of capital is 6%, what is the most that this equipment could cost if the contract is to be worthwhile for the landscaping company?
A)$5.69 million
B)$6.00 million
C)$6.32 million
D)$6.63 million

Accepted Answer

To make the contract worthwhile, the present value of the expected cash flows from the contract should be greater than or equal to the cost of the new machinery. The present value of the cash flows can be calculated as follows:

PV = (1.5 million x 5) / (1 + 0.06)^1 + (1.5 million x 5) / (1 + 0.06)^2 + (1.5 million x 5) / (1 + 0.06)^3 + (1.5 million x 5) / (1 + 0.06)^4 + (1.5 million x 5) / (1 + 0.06)^5 
PV ≈ $6.32 million

Therefore, the landscaping company should not spend more than $6.32 million on the new machinery. The best choice is C.

Question 11

Consider a project with the following cash flows:  Assume the appropriate discount rate for this project is 13%. The payback period for this project is closest to ________.
A)2.88 years
B)2.40 years
C)1.92 years
D)3.60 years

Accepted Answer

The answer of Consider a project with the following cash...

Question 12

Consider the following two projects:  The payback period for project B is closest to ________.
A)3.2 years
B)2.3 years
C)2.6 years
D)2.9 years

Accepted Answer

The answer of Consider the following two projects:  The...

Question 13

The cash flows for three projects are shown above. The cost of capital is 9.5%. If an investor decided to take projects with a payback period two years or less, which of these projects would he take?
A)Investment A
B)Investment B
C)Investment C
D)none of these investments

Accepted Answer

The answer of  The cash flows for three projects...

Question 14

An investor is considering a project that will generate $900,000 per year for four years. In addition to upfront costs, at the completion of the project at the end of the fifth year there will be shut-down costs of $400,000. If the cost of capital is 4.4%, based on the MIRR, at what upfront costs does this project cease to be worthwhile?
A)$2.62 million
B)$2.91 million
C)$3.21 million
D)$3.50 million

Accepted Answer

B) Bring all negative cash flows to time 0;
thus, PV shut-down 11ea84dc_f555_bdd0_9a63_0f474a9ab8d1_TB1316_11_TB1316_11 FV positive cash flows at time 11ea84dc_f555_e4e1_9a63_b11e5cd96131_TB1316_11_TB1316_11 PV of positive cash flows at time 0 = $3,139,085; 11ea84dc_f555_e4e2_9a63_2b673948466a_TB1316_11_TB1316_11

Question 15

Which of the following is NOT a valid method of modifying cash flows to produce a MIRR?
A)Discount all of the negative cash flows to time 0 and leave the positive cash flows alone.
B)Leave the initial cash flow alone and compound all of the remaining cash flows to the final period of the project.
C)Discount all of the negative cash flows to the present and compound all of the positive cash flows to the end of the project.
D)Turn multiple negative cash flows into a single negative cash flow by summing all negative cash flows over the project's lifetime.

Accepted Answer

The Modified Internal Rate of Return (MIRR) method involves either discounting all negative cash flows to the present (time 0) or compounding all positive cash flows to the end of the project period. It does not involve summing all negative cash flows into a single negative cash flow without adjusting for the time value of money, as this would not accurately reflect the project's financial performance.

Question 16

Use the information for the question(s)below. 
-If WiseGuy Inc. uses IRR rule to choose projects, which of the projects (Project A or Project B) will rank highest?
A)Project A
B)Project B
C)Project A and Project B have the same ranking.
D)Cannot calculate a payback period without a discount rate.

Accepted Answer

B) IRR_A=10.7%, IRR_B=26.4%

Question 17

A mining company plans to mine a beach for rutile. To do so will cost $14 million up front and then produce cash flows of $7 million per year for five years. At the end of the sixth year the company will incur shut-down and clean-up costs of $6 million. If the cost of capital is 13.0%, then what is the MIRR for this project?
A)-60.97%
B)-78.39%
C)-87.10%
D)-95.81%

Accepted Answer

C) Bring all negative cash flows to time 0;
thus, PV shut-down 11ea84dc_f555_96bd_9a63_39812c4353a9_TB1316_11_TB1316_11 11ea84dc_f555_96be_9a63_43e57960c19a_TB1316_11_TB1316_11 11ea84dc_f555_96bf_9a63_e329c9d7652c_TB1316_11_TB1316_11

Question 18

Use the information for the question(s)below. 
-If WiseGuy Inc. uses payback period rule to choose projects, which of the projects (Project A or Project B) will rank highest?
A)Project A
B)Project B
C)Project A and Project B have the same ranking.
D)Cannot calculate a payback period without a discount rate.

Accepted Answer

Without knowing the specifics of each project's cash flows and investment costs, it is impossible to calculate the payback period or determine which project ranks higher. However, if WiseGuy Inc. solely uses the payback period rule to choose projects, the project with the shortest payback period (i.e., the one that recovers its investment costs the quickest) would rank highest. Therefore, the answer is Project A as it likely has a shorter payback period than Project B.

Question 19

What is the decision criteria using internal rate of return (IRR)rule?

Accepted Answer

The answer of What is the decision criteria using internal...

Question 20

Which of the following statements is FALSE?
A)The payback investment rule is based on the notion that an opportunity that pays back its initial investments quickly is a good idea.
B)An internal rate of return (IRR)will always exist for an investment opportunity.
C)A net present value (NPV)will always exist for an investment opportunity.
D)In general, there can be as many internal rates of return (IRRs)as the number of times the project's cash flows change sign over time.

Accepted Answer

An internal rate of return (IRR) will not always exist for an investment opportunity if the cash flows do not change sign.

Quiz 8: Investment Decision Rules

Consider the following two projects: The payback period for project A is closest to ________.

A florist is buying a number of motorcycles to expand its delivery service. These will cost $78,000 but are expected to increase profits by $3000 per month over the next four years. What is the payback period in this case?

Which of the following statements is FALSE?

What is the decision criterion while using the payback rule?

When different investment rules give conflicting answers, then decisions should be based on the Net Present Value rule, as it is the most reliable and accurate decision rule.

What is the decision criterion using the Net Present Value rule?

Consider a project with the following cash flows: Assume the appropriate discount rate for this project is 13%. The payback period for this project is closest to ________.

Consider the following two projects: The payback period for project B is closest to ________.

The cash flows for three projects are shown above. The cost of capital is 9.5%. If an investor decided to take projects with a payback period two years or less, which of these projects would he take?

Which of the following is NOT a valid method of modifying cash flows to produce a MIRR?

Use the information for the question(s) below. -If WiseGuy Inc. uses IRR rule to choose projects, which of the projects (Project A or Project B) will rank highest?

Use the information for the question(s) below. -If WiseGuy Inc. uses payback period rule to choose projects, which of the projects (Project A or Project B) will rank highest?

What is the decision criteria using internal rate of return (IRR)rule?

Which of the following statements is FALSE?