Question 1

Suppose a project requires an after-tax incremental cash outflow of $40,000 today.The project is expected to generate after-tax cash inflows of $9,000 per year for the next six years.What is the project's PI if the appropriate discount rate is 10 percent?

Accepted Answer

PV(CFs)= $9,000*PVAF(10%,6)= $39,197.35 11ea8229_3480_d650_bbd8_51f6b4d6c660_TB1726_00

Question 2

What is the project's NPV if it requires an initial cash outlay of $50,000 and pays $8,000 per year indefinitely? Assume the appropriate discount rate is 15 percent and the tax rate is zero.

Accepted Answer

11ea8229_347f_4fa6_bbd8_938f32b5c111_TB1726_00

Question 3

Suppose project Acquisition and project Merger are mutually exclusive.Project Acquisition requires an initial cash outlay of $50,000 and is expected to provide after-tax cash flows of $15,000 in year 1,$25,000 in year 2,$20,000 in year 3,and $15,000 in year 4.Project Merger requires an initial cash outlay of $75,000 and is expected to provide after-tax cash flows of $20,000 in year 1,$28,000 in year 2,$35,000 in year 3,and $20,000 in year 4.The appropriate discount rate is 12 percent.What is the crossover rate?

Accepted Answer

Crossover rate (CR)= IRR of the incremental project (Merger - Acquisition)
CFs of project (Merger - Acquisition): -$25,000,$5,000,$3,000,$15,000,and $5,000 11ea8229_347f_ebe8_bbd8_7b7edfef80a1_TB1726_00 Using a financial calculator (TI BA II Plus):
[CF][2nd][CLR WORK]
CF0=-25,000,C01=5,000,F01=1,C02=3,000,F02=1,C03=15,000,F03=1,C04=5,000,F04=1,IRR CPT.
CR = 4.30%

Question 4

What is the IRR of a project that requires an investment of $9,900.39 today and will generate $1,500 per year for ten years and an additional $10,000 at the end of the tenth year?

Accepted Answer

Note that the cash flow in the tenth year is 1,500+10,000=11,500
Using a financial calculator (TI BA II Plus):
[CF][2nd][CLR WORK]
CF0=-9,900.39,C01=1,500,F01=9,C02=11500,F02=1.IRR.CPT.

Question 5

Use the following statements to answer this question:

Accepted Answer

I is incorrect because the discounted payback period is always longer than the payback period.
II is correct as both methods only consider cash flows up to the cut-off period and ignore any cash flows beyond that time.

Question 6

What is the payback period of a project whose NPV is positive?

Accepted Answer

The payback period of a project whose NPV is positive should be lower than the project life time. This is because if the NPV is positive, it means that the project is generating enough cash flows to cover its initial investment and provide a return. Therefore, the payback period should be shorter than the project life time to ensure that the project will generate a positive return in a shorter period of time. Option A is incorrect because a payback period of less than 1 would mean that the project pays back its initial investment in less than one year, which might not be feasible or desirable. Option B is incorrect because a payback period higher than 1 would mean that the project takes longer to generate enough cash flows to cover its initial investment and provide a return, which would decrease the project's profitability. Option D is incorrect because a payback period higher than the project life time is not possible.

Question 7

What is the IRR of a project that requires an initial cash outlay of $12,345 and is expected to generate cash flows of $3,600 a year for three years and then $4,200 a year for two more years? Assume the tax rate is zero.

Accepted Answer

Using a financial calculator (TI BA II Plus): [CF][2nd][CLR WORK] _CF0=_-₁₂_,_345,C01=3_,_{600,F01=3,C02=4}_,_{200,F02=2.IRR.CPT.16.20%}

Question 8

Consider a five-year project that costs $20,000 today,which is expected to generate $6,000 at the end of the second year and then the cash flows will increase by $1,000 per year for each of the subsequent years.The cost of capital is 8 percent.What are the project's NPV and IRR?

Accepted Answer

11ea8229_3480_3a09_bbd8_a1ee863eeef8_TB1726_00 Using a financial calculator (TI BA II Plus):
[CF][2nd][CLR WORK]
CF0=-20,000,C01=0,F01=1,C02=6,000,F02=1,C03=7,000,F03=1,C04=8,000,F04=1,C05=9,000,F05=1,IRR,CPT.

Question 9

Consider an investment opportunity that requires an initial cash outlay of $28,500 and provides cash flows of $8,500 in year 1,$10,000 in year 2,$11,500 in year 3,and $13,000 in year 4.The cost of capital is 12 percent.What is the discounted payback period of the project?

Accepted Answer

11ea8229_3480_d64f_bbd8_3be18dbfeabc_TB1726_00

Question 10

A company is considering two mutually exclusive projects Adept and Boffo.Project Adept requires an initial investment of $100,000 and is expected to generate after-tax cash flows of $45,000 per year for three years.Project Boffo requires an initial investment of $150,000 and is expected to generate after-tax cash flows of $50,000 per year for four years.The appropriate discount rate is 10 percent.What is the crossover rate for projects Adept and Boffo?

Accepted Answer

Crossover rate (CR)= IRR of the incremental project (Boffo - Adept)
CFs of project (Boffo - Adept): -$50,000,$5,000,$5,000,$5,000,and $50,000
Using a financial calculator (TI BA II Plus):
[CF][2nd][CLR WORK]
CF0=-50,000,C01=5,000,F01=3,C02=50,000,F02=1.IRR.CPT.
CR = 7.77%

Question 11

Consider a ten-year project that costs $40,000 today,which is expected to generate $6,000 at the end of the second year and then the cash flows will increase by $1,000 for three years and then stagnate for the rest of the project life.The cost of capital is 8 percent.What is discounted payback period?

Accepted Answer

11ea8229_3480_882b_bbd8_9fd704fa98e7_TB1726_00

Question 12

Construct an investment opportunity ranking using the following information on four independent projects using IRR:

Accepted Answer

Project I's IRR = 11.65%,Project II's IRR = 14.96%,Project III's IRR = 15.24%,And project IV's IRR = 12.59%.An investment opportunity schedule = IRR's ranked in descending order = III,II,IV,I

Question 13

Which of the following methods does not consider the time value of the money?

Accepted Answer

Payback period method only considers the period of time required to recover the initial investment and does not take into account the time value of money. Net present value and internal rate of return, on the other hand, consider the time value of money by discounting future cash flows to their present value.

Question 14

Consider a project that requires an investment of $28,000 today and generates after-tax cash flows of $10,000 per year for the next four years.The appropriate discount rate is 15 percent.What are the project's NPV and IRR?

Accepted Answer

NPV = -$28,000 + $10,000*PVAF(15%,4)= $549.78
Using a financial calculator (TI BA II Plus):
[CF][2nd][CLR WORK]
CF0=-28,000,C01=50,000,F01=4,IRR CPT.
IRR = 15.97%

Question 15

Consider a ten-year project that costs $40,000 today,which is expected to generate $6,000 at the end of the second year and then the cash flows will increase by $1,000 for three years and then stagnate for the rest of the project life.The cost of capital is 8 percent.What is the project's IRR?

Accepted Answer

11ea8229_3480_611a_bbd8_03e7316e2a5b_TB1726_00 Or use financial calculator

Question 16

Consider a project that requires an immediate cash outflow of $100,000 and provides a perpetual annual inflow of $15,000 starting two years from today.The cost of capital is 12 percent.What is the project's PI?

Accepted Answer

11ea8229_3480_fd61_bbd8_2381b2cf52a4_TB1726_00 11ea8229_3480_fd62_bbd8_6fe82104d6b6_TB1726_00

Question 17

Which of the following investment rules may not use all possible cash flows in its calculations?

Accepted Answer

The Payback period rule only considers cash flows up to the point where the initial investment is recovered, ignoring any cash flows that occur after this period.

Question 18

Consider a project that requires an investment of $22,500 today and pays $5,250 per year for ten years.What is the payback period of the project? Assume the cost of capital is 12 percent.

Accepted Answer

11ea8229_3480_af3d_bbd8_6b4584d2d061_TB1726_00

Question 19

What is the payback period of a project that requires an initial cash outlay of $16,000 and provides cash flows of $4,500 in year 1,$5,500 in year 2,$6,500 in year 3,and $7,500 in year 4? Assume the appropriate discount rate is 10 percent.

Accepted Answer

11ea8229_3480_af3c_bbd8_498775fe41a3_TB1726_00

Question 20

What is the discounted payback period of a five-year project that costs $18,000 today and pays an annual cash flow of $7,500? Assume the cost of capital is 15%.

Accepted Answer

PV(CF_1-4): $6,521.74,$5,671.08,$4,931.37,And $4,288.15 PV(Accumulated CF_1-4): $6,521.74,$12,192.82,$17,124.19,and $21,412.34 11ea8229_3480_af3e_bbd8_d3ebc9e6a677_TB1726_00

Quiz 13: Capital Budgeting, risk Considerations, and Other Special Issues