Answer Options:
a. True
b. False
Answer: True
Question: Projects C and D are mutually exclusive and have normal cash flows. Project C has a higher NPV if the WACC is less than 12%, whereas Project D has a higher NPV if the WACC exceeds 12%. Which of the following statements is CORRECT?
Answer Options:
a. Project D probably has a higher IRR.
b. Project D is probably larger in scale than Project C.
c. Project C probably has a faster payback.
d. Project C probably has a higher IRR.
e. The crossover rate between the two projects is below 12%.
Answer: D. Project C probably has a higher IRR.
Question: Because of improvements in forecasting techniques, estimating the cash flows associated with a project has become the easiest step in the capital budgeting process.
Answer Options:
a. True
b. False
Answer: B. False
Question: Which of the following statements is CORRECT? One defect of the IRR method versus the NPV is that the IRR does not take proper account of differences in the sizes of projects.
Answer Options:
a. True
b. False
Answer: True
Question: We can identify the cash costs and cash inflows to a company that will result from a project. These could be called “direct inflows and outflows,” but the net difference is the direct net cash flow. If there are other costs and benefits that do not flow from or to the firm, and to other parties, these are called externalities, and they need not be considered as a part of the capital budgeting analysis.
Answer Options:
a. True
b. False
Answer: B. False
Question: The two methods discussed in the text for dealing with unequal project lives are (1) the replacement chain approach and (2) the equivalent annual annuity (EAA) approach.
Answer Options:
a. True
b. False
Answer: A. True
Question: Conflicts between two mutually exclusive projects occasionally occur, where the NPV method ranks one project higher but the IRR method puts the other one first. In theory, such conflicts should be resolved in favor of the project with the higher NPV.
Answer Options:
a. True
b. False
Answer: True
Question: Changes in net operating working capital should not be reflected in a capital budgeting cash flow analysis because capital budgeting relates to fixed assets, not working capital.
Answer Options:
a. True
b. False
Answer: B. False
Question: Which of the following statements is CORRECT?
Answer Options:
a. Using accelerated depreciation rather than straight line would normally have no effect on a project’s total projected cash flows but it would affect the timing of the cash flows and thus the NPV.
b. Under current laws and regulations, corporations must use the same depreciation method (e.g., straight line or accelerated) for stockholder reporting and tax purposes.
c. Since depreciation is not a cash expense, it has no effect on cash flows and thus no effect on capital budgeting decisions.
d. Under accelerated depreciation, higher depreciation charges occur in the early years, and this reduces the early cash flows and thus lowers a project’s projected NPV.
e. A good example of a sunk cost is the cost a situation where Home Depot opens a new store, and that leads to a decline in sales of one of the firm’s existing stores.
Answer: A. Using accelerated depreciation rather than straight line would normally have no effect on a project’s total projected cash flows but it would affect the timing of the cash flows and thus the NPV.
Question: Which of the following should be considered when a company estimates the cash flows used to analyze a proposed project?
Answer Options:
a. The new project is expected to capture sales of one of the company’s existing products by 5%.
b. Since the firm’s director of capital budgeting spent some of their time last year to evaluate the new project, a portion of her salary for that year should be charged to the project’s initial cost.
c. The company has spent and expensed $1 million on research and development costs associated with the new project.
d. The company spent and expensed $10 million on a marketing study before its current analysis regarding whether to accept or reject the project.
e. The firm would borrow all the money used to finance the new project, and the interest on this debt would be $1.5 million per year.
Answer: A. The new project is expected to capture sales of one of the company’s existing products by 5%.
Question: The change in net operating working capital associated with new projects is always positive, because new projects mean that more operating working capital will be required.
Answer Options:
a. True
b. False
Answer: B. False
Question: A firm that bases its capital budgeting decisions on either NPV or IRR will be more likely to accept a given project if it uses accelerated depreciation than if it uses straight-line depreciation, other things being equal.
Answer Options:
a. True
b. False
Answer: A. True