Question: Which one of the following statements is correct?
Answer Options:
The risk-free rate represents the change in purchasing power
Any return greater than the inflation rate represents the risk premium
Historical real rates of return must be positive
Nominal rates exceed real rates by the amount of the risk-free rate
Given a positive rate of inflation, the real rate must be less than the nominal rate
Answer: E — Given a positive rate of inflation, the real rate must be less than the nominal rate
Question: A project has a net present value of zero. Given this information:
Answer Options:
the project has a zero percent rate of return
the project requires no initial cash investment
the project has no cash flows
the summation of all of the project’s cash flows is zero
the project’s cash inflows equal its cash outflows in current dollar terms
Answer: E — the project’s cash inflows equal its cash outflows in current dollar terms
Question: Which one of the following will decrease the net present value of a project?
Answer Options:
Increasing the value of each of the project’s discounted cash inflows
Moving each cash inflow forward one time period, such as from Year 3 to Year 2
Decreasing the required discount rate
Increasing the project’s initial cost at Time 0
Increasing the amount of the final cash inflow
Answer: D — Increasing the project’s initial cost at Time 0
Question: A firm is analyzing a project that requires purchasing $150,000 of new fixed assets. When the project ends, those assets are expected to have an aftertax salvage value of $17,000. How should the $17,000 salvage value be handled when computing the net present value of the project? As a:
Answer Options:
reduction in the cash outflow at Time 0
cash inflow in the final year of the project
cash inflow for the year following the final year of the project
cash inflow prorated over the life of the project
sunk cost that is excluded from the net present value calculation
Answer: B — cash inflow in the final year of the project
Question: Net present value:
Answer Options:
is the best method of analyzing mutually exclusive projects
is less useful than the internal rate of return when comparing different-sized projects
is the easiest method of evaluation for nonfinancial managers
cannot be applied when comparing mutually exclusive projects
is very similar in its methodology to the average accounting return
Answer: A — is the best method of analyzing mutually exclusive projects
Question: Why is payback often used as the sole method of analyzing a proposed small project?
Answer Options:
Payback considers the time value of money
All relevant cash flows are included in the payback analysis
The benefits of payback analysis may outweigh the costs of the analysis
Payback is the most desirable of the various financial methods of analysis
Payback is focused on the long-term impact of a project
Answer: C — The benefits of payback analysis may outweigh the costs of the analysis
Question: Which of the following are advantages of the payback method of project analysis?
Answer Options:
Considers time value of money; liquidity bias
Liquidity bias; subjective cutoff point
Liquidity bias; ease of use
Ignores time value of money; ease of use
Ease of use; subjective cutoff point
Answer: C — Liquidity bias; ease of use
Question: A firm has a required payback period of two years for all of its projects. Currently, the firm is analyzing two independent projects. Project X has an expected payback period of 1.9 years and a net present value of $7,800. Project Y has an expected payback period of 2.4 years and a net present value of $13,400. Based on the payback decision rule, which projects should be accepted?
Answer Options:
Project X only
Project Y only
Both X and Y
Neither X nor Y
Either, but not both projects
Answer: A — Project X only
Question: Applying the discounted payback decision rule to all projects may cause:
Answer Options:
some positive net present value projects to be rejected
the most liquid projects to be rejected in favor of the less liquid projects
projects to be incorrectly accepted due to ignoring the time value of money
a firm to become more long-term focused
some projects to be accepted which would otherwise be rejected under the payback rule
Answer: A — some positive net present value projects to be rejected
Question: An advantage of the average accounting return method of analysis is its:
Answer Options:
use of easily obtainable information
inclusion of time value of money considerations
use of a cutoff rate as a benchmark
use of pretax income in its computation
use of real, versus nominal, average income
Answer: A — use of easily obtainable information
Question: A firm has analyzed a proposed expansion project and determined that the internal rate of return is lower than the firm desires. Which one of the following changes to the project would be most expected to increase the project’s internal rate of return?
Answer Options:
Decreasing the required discount rate
Increasing the initial investment in fixed assets
Condensing the firm’s cash inflows into fewer years without lowering the total dollar amount of those inflows
Eliminating the salvage value
Decreasing the amount of the final cash inflow
Answer: C — Condensing the firm’s cash inflows into fewer years without lowering the total dollar amount of those inflows
Question: A firm is considering two mutually exclusive projects and has determined that the crossover rate for these projects is 10.8 percent. Given this information, you know that:
Answer Options:
neither project will be accepted if the discount rate is less than 10.8 percent
both projects have a negative NPV at discount rates greater than 10.8 percent
both projects provide an internal rate of return of 10.8 percent
both projects have a zero NPV at a discount rate of 10.8 percent
the project that is acceptable at a discount rate of 10 percent should be rejected at a discount rate of 11 percent
Answer: E — the project that is acceptable at a discount rate of 10 percent should be rejected at a discount rate of 11 percent