18 Questions

These are the homework questions for Chapter 8 in Corporate Finance.

Questions and Answers

- 1.Discounted cash flow valuation is the process of discounting an investment's:
- A.
Assets.

- B.
Future profits.

- C.
Liabilities.

- D.
Costs.

- E.
Future cash flows.

- 2.The payback period is the length of time it takes an investment to generate sufficient cash flows to enable the project to:
- A.
Produce a positive annual cash flow.

- B.
Produce a positive cash flow from assets.

- C.
Offset its fixed expenses.

- D.
Offset its total expenses.

- E.
Recoup its initial cost.

- 3.Which one of the following defines the internal rate of return for a project?
- A.
Discount rate that creates a zero cash flow from assets

- B.
Discount rate which results in a zero net present value for the project

- C.
Discount rate which results in a net present value equal to the project's initial cost

- D.
Rate of return required by the project's investors

- E.
The project's current market rate of return

- 4.The net present value profile illustrates how the net present value of an investment is affected by which one of the following?
- A.
Project's initial cost

- B.
Discount rate

- C.
Timing of the project's cash flows

- D.
Inflation rate

- E.
Real rate of return

- 5.Both Projects A and B are acceptable as independent projects. However, the selection of either one of these projects eliminates the option of selecting the other project. Which one of the following terms best describes the relationship between Project A and Project B?
- A.
Mutually exclusive

- B.
Conventional

- C.
Multiple choice

- D.
Dual return

- E.
Crosswise

- 6.Which one of the following can be defined as a benefit-cost ratio?
- A.
Net present value

- B.
Internal rate of return

- C.
Profitability index

- D.
Accounting rate of return

- E.
Modified internal rate of return

- 7.Which one of the following indicates that a project is expected to create value for its owners?
- A.
Profitability index less than 1.0

- B.
Payback period greater than the requirement

- C.
Positive net present value

- D.
Positive average accounting rate of return

- E.
Internal rate of return that is less than the requirement

- 8.The net present value:
- A.
Decreases as the required rate of return increases.

- B.
Is equal to the initial investment when the internal rate of return is equal to the required return.

- C.
Method of analysis cannot be applied to mutually exclusive projects.

- D.
Is directly related to the discount rate.

- E.
Is unaffected by the timing of an investment's cash flows.

- 9.Which one of the following is generally considered to be the best form of analysis if you have to select a single method to analyze a variety of investment opportunities?
- A.
Payback

- B.
Profitability index

- C.
Accounting rate of return

- D.
Internal rate of return

- E.
Net present value

- 10.Which one of the following indicates that a project should be rejected?
- A.
Average accounting return that exceeds the requirement

- B.
Payback period that is shorter than the requirement period

- C.
Positive net present value

- D.
Profitability index less than 1.0

- E.
Internal rate of return that exceeds the required return

- 11.
- A.
A longer payback period is preferred over a shorter payback period.

- B.
The payback rule states that you should accept a project if the payback period is less than one year.

- C.
The payback period ignores the time value of money.

- D.
The payback rule is biased in favor of long-term projects.

- E.
The payback period considers the timing and amount of all of a project's cash flows.

- 12.Which one of the following is the primary advantage of payback analysis?
- A.
Incorporation of the time value of money concept

- B.
Ease of use

- C.
Research and development bias

- D.
Arbitrary cutoff point

- E.
Long-term bias

- 13.The internal rate of return is unreliable as an indicator of whether or not an investment should be accepted given which one of the following?
- A.
One of the time periods within the investment period has a cash flow equal to zero

- B.
The initial cash flow is negative

- C.
The investment has cash inflows that occur after the required payback period

- D.
The investment is mutually exclusive with another investment under consideration

- E.
The cash flows are conventional

- 14.Which one of the following statements is correct?
- A.
If the IRR exceeds the required return, the profitability index will be less than 1.0.

- B.
The profitability index will be greater than 1.0 when the net present value is negative.

- C.
When the internal rate of return is greater than the required return, the net present value is positive.

- D.
Projects with conventional cash flows have multiple internal rates of return.

- E.
If two projects are mutually exclusive, you should select the project with the shortest payback period.

- 15.Which one of the following is an indicator that an investment is acceptable?
- A.
Modified internal rate of return equal to zero

- B.
Profitability index of zero

- C.
Internal rate of return that exceeds the required return

- D.
Payback period that exceeds the required period

- E.
Negative average accounting return

- 16.Based on the most recent survey information presented in your textbook, CFOs tend to use which two methods of investment analysis the most frequently?
- A.
Payback and net present value

- B.
Payback and internal rate of return

- C.
Internal rate of return and net present value

- D.
Net present value and profitability index

- E.
Profitability index and internal rate of return

- 17.Mary has just been asked to analyze an investment to determine if it is acceptable. Unfortunately, she is not being given sufficient time to analyze the project using various methods. She must select one method of analysis and provide an answer based solely on that method. Which method do you suggest she use in this situation?
- A.
Internal rate of return

- B.
Payback

- C.
Average accounting rate of return

- D.
Net present value

- E.
Profitability index

- 18.You were recently hired by a firm as a project analyst. The owner of the firm is unfamiliar with financial analysis and only wants to know what the expected dollar return is per dollar spent on a given project. Which financial method of analysis will provide the information that the owner requests?
- A.
Internal rate of return

- B.
Modified internal rate of return

- C.
Net present value

- D.
Profitability index

- E.
Payback