Exam

Name___________________________________

TRUE/FALSE. Write 'T' if the statement is true and 'F' if the statement is false.
1) Deciding which product markets to enter is a capital budgeting decision. 1) _______

2) If a project has a net present value equal to zero, then the project is expected to produce 2) _______
only the minimally required cash inflows.

3) Average Accounting Return (AAR) is biased in favour of liquid investments. 3) _______

4) A project is accepted if the target AAR exceeds the project AAR. 4) _______

5) NPV lets you know in today's dollars how much better off or worse off you will be if 5) _______
you accept a project.

6) Lack of consideration of the time value of money is a weakness of the average 6) _______
accounting return method of analysis.

7) If the internal rate of return on a project is 11.24%, and the project is assigned a 9.5% 7) _______
discount rate, then the profitability index will be greater than 1.0.

8) The payback period and discounted payback are biased in favour of liquid investments. 8) _______

9) When multiple IRRs exist, a project must have a negative NPV at the highest IRR. 9) _______

10) The crossover point occurs where the IRR of two projects are equal. 10) ______

MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the
question.
11) You are considering a project that costs $300 and has expected cash flows of $110, 11) ______
$121, and $133.10 over the next three years. If the appropriate discount rate for the
project's cash flows is 10%, what is the net present value of this project?
A) ($8.58) B) $0.71 C) $19.79 D) $64.10 E) $0.00

12) For a project with an initial investment of $40,000 and cash inflows of $11,000 a year 12) ______
for five years, calculate NPV given a required return of 11.65%.
A) $1,218 B) -$1,103 C) $567 D) -$1,205 E) -$1.23

13) Bill plans to open a do-it-yourself dog bathing center in a storefront. The bathing 13) ______
equipment will cost $160,000. Bill expects the after-tax cash inflows to be $40,000
annually for seven years, after which he plans to scrap the equipment and retire to the
beaches of Jamaica.

Assume the required return is 15%. What is the project's Profitability Inedex (PI)?
Should it be accepted?
A) 1.04; yes
B) 1.00; indifferent
C) 1.04; no
D) 0.88; yes
E) 0.88; no
14) You are analyzing a project and have prepared the following data: 14) ______

Based on the profitability index of ________ for this project, you should ________ the
project.
A) 1.02; reject
B) 1.08; reject
C) 0.87; accept
D) 0.87; reject
E) 1.02; accept

15) It will cost $14,900 to acquire a hot dog cart. Cart sales are expected to be $16,200 a 15) ______
year for three years. After the three years, the cart is expected to be worthless as that is
the expected life of the heating system. What is the payback period of the hot dog cart?
A) .87 year
B) 1.14 year
C) 1.09 year
D) 1.03 year
E) .92 year

16) A 30 year project is estimated to cost $35 million dollars and provide annual cash flows 16) ______
of $5 million per year in years 1-5; $4 million per year in years 6-20 and $2 million per
year in years 21-30. If the company's required rate of return is 10%, determine the
discounted payback for the project.
A) 7.90 years
B) 11.90 years
C) 9.90 years
D) 15.90 years
E) 17.21 years
17) What is the internal rate of return for a project with the following cash flows? 17) ______

A) 12.3 percent
B) 11.9 percent
C) 12.7 percent
D) 12.1 percent
E) 12.5 percent

18) The ABC Co. is considering the purchase of a $249,000 piece of equipment. This 18) ______
equipment is expected to produce cash flows of $78,500, $149,000, and $80,000 over
the next three years. The rate of return on this equipment is:
A) 15.23% B) 11.26% C) 23.49% D) 9.88% E) 12.50%

19) A project produces the following cash flows over the next five years: $600, $200, $350, 19) ______
$400 and $500, respectively. The initial cost of the project is $1,400. What is the
internal rate of return on this project?
A) 3.67%
B) 14.39%
C) - 4.56%
D) 12.87%
E) The rate cannot be computed with certainty.

22) A project produces annual net income of $14,600, $18,700, and $23,500 over three 22) ______
years, respectively. The initial cost of the project is $310,800. This cost is depreciated
straight-line to a zero book value over three years. What is the average accounting rate
of return if the required discount rate is 9 percent?
A) 15.63 percent
B) 17.67 percent
C) 12.18 percent
D) 18.28 percent
E) 14.29 percent

23) Bill plans to open a do-it-yourself dog bathing center in a storefront. The bathing 23) ______
equipment will cost $160,000. Bill expects the after-tax cash inflows to be $40,000
annually for seven years, after which he plans to scrap the equipment and retire to the
beaches of Jamaica.

Assume the required return is 17%. What is the project's IRR? Should it be accepted?
A) 16.3%; yes
B) 12.2%; no
C) 17.0%; indifferent
D) 12.2%; yes
E) 16.3%; no
 24) The following four-year project has an initial cost of $1,000,000. The future cash 24) ______
inflows for the next four years are $600,000, $500,000, $400,000, and $400,000,
respectively. If the rate of return is 12%, determine the discounted payback period for
this project.
A) 2.44 years
B) 1.74 years
C) 2.74 years
D) 2.23 years
E) 1.94 years

25) Yancy is considering a project which will produce cash inflows of $900 a year for 4 25) ______
years. The project has a 9 percent required rate of return and an initial cost of $2,800.
What is the discounted payback period?
A) 3.82 years
B) 3.11 years
C) never
D) 3.18 years
E) 4.18 years

26) Without using formulas, provide a definition of "internal rate of return" (IRR). 26) ______
A) A project analysis tool that measures the acceptability of a project through the
difference between a project's initial investment and whether the present value of
its cash flow will repay the investment.
B) A graphical representation of the relationship between varying rates of return and
the corresponding NPV value.
C) A project analysis tool that measures the acceptability of a project by determining
the amount of profit that can be expected based on an investment made.
D) A situation whereby a choice has to be made between two or more projects, and
choosing multiple projects is not an option.
E) The rate of return provided by a project. The value is compared with a company's
rate of return to determine viability of a project.

27) Without using formulas, provide a definition of "payback period." 27) ______
A) A project analysis tool that measures the acceptability of a project through the
difference between a project's initial investment and whether the present value of
its cash flow will repay the investment.
B) A project analysis tool that determines the amount of time required for an
investment to generate cash flows to recover its initial cost.
C) A ranking method used to assess projects. PI greater than 1 signify positive NPV
projects, while PI less than 1 signify negative NPV projects.
D) A project analysis tool that measures the acceptability of a project by determining
the amount of profit that can be expected based on an investment made.
E) A project analysis tool that measures the acceptability of a project by determining
the length of time required for an investment's discounted cash flows to equal its
initial cost.
28) Without using formulas, provide a definition of "average accounting return" (AAR). 28) ______
A) A project analysis tool that measures the acceptability of a project by determining
the amount of profit that can be expected based on an investment made.
B) A ranking method used to assess projects. PI greater than 1 signify positive NPV
projects, while PI less than 1 signify negative NPV projects.
C) A project analysis tool that measures the acceptability of a project through the
difference between a project's initial investment and whether the present value of
its cash flow will repay the investment.
D) A project analysis tool that determines the amount of time required for an
investment to generate cash flows to recover its initial cost.
E) A project analysis tool that measures the acceptability of a project by determining
the length of time required for an investment's discounted cash flows to equal its
initial cost.

29) Without using formulas, provide a definition of "discounted payback period." 29) ______
A) A project analysis tool that measures the acceptability of a project through the
difference between a project's initial investment and whether the present value of
its cash flow will repay the investment.
B) A project analysis tool that measures the acceptability of a project by determining
the length of time required for an investment's discounted cash flows to equal its
initial cost.
C) A project analysis tool that determines the amount of time required for an
investment to generate cash flows to recover its initial cost.
D) A project analysis tool that measures the acceptability of a project by determining
the amount of profit that can be expected based on an investment made.
E) A ranking method used to assess projects. PI greater than 1 signify positive NPV
projects, while PI less than 1 signify negative NPV projects.

30) No matter how many forms of investment analysis you do: 30) ______
A) The internal rate of return will always produce the most reliable results.
B) The initial costs will generally vary considerably from the estimated costs.
C) The actual results from a project may vary significantly from the expected results.
D) A project will never be accepted unless the payback period is met.
E) Only the first three years of a project ever affect its final outcome.
 1) TRUE
2) TRUE
3) FALSE
4) FALSE
5) TRUE
6) TRUE
7) TRUE
8) TRUE
9) FALSE
10) FALSE
11) E

Discount Rate 10%

Year Cash Flow NPV

0 -300 -300
1 110 100
2 121 100
3 133.1 100
0
12) E

N=5, R=11.65%, PMT = 11000, FV=0 Thus, PV = 39,998.77

Initial investment = -40,000
Therefore, 39,998.77 – 40,000 = -1.23

13) A

N=7, R=15%, PMT = 40000, FV=0 Thus, PV = 166,416.79

Initial investment = -160,000
Therefore, PI = 166,416.79 / 160,000 = 1.04
PI > 1 thus, accept the project.

14) D
Discount Rate 10.50%

Year Cash Flow NPV

1 53,200 48144.8
2 77,600 63553.16
3 51,000 37799.26
4 26,000 17439.11
166936.3

0 -192700 -192700

PI = 180137.1 / 192700
0.87

15) E

14900 / 16200= 0.92

16) D

Required rate of return 10%

Year Cash flow PV Cumulative PV
0 -35 -35 -35
1 5 4.5455 -30.4545
2 5 4.1322 -26.3223
3 5 3.7566 -22.5657
4 5 3.4151 -19.1506
5 5 3.1046 -16.046
6 4 2.2579 -13.7881
7 4 2.0526 -11.7355
8 4 1.866 -9.8695
9 4 1.6964 -8.1731
10 4 1.5422 -6.6309
11 4 1.402 -5.2289
12 4 1.2745 -3.9544
13 4 1.1587 -2.7957
14 4 1.0533 -1.7424
15 4 0.9576 -0.7848
16 4 0.8705 0.0857 0.901551 0.7848/0.8705 = 0.901551 years
17 4 0.7914 0.8771 15 years + 0.90 years = 15.90 years
18 4 0.7194

17) A

CF0 = -69,000
C01 = 35,500 F01 = 1
C02 = 28,000 F02 = 1
C03 = 21,500 F03 = 1
IRR = 12.3%

18) B

CF0 = -249,000
C01 = 78,500 F01 = 1
C02 = 149,000 F02 = 1
C03 = 80,000 F03 = 1
IRR = 11.26%

19) B

CF0 = -1,400
C01 = 600 F01 = 1
C02 = 200 F02 = 1
C03 = 350 F03 = 1
C04 = 400 F04 = 1
C05 = 500 F05 = 1
IRR = 14.39%

22) C

Average net income = (14600 + 18700 + 23500) / 3 = 18933.33

Aver = 310800 / 2 = 155400
age AAR = 18933.33 / 155400 = 12.18%
asset
23) E

N=7, pmt = 40000, PV = -160000, FV=0, Thus R = 16.3%

16.3% is lower than the require return thus, the project is not accepted.

24) D

Discount Rate 12.00%

Year Cash Flow NPV Cumulative

0 - 1,000,000 - 1,000,000 - 1,000,000.00
1 600,000 535714.2857 - 464,285.71
2 500,000 398596.9388 - 65,688.78 2 years plus
3 400,000 284712.0991 219,023.32 - 0.23 years
4 400,000 254207.2314 473,230.55 65688.78 / (65688.78+219023.32)

25) A

Discount Rate 9.00%

Year Cash Flow NPV Cumulative

0 - 2,800 - 2,800 - 2,800.00
1 900 825.6880734 - 1,974.31
2 900 757.5119939 - 1,216.80
3 900 694.9651321 - 521.83 3 years plus
4 900 637.58269 115.75 0.82 years
521.83 / (521.83 +115.75)
26) E
27) B
28) A
29) B
30) C