Question
1. If you are evaluating a normal, independent project, then you should accept the project as long as ____________. The IRR is positive The Payback
1. If you are evaluating a normal, independent project, then you should accept the project as long as ____________.
- The IRR is positive
- The Payback Period exists
- The Modified IRR is greater than the IRR
- TheDiscountedPaybackPeriodexistsUsethefollowinginformationforquestions2and3:ProjectShascashflowsof(600),400,300.ProjectLhascashflowsof(900),300,400,500.Bothprojectshavearequiredreturnof8%.Theprojectsaremutuallyexclusiveandrepeatable.
- 2.WhatistheEquivalentAnnualAnnuityofProjectS?a)9.73b)15.46c)21.17d)27.57
- 3.Whatisthe6-yrNPVofProjectLusingtheReplacementChainapproach?a)73b)118c)174d)211
- 4.WhichofthefollowingstatementsisCORRECT?Assumethattheprojectbeingconsideredhasnormalcashflows,withoneoutflowfollowedbyaseriesofinflows.
- a.Thelongeraproject?spaybackperiod,themoredesirabletheprojectisnormallyconsideredtobebythiscriterion.
- b.Onedrawbackofthepaybackcriterionforevaluatingprojectsisthatthismethoddoesnotproperlyaccountforthetimevalueofmoney
- c.Theregularpaybackignorescashflowsbeyondthepaybackperiod,butthediscountedpaybackmethodovercomesthisproblem.
- d.Ifacompanyusesthesamerequirementtoevaluateallprojects,sayitrequiresapaybackof4yearsorless,thenthecompanywilltendtorejectprojectswithrelativelyshortlivesandacceptlong-livedprojects,andthiswillcauseitsrisktoincreaseovertime.
- 5.Forindependentprojectswithnormalcashflows,theNPV,DiscountedPaybackandIRRmethodswillalwaysleadtothesameacceptorrejectdecision.
- True b) False
6. Net Present Value is considered a better method than Internal Rate of Return because __________.
- NPV is directly related to maximizing shareholder wealth
- Nonnormal projects may have multiple NPVs
- NPV method assumes that cash flows are reinvested at the projects expected return
- AllofthesearereasonswhyNPVisconsideredbetter
- 7.WhichofthefollowingistruefornormalprojectsiftheWACCispositive?
- If a project's IRR is positive, then its NPV will always be positive
- If a project's NPV is negative, then its Profitability Index will always be negative
- Ifaproject'sNPVispositive,thenitsIRRwillalwaysbepositived)Noneoftheabovearetrue
- 8.WhichofthefollowingstatementsisCORRECT?Assumethattheprojectbeingconsideredhasnormalcashflows,withoneoutflowfollowedbyaseriesofinflows.
- a.Aproject?sregularIRRisfoundbycompoundingthecashinflowsattheWACCtofindtheterminalvalue(TV),thendiscountingthisTVattheWACC.
- b.Aproject?smodifiedIRRisfoundbydiscountingthecashinflowsattheWACCtofindthepresentvalue(PV),thencompoundingthisPVtofindtheIRR.
- c.Ifaproject?sIRRisgreaterthantheWACC,thenitsNPVmustbenegative.
- d.Tofindaproject?sIRR,wemustsolveforthediscountratethatcausesthePVoftheinflowstoequalthePVoftheproject?scosts.
- 9.WhichofthefollowingstatementsisCORRECT?
- a.TheIRRmethodassumesthatcashflowswillbereinvestedattheWACC,whiletheNPVmethodassumesreinvestmentattheprojectsexpectedreturn.
- b.TheProfitabilityIndexmethodassumesthatcashflowswillbereinvestedattherisk-freerate,whiletheModifiedIRRmethodassumesreinvestmentattheIRR.
- c.TheDiscountedPaybackPeriodmethodassumesthatcashflowswillbereinvestedattheWACC,whiletheIRRmethodassumesreinvestmentattherisk-freerate.
- d.ThePaybackPeriodmethoddoesnotconsiderallrelevantcashflows,particularly,cashflowsbeyondthepaybackperiod.
- 10.WhichofthefollowingstatementsisCORRECT?Assumethattheprojectbeingconsideredhasnormalcashflows,withoneoutflowfollowedbyaseriesofinflows.
- a.IfProjectAhasahigherIRRthanProjectB,thenProjectAmusthavethehigherNPV.
- b.ThecrossoverrateistherequiredreturnwheretwoprojectshavethesameNPV.
- c.TheIRRcalculationimplicitlyassumesthatallcashflowsarereinvestedattheWACC.
- d.IfaprojecthasnormalcashflowsanditsIRRexceedsitsWACC,thentheproject?sNPVmustbenegative.
USE THE FOLLOWING PROJECT CASH FLOWS FOR QUESTIONS 11-16:
Project A Project B Project C Project D Project E
Today (20,000) (30,000) (8,000) (3,000) (6,000)
Year 1 10,000 2,000 1,000 2,000 750
Year 2 5,000 4,000 2,000 2,000 1,500
Year 3 2,500 6,000 3,000 2,000 2,250
Year 4 2,000 8,000 4,000 2,000 3,000
Year 5 1,000 10,000 5,000 2,000 3,750
Year 6 500 12,000 (6,000)
11. What is the Modified IRR of Project D if the cost of capital is 9%?
- 8.18%b)12.7%c)24.2%d)48.3%
- 12.WhatistheNetPresentValueofprojectEifthecostofcapitalis12%?
- $0b)$500c)$1,000d)$1,500
- 13.WhatistheIRRofprojectAifthecostofcapitalis6%?
- 0%
- 2.4%
- 8.25%
- 19.53%
- 14.WhatisProjectA?sProfitabilityIndexifthecostofcapitalis6%?
- .933b)1.02c)1.067d)1.091
- 15.WhatisProjectB?sPaybackPeriod?
- 3.5yearsb)4yearsc)4.5yearsd)5years
- 16.WhatistheCrossoverRatebetweenProjectBandC?
- 4.5%
- 8.25%
- 12.5%
- 18.8%
17. Which of the following statements is CORRECT?
a. For a project to have more than one IRR, then both IRRs must be greater than the WACC.
b. If two projects are mutually exclusive, then they are likely to have multiple IRRs.
c. Multiple IRRs can only occur if the signs of the cash flows change more than once.
d. If a project is independent, then it cannot have multiple IRRs.
18. Projects C and D are mutually exclusive and have normal cash flows. If the WACC is 12%, then they both have an NPV of -$1,000, but 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?
a. Project D has a higher IRR.
b. Project D is probably larger in scale than Project C.
c. Project C has a higher IRR.
d. The crossover rate between the two projects is below 12%.
19. Projects S and L are equally risky, mutually exclusive projects with normal cash flows. Project S has an IRR of 15%, while Project L?s IRR is 12%. The two projects have the same NPV when the WACC is 7%. Which of the following statements is CORRECT?
a. If the WACC is 10%, both projects will have positive NPVs.
b. If the WACC is 6%, Project S will have the higher NPV.
c. If the WACC is 13%, Project S will have the lower NPV.
d. If the WACC is 10%, both projects will have a negative NPV.
20. The ___________________ is used as the ______________ for projects of average risk.
- IRR; Required Return
- Risk Adjusted Discount Rate; Expected Return
- Modified IRR; Expected Return
- WACC; Required Return
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