Question 1

List the methods that a firm can use to evaluate a potential investment.

Question 2

Why is the NPV a preferred method when evaluating a potential investment opportunity?

Question 3

What is the IRR? How is it related to the NPV? Is the IRR always an effective method when evaluating a potential investment opportunity, and why?

Question 4

Using the article from the Sydney Morning Herald, discuss why John Whiteman, the senior portfolio manager at AMP Henderson, can be considered 'skilled' in respect of his stock pickings. Why would it benefit fund managers to use discounted cash flows when picking stocks?

Question 5

A firm that pays out 65% of its earnings as dividends has an accounting rate of return of 20%. Its P/E ratio is 10 and its earnings per share is 108 cents.

(i)What is the price per share?

(ii)What is the dividend yield?

(iii)If shares were bought, what would be the payback period? Assume the only return is the dividend.

(iv)What is the net book value per share of the asset investment of the company?

(v)If the risk-adjusted required rate of return is 6%, what would be the NPV per share for buying shares?

(vi)Would you buy shares using AROR or NPV?