Capital Budgeting: Decision Criteria And Real Option Considerations

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Questions Bank

The Role and Objective of Financial Management
The Domestic and International Financial Marketplace
Evaluation of Financial Performance
Financial Planning and Forecasting
The Time Value of Money
Fixed Income Securities: Characteristics and Valuation
Common Stock: Characteristics, Valuation, and Issuance
Analysis of Risk and Return
Capital Budgeting and Cash Flow Analysis
Capital Budgeting: Decision Criteria and Real Option Considerations
Capital Budgeting and Risk
The Cost of Capital
Capital Structure Concepts
Capital Structure Management in Practice
Dividend Policy
Working Capital Policy and Short-term Financing
The Management of Cash and Marketable Securities
Management of Accounts Receivable and Inventories
Lease and Intermediate-term Financing
Financing With Derivatives
Risk Management
International Financial Management
Corporate Restructuring
Appendix: Continuous Compounding and Discounting
Appendix: Mutually Exclusive Investments Having Unequal Lives
Appendix: Breakeven Analysis
Appendix: Bond Refunding Analysis
Appendix: Taxes

All Questions

Question 1

Free

Multiple Choice

Multiple internal rates of return can occur when there is (are):

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large abandonment costs at the end of a project's life

a major shutdown and rebuilding of a facility sometime during its life

more than one sign change in the pattern of cash flows over a project's life.

all of the above are correct

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Question 2

Free

Multiple Choice

The ____ measures the present value return for each dollar of initial investment.

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payback period

internal rate of return

net present value

profitability index

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Question 3

Free

Multiple Choice

The payback method is at best a crude measure of the risk of a project because it fails to consider the ____ of a project's returns.

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liquidity

variability

timing

magnitude

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Question 4

Free

Multiple Choice

According to the profitability index criterion, a project is acceptable if its profitability index is

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greater than 1 plus the cost of capital

greater than 0

greater than or equal to 1

greater than 1.1

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Question 5

Free

Multiple Choice

The payback period of an investment is defined as:

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the number of years required for cumulative profits from a project to equal the initial outlay.

the number of years required for the cumulative cash flows from a project to equal the initial outlay.

the number of years required for the cumulative cash flows from a project to equal the average investment in the project, when depreciation is considered.

a period of time sufficient to earn a rate of return equal to the firm's cost of capital.

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Question 6

Multiple Choice

The advantages of the payback approach include all of the following except:

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it is easy to compute

it considers a project's liquidity

it considers cash flows, not net income

it provides an objective measure of profitability

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Question 7

Multiple Choice

The disadvantages of the payback approach include:

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cash flows after the payback period are ignored in the calculation

payback ignores the time value of money

payback fails to provide an objective decision-making criterion

all of the above

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Question 8

Multiple Choice

One weakness of the internal rate of return approach is that:

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it does not directly consider the timing of the cash flows from a project

it fails to provide a straightforward decision-making criterion

it implicitly assumes that the firm is able to reinvest the interim cash flows from a project at the firm's cost of capital.

none of the above

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Question 9

Multiple Choice

The relationship between NPV and IRR is such that:

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both approaches always provide the same ranking of alternative investment projects.

the IRR of a project is equal to the firm's cost of capital if the NPV of a project is $0.

if the NPV of a project is negative, the IRR must be greater than the cost of capital.

none of the above

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Question 10

Multiple Choice

When a project has multiple internal rates of return:

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the analyst should choose the highest rate to compare with the firm's cost of capital.

the analyst should choose the lowest rate to compare with the firm's cost of capital

the analyst should choose the rate that seems most "reasonable", given the project's cash flows, to compare with the firm's cost of capital.

the analyst should compute the project's net present value and accept the project if its NPV is greater than $0

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Question 11

Multiple Choice

The profitability index (PI) approach:

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fails to directly consider the timing of a project's cash flows

considers only a project's contributions to net income and does not consider cash flow effects

always gives the same accept-reject decisions for independent projects as does NPV and IRR

always gives the same accept-reject decisions for mutually exclusive projects as does NPV and IRR

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Question 12

Multiple Choice

In the case of mutually exclusive projects, NPV and PI are likely to yield conflicting decisions when:

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the projects require the same net investment

the projects are significantly different in size

multiple rates of return are a possibility

none of the above

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Question 13

Multiple Choice

The objective in solving capital rationing problems is to:

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accept all projects with a PI greater than 1.1

maximize the IRR of the projects that are accepted

maximize the NPV of the projects that are accepted

minimize the opportunity cost of the firm's funds

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Question 14

Multiple Choice

Which of the following is not a technique to handle the capital rationing problem?

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linear programming

goal programming

ranking projects according to payback

ranking projects according to profitability index

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Question 15

Multiple Choice

In order to compensate for inflation in capital budgeting procedures, it is necessary to:

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use constant dollar estimates of costs and revenues

use a low discount rate to avoid double counting for inflationary effects

rely heavily on the payback procedures

none of the above

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Question 16

Multiple Choice

If a net present value analysis for a normal project gives an NPV greater than zero, an internal rate of return calculation on the same project would yield an internal rate of return ____ the required rate of return for the firm.

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greater than

less than

equal to

cannot be determined from the information given

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Question 17

Multiple Choice

When two or more normal ____ projects are under consideration, the profitability index, the net present value, and the internal rate of return methods will yield identical accept/reject signals.

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coincident

mutually exclusive

independent

none of the above

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Question 18

Multiple Choice

The net present value method assumes that the cash flows over the life of the project are reinvested at

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the computed internal rate of return

the risk-free rate

the market capitalization rate

the firm's cost of capital

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Question 19

Multiple Choice

The internal rate of return method assumes that the cash flows over the life of the project are reinvested at:

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the risk-free rate

the firm's cost of capital

the computed internal rate of return

the market capitalization rate

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Question 20

Multiple Choice

In the absence of capital rationing, the method is normally superior to the method when choosing among mutually exclusive investments.

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net present value, internal rate of return

internal rate of return, profitability index

net present value, profitability index

a and c

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Capital Budgeting: Decision Criteria And Real Option Considerations

Multiple internal rates of return can occur when there is (are):

The ____ measures the present value return for each dollar of initial investment.

The payback method is at best a crude measure of the risk of a project because it fails to consider the ____ of a project's returns.

According to the profitability index criterion, a project is acceptable if its profitability index is

The payback period of an investment is defined as:

The advantages of the payback approach include all of the following except:

The disadvantages of the payback approach include:

One weakness of the internal rate of return approach is that:

The relationship between NPV and IRR is such that:

When a project has multiple internal rates of return:

The profitability index (PI) approach:

In the case of mutually exclusive projects, NPV and PI are likely to yield conflicting decisions when:

The objective in solving capital rationing problems is to:

Which of the following is not a technique to handle the capital rationing problem?

In order to compensate for inflation in capital budgeting procedures, it is necessary to:

If a net present value analysis for a normal project gives an NPV greater than zero, an internal rate of return calculation on the same project would yield an internal rate of return ____ the required rate of return for the firm.

When two or more normal ____ projects are under consideration, the profitability index, the net present value, and the internal rate of return methods will yield identical accept/reject signals.

The net present value method assumes that the cash flows over the life of the project are reinvested at

The internal rate of return method assumes that the cash flows over the life of the project are reinvested at:

In the absence of capital rationing, the ____ method is normally superior to the ____ method when choosing among mutually exclusive investments.

In the absence of capital rationing, the method is normally superior to the method when choosing among mutually exclusive investments.