Short Answer Questions
1. Explain the economic interpretation of the discount factor (1/interest rate factor) calculated from the market price of a risk free investment.
2. Explain the Valuation Principle using your own words.
3. Since most things do not trade in competitive markets why is the Law of One Price useful when calculating the value added from a business decision?
4. If the risk free yield curve is inverted (long term risk free interest rates are lower than short term risk free interest rates), what is this likely to imply about investor’s expectations of future interest rates?
5. Explain why accepting positive NPV projects benefits shareholders.
6. What are the limitations of the payback rule as a decision rule?
7. Explain why a project might have more than one IRR?
8. Describe two common advantages of NPV over the IRR rule when comparing mutually exclusive projects.