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Suppose you are evaluating a project with the cash inflows shown in the following table. Your boss has asked you to calculate the project's NPV. You don't know the project's initial cost, but you do know the project's regular payback period is 2.5 years.
Years Cash Flow
Year 1 $300K
Year 2 $425K
Year 3 $500K
Year 4 $400K
1. If the project's WACC is 9%, the project's NPV is which of the following?
A. $376,516
B. $327,405
C. $392,886
D. $261,924
2. Which of the following statements indicate a disadvantage of using the regular payback period (not the discounted payback period) for capital budgeting decisions? Choose all that apply.
A. The payback period does not take the project's entire life into account.
B. The payback period does not take the time value of money into account.
C. The payback period is calculated using net income instead of cash flows.
Conclusions about Capital Budgeting
3. Companies often use several methods to evaluate the project's cash flows & each of them has its benefits & disadvantages. Based on your understanding of the capital budgeting evaluation methods, which of the following conclusions about capital budgeting are valid? Choose all that apply.
A. The discounted payback period improves on the regular payback period by accounting for the time value of money.
B. Managers have been slow to adopt the IRR because percentage returns are a harder concept for them to grasp.
For most firms, the reinvestment rate assumption in the NPV is more realistic than the assumption in the IRR.
4. ______ is the single best method to use when making capital budgeting decisions.
A. NPV
B. IRR