USE THE FOLLOWING PROJECT CASH FLOWS FOR QUESTIONS 12-16:
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 1,000 750
Year 2 5,000 4,000 2,000 2,000 1,500
Year 3 2,500 6,000 3,000 3,000 2,250
Year 4 2,000 8,000 4,000 2,000 3,000
Year 5 1,000 10,000 5,000 1,000 3,750
Year 6 500 12,000 (6,500)
12. What is the Net Present Value of project E if the cost of capital is 12%?
a) $0
b) $500
c) $1,000
d) $1,500
13. What is the IRR of project A if the cost of capital is 6%?
a) 0%
b) 2.4%
c) 8.25%
d) 19.53%
14. Project D has an IRR of 6.2%. If the cost of capital is 10%, should it be accepted?
a) Yes b) No
15. What is Project B's Payback Period?
a) 3.5 years b) 4 years c) 4.5 years d) 5 years
16. What is the Crossover Rate between Project B and C?
a) 4.5%
b) 8.25%
c) 12.5%
d) 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. If a project is independent, then it cannot have multiple IRRs.
d. Multiple IRRs can only occur if the signs of the cash flows change more than once.
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.
a) IRR; Required Return
b) Risk Adjusted Discount Rate; Expected Return
c) Modified IRR; Expected Return
d) WACC; Required Return
1. If you are evaluating a normal, independent project, then you should accept the project as long as ____________.
a) The IRR is positive
b) The Payback Period exists
c) The Modified IRR is greater than the IRR
d) The Discounted Payback Period exists
2. Which of the following statements is CORRECT?
a. Projects with "normal" cash flows can have only one IRR.
b. Projects with "normal" cash flows can have two or more real IRRs.
c. Projects with "normal" cash flows must have two changes in the sign of the cash flows, e.g., from negative to positive to negative. If there are more sign changes, then the cash flow stream is "nonnormal."
d. The "multiple IRR problem" can arise if a project's cash flows are "normal."
3. Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows, with one outflow followed by a series of inflows.
a. A project's NPV is found by discounting the cash inflows at the IRR.
b. The lower the WACC used to calculate it, the lower the calculated NPV will be.
c. If a project's NPV is less than zero, then its IRR must be less than the WACC.
d. The NPV of a relatively low risk project should be found using a relatively high WACC.
4. Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows, with one outflow followed by a series of inflows.
a. The longer a project's payback period, the more desirable the project is normally considered to be by this criterion.
b. One drawback of the payback criterion for evaluating projects is that this method does not properly account for the time value of money.
c. The regular payback ignores cash flows beyond the payback period, but the discounted payback method overcomes this problem.
d. If a company uses the same requirement to evaluate all projects, say it requires a payback of 4 years or less, then the company will tend to reject projects with relatively short lives and accept long-lived projects, and this will cause its risk to increase over time.
5. For independent projects with normal cash flows, the NPV, Discounted Payback and IRR methods will always lead to the same accept or reject decision.
a) True b) False
6. Net Present Value is considered a better method than Internal Rate of Return because __________.
a) NPV is directly related to maximizing shareholder wealth
b) Nonnormal projects may have multiple NPVs
c) NPV method assumes that cash flows are reinvested at the projects expected return
d) All of these are reasons why NPV is considered better
7. Which of the following is true for normal projects if the WACC is positive?
a) If a project's IRR is positive, then its NPV will always be positive
b) If a project's NPV is negative, then its Profitability Index will always be negative
c) If a project's NPV is positive, then its IRR will always be positive
d) None of the above are true
8. Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows, with one outflow followed by a series of inflows.
a. A project's regular IRR is found by compounding the cash inflows at the WACC to find the terminal value (TV), then discounting this TV at the WACC.
b. A project's regular IRR is found by discounting the cash inflows at the WACC to find the present value (PV), then compounding this PV to find the IRR.
c. If a project's IRR is greater than the WACC, then its NPV must be negative.
d. To find a project's IRR, we must solve for the discount rate that causes the PV of the inflows to equal the PV of the project's costs.
9. Which of the following statements is CORRECT?
a. The IRR method assumes that cash flows will be reinvested at the WACC, while the NPV method assumes reinvestment at the projects expected return.
b. The Profitability Index method assumes that cash flows will be reinvested at the risk-free rate, while the Modified IRR method assumes reinvestment at the IRR.
c. The Discounted Payback Period method assumes that cash flows will be reinvested at the WACC, while the IRR method assumes reinvestment at the risk-free rate.
d. The Payback Period method does not consider all relevant cash flows, particularly, cash flows beyond the payback period.
10. Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows, with one outflow followed by a series of inflows.
a. If Project A has a higher IRR than Project B, then Project A must have the higher NPV.
b. The crossover rate is the required return where two projects have the same NPV.
c. The IRR calculation implicitly assumes that all cash flows are reinvested at the WACC.
d. If a project has normal cash flows and its IRR exceeds its WACC, then the project's NPV must be negative.