Chapter10 Test bank in Manegerial Finance

 Principles of Managerial Finance, 13e, Global Edition  (Gitman) Chapter 10 Capital Budgeting Te Techniques chniques

10.1 Understand the key elements of the capital budgeting process. 1) In capital budgeting, the preferred p referred approaches in assessing whether a project is acceptable are those that integrate time value procedures, risk and return considerations, and valuation concepts. nswer! "#U$ "opic! "o pic! %apital &udgeting "echni'ues "echni'ues (uestion tatus! #evised %& *uidelines! *uidelines! #eflective thinking thinking skills skills +) In capital budgeting, the preferred p referred approaches in assessing whether a project is acceptable integrate time value procedures, risk and return considerations, valuation concepts, and the re'uired payback period. nswer! -$ "opic! "o pic! %apital &udgeting "echni'ues "echni'ues (uestion tatus! #evised %& *uidelines! *uidelines! #eflective thinking thinking skills skills ) %apital budgeting techni'ues are used to evaluate the firm/s fied asset investments which  provide the basis for the firm/s earning power and value. nswer! "#U$ "opic! "o pic! %oncept of %apital &udgeting (uestion tatus! #evised %& *uidelines! *uidelines! #eflective thinking thinking skills skills ) "he purchase of additional physical facilities, such as additional property o r a new factory, is an eample of a capital ependiture. nswer! "#U$ "opic! "o pic! %apital &udgeting "erminology "erminology (uestion tatus! #evised %& *uidelines! *uidelines! #eflective thinking thinking skills skills 2) %apital budgeting is the process of evaluating and selecting short3term investments consistent with the firm/s goal of owner wealth maimi4ation. nswer! -$ "opic! "o pic! %oncept of %apital &udgeting (uestion tatus! #evised %& *uidelines! *uidelines! #eflective thinking thinking skills skills 5)  650,000 outlay for a new n ew machine with a usable life of 12 years is an operating ependiture that would appear as a current asset on the firm/s balance sheet. nswer! -$ "opic! "o pic! %apital &udgeting "erminology "erminology (uestion tatus! #evised %& *uidelines! *uidelines! #eflective thinking thinking skills skills 1 %opyright 7 +01+ 8earson $ducation

9)  capital ependiture is an outlay of funds invested only in fied assets that is epected to  produce benefits over a period of time less than one year. nswer! -$ "opic! "o pic! %apital &udgeting "erminology "erminology (uestion tatus! #evised %& *uidelines! *uidelines! #eflective thinking thinking skills skills :) n outlay for advertising and management consulting is considered to be a fied asset ependiture. nswer! -$ "opic! "o pic! %apital &udgeting "erminology "erminology (uestion tatus! #evised %& *uidelines! *uidelines! #eflective thinking thinking skills skills ;) %apital ependiture proposals are reviewed to assess their appropriateness in light of the firm/s overall objectives and plans, and to evaluate their economic validity. nswer! "#U$ "opic! "o pic! %oncept of %apital &udgeting (uestion tatus! #evised %& *uidelines! *uidelines! #eflective thinking thinking skills skills 10) "he basic motives for capital ependitures are to epand, replace, or renew fied assets or to obtain some other, less tangible benefit over a long period. nswer! "#U$ "opic! "o pic! ) purchasing purchasing a new computer computer system system nswer! -$ "opic! "o pic! 1,;,5) &) 61,;,5 %) 612:,011 A) "wo of the above nswer!  "opic! =et 8resent Galue (uestion tatus! #evised %& *uidelines! nalytic skills Table 10.1

+) *iven the information in "able 10.1 and 12 percent cost of capital, >a) compute the net present value. >b) should the project be acceptedD nswer! >a) =8G H >1,000.12)J131>1.12)2K 3 +,200 H 1,000 >.2+) 3 +,200 H 6:2+ >b) ince =8G L 0, the project should be accepted. "opic! =et 8resent Galue (uestion tatus! #evised %& *uidelines! nalytic skills

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Table 10.2

+) *iven the information in "able 10.+ and 12 percent cost of capital, >a) compute the net present value. >b) should the project be acceptedD nswer! >a)

 =8G H ;:,:+0 3 100,000 H 361,1:0 M 0 >b) ince =8G M 0, the project should be rejected. "opic! =et 8resent Galue (uestion tatus! #evised %& *uidelines! nalytic skills 10. %alculate, interpret, and evaluate the internal rate of return >I##). 1) "he internal rate of return >I##) is defined as the discount rate that e'uates the net present value with the initial investment associated with a project. nswer! -$ "opic! Internal #ate of #eturn (uestion tatus! #evised %& *uidelines! #eflective thinking skills +) "he I## is the discount rate that e'uates the =8G of an investment opportunity with 60. nswer! "#U$ "opic! Internal #ate of #eturn (uestion tatus! #evised %& *uidelines! #eflective thinking skills

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) "he I## is the compound annual rate of return that the firm will earn if it invests in a project and receives the estimated cash inflows. nswer! "#U$ "opic! Internal #ate of #eturn (uestion tatus! #evised %& *uidelines! #eflective thinking skills ) n internal rate of return greater than the cost of capital guarantees that the firm earns at least its re'uired return. Investing in such an project would enhance the market value of the firm and therefore the wealth of its owners. nswer! "#U$ "opic! Internal #ate of #eturn (uestion tatus! #evised %& *uidelines! #eflective thinking skills 2)  sophisticated capital budgeting techni'ue that can be computed by solving for the discount rate that e'uates the present value of a projects inflows with the present value of its outflows is called net present value. nswer! -$ "opic! Internal #ate of #eturn (uestion tatus! #evised %& *uidelines! #eflective thinking skills 5)  sophisticated capital budgeting techni'ue that can be computed by solving for the discount rate that e'uates the present value of a projects inflows with the present value of its outflows is called internal rate of return. nswer! "#U$ "opic! Internal #ate of #eturn (uestion tatus! #evised %& *uidelines! #eflective thinking skills 9) If its I## is greater than 60.00, a project should be accepted. nswer! -$ "opic! Internal #ate of #eturn (uestion tatus! #evised %& *uidelines! #eflective thinking skills :) If its I## is greater than 0 percent, a project should be accepted. nswer! -$ "opic! Internal #ate of #eturn (uestion tatus! #evised %& *uidelines! #eflective thinking skills ;) If its I## is greater than the cost of capital, a project should be accepted. nswer! "#U$ "opic! Internal #ate of #eturn (uestion tatus! #evised %& *uidelines! #eflective thinking skills +2 %opyright 7 +01+ 8earson $ducation

10) Chat is the I## for the following project if its initial after ta cost is 62,000,000 and it is epected to provide after3ta operating cash inflows of 61,:00,000 in year 1, 61,;00,000 in year +, 61,900,000 in year  and 61,00,000 in year D ) 12.29N &) 0.00N %) 1.29N A) =one of the above nswer! % "opic! Internal #ate of #eturn (uestion tatus! #evised %& *uidelines! nalytic skills 11) Chat is the I## for the following project if its initial after ta cost is 62,000,000 and it is epected to provide after3ta operating cash flows of >61,:00,000) in year 1, 6+,;00,000 in year +, 6+,900,000 in year  and 6+,00,000 in year D ) 2.:N &) ;.59N %) 11.N A) =one of the above nswer!  "opic! Internal #ate of #eturn (uestion tatus! #evised %& *uidelines! nalytic skills 10.2 Use net present value profiles to compare =8G and I## techni'ues. 1) or conventional projects, both =8G and I## techni'ues will always generate the same accept3reject decision, but differences in their underlying assumptions can cause them to rank mutually eclusive projects differently. nswer! "#U$ "opic! =8G versus I##  (uestion tatus! #evised %& *uidelines! #eflective thinking skills +) "he I## method assumes the cash flows are reinvested at the internal rate of return rather than the re'uired rate of return nswer! "#U$ "opic! Internal #ate of #eturn (uestion tatus! =ew %& *uidelines! #eflective thinking skills )  project/s net present value profile is a graph that plots a project/s =8G for various discount rates. nswer! "#U$ "opic! =et 8resent Galue 8rofile (uestion tatus! #evised %& *uidelines! #eflective thinking skills +5 %opyright 7 +01+ 8earson $ducation

)  project/s net present value profile is a graph that plots a project/s I## for various discount rates. nswer! -$ "opic! =et 8resent Galue 8rofile (uestion tatus! #evised %& *uidelines! #eflective thinking skills 2) =et present value profiles are most useful when selecting among independent projects. nswer! -$ "opic! =et 8resent Galue 8rofile (uestion tatus! #evised %& *uidelines! #eflective thinking skills 5) =et present value profiles are most useful when selecting among mutually eclusive projects. nswer! "#U$ "opic! =et 8resent Galue 8rofile (uestion tatus! #evised %& *uidelines! #eflective thinking skills 9) "here is sometimes a ranking problem among =8G and I## when selecting among mutually eclusive investments. "his ranking problem only occurs when ) the =8G is greater than the crossover point. &) the =8G is less than the crossover point. %) the cost of capital is to the right of the crossover point. A) the cost of capital is to the left of the crossover point. nswer! A "opic! =8G versus I##  (uestion tatus! #evised %& *uidelines! #eflective thinking skills :) %onsider the following projects, B and F, where the firm can only choose one. 8roject B costs 6500 and has cash flows of 600 in each of the net + years. 8roject F also costs 6500, and generates cash flows of 6200 and 6+92 for the net + years, respectively. Chich investment should the firm choose if the cost of capital is 10 percentD ) 8roject B. &) 8roject F. %) =either. A) =ot enough information to tell. nswer!  "opic! =8G versus I##  (uestion tatus! #evised %& *uidelines! nalytic skills

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;) %onsider the following projects, B and F where the firm can only choose on e. 8roject B costs 6500 and has cash flows of 600 in each of the net + years. 8roject & also costs 6500, and generates cash flows of 6200 and 6+92 for the net + years, respectively. Chich investment should the firm choose if the cost of capital is +2 percentD ) 8roject B. &) 8roject F. %) =either. A) =ot enough information to tell. nswer! % "opic! =8G versus I##  (uestion tatus! #evised %& *uidelines! nalytic skills 10) "angshan