Financial Management, 12e (Titman/Keown/Martin)
Chapter 11 Investment Decision Criteria
11.1 An Overview of Capital Budgeting
1) Which of the following are typical consequences of good capital budgeting decisions?
A) The irm increases in value.
B) The irm gains knowledge and experience that may be useful in future decisions.
C) Good capital budgeting decisions help a company deine its core competencies.
D) All of the above.
Question Status: Previous edition
Objective: 11.1 Understand how to identify the sources and types of proitable investment
opportunities.
Keywords: capital budgeting
Principles: Principle 3: Cash Flows Are the Source of Value
2) Errors in capital budgeting decisions
A) tend to average out over time.
B) decrease the irm’s value.
C) are diminished because the time value of money makes future cash lows less important.
D) are easily reversed.
Question Status: Previous edition
Objective: 11.1 Understand how to identify the sources and types of proitable investment
opportunities.
Keywords: capital budgeting
Principles: Principle 3: Cash Flows Are the Source of Value
3) Which of the following factors is least important to capital budgeting decisions?
A) The time value of money
B) The risk-return tradeof
C) Net income based on accrual accounting principles
D) Cash lows directly resulting from the decision
Question Status: Previous edition
Objective: 11.1 Understand how to identify the sources and types of proitable investment
opportunities.
Keywords: capital budgeting
Principles: Principle 3: Cash Flows Are the Source of Value
1
4) Which of the following would be considered a capital budgeting decision?
A) Walmart purchases inventory for resale to customers.
B) Apple sells bonds and uses the proceeds to repurchase stock.
C) Goldman Sachs obtains short-term loans to inance day to day operations.
D) Pizer develops a new therapy and brings it to market.
Question Status: New question
Objective: 11.1 Understand how to identify the sources and types of proitable investment
opportunities.
Keywords: capital budgeting
Principles: Principle 3: Cash Flows Are the Source of Value
5) Which of the following is a typical capital budgeting decision?
A) Purchase of oice supplies
B) Granting credit to a new customer
C) Replacement of manufacturing equipment with more modern and eicient equipment
D) Financing the irm with more long-term debt and less equity
Question Status: Previous edition
Objective: 11.1 Understand how to identify the sources and types of proitable investment
opportunities.
Keywords: capital budgeting
Principles: Principle 3: Cash Flows Are the Source of Value
6) Good capital investment opportunities are most likely to exist when
A) many irms compete to sell similar products.
B) interest rates are high and rising.
C) goods and services can be produced cheaply using readily available tools and
technologies.
D) a line of business is expensive to enter and uses proprietary technology.
Question Status: Previous edition
Objective: 11.1 Understand how to identify the sources and types of proitable investment
opportunities.
Keywords: capital budgeting
Principles: Principle 3: Cash Flows Are the Source of Value
7) Errors resulting from a capital budgeting decision are not considered major since the
consequences of such errors average out over the life of the investment.
Question Status: Previous edition
Objective: 11.1 Understand how to identify the sources and types of proitable investment
opportunities.
Keywords: capital budgeting
Principles: Principle 3: Cash Flows Are the Source of Value
2
8) Competitive market forces make it imperative for a irm to have a systematic strategy for
generating capital-budgeting projects.
Question Status: Previous edition
Objective: 11.1 Understand how to identify the sources and types of proitable investment
opportunities.
Keywords: capital budgeting
Principles: Principle 3: Cash Flows Are the Source of Value
9) The size of capital investments and the diiculty in reversing them once they are made
make capital-budgeting decisions very important to the irm.
Question Status: Previous edition
Objective: 11.1 Understand how to identify the sources and types of proitable investment
opportunities.
Keywords: capital budgeting
Principles: Principle 3: Cash Flows Are the Source of Value
10) Capital budgeting is the decision-making process with respect to investment in working
capital.
Question Status: Previous edition
Objective: 11.1 Understand how to identify the sources and types of proitable investment
opportunities.
Keywords: capital budgeting
Principles: Principle 3: Cash Flows Are the Source of Value
11) Some capital budgeting decisions may be mandated by government regulations.
Question Status: New question
Objective: 11.1 Understand how to identify the sources and types of proitable investment
opportunities.
Keywords: capital budgeting
Principles: Principle 3: Cash Flows Are the Source of Value
12) The primary objective of all capital budgeting decisions is to increase the size of the
irm.
Question Status: New question
Objective: 11.1 Understand how to identify the sources and types of proitable investment
opportunities.
Keywords: capital budgeting
Principles: Principle 3: Cash Flows Are the Source of Value
3
13) Why are capital budgeting decisions among the most important decisions made by any
company? Give a few examples from recent business developments.
Question Status: Previous edition
Objective: 11.1 Understand how to identify the sources and types of proitable investment
opportunities.
Keywords: capital budgeting
Principles: Principle 3: Cash Flows Are the Source of Value
14) Distinguish between revenue enhancement investments, cost-reduction investments,
and mandated investments.
Question Status: Previous edition
Objective: 11.1 Understand how to identify the sources and types of proitable investment
opportunities.
Keywords: capital budgeting
Principles: Principle 3: Cash Flows Are the Source of Value
15) Why is it so diicult for irms to ind good investment ideas?
Question Status: Previous edition
Objective: 11.1 Understand how to identify the sources and types of proitable investment
opportunities.
Keywords: capital budgeting
Principles: Principle 3: Cash Flows Are the Source of Value
4
11.2 Net Present Value
1) Project Sigma requires an investment of $1 million and has a NPV of $10. Project Delta
requires an investment of $500,000 and has a NPV of $150,000. The projects involve
unrelated new product lines.
A) Both projects should be accepted because they have positive NPV’s.
B) Neither project should be accepted because they might compete with one another.
C) Only project Delta should be accepted. Alpha’s NPV is too low for the investment.
D) The company should look at other investment criteria, not just NPV.
Question Status: Previous edition
Objective: 11.2 Evaluate investment opportunities using net present value and describe why net
present value is the best measure to use.
Keywords: net present value
Principles: Principle 1: Money Has a Time Value
2) ABC Service can purchase a new assembler for $15,052 that will provide an annual net
cash low of $6,000 per year for ive years. Calculate the NPV of the assembler if the
required rate of return is 12%. (Round your answer to the nearest $1.)
A) $1,056
B) $4,568
C) $7,621
D) $6,577
Question Status: Previous edition
Objective: 11.2 Evaluate investment opportunities using net present value and describe why net
present value is the best measure to use.
Keywords: net present value
Principles: Principle 1: Money Has a Time Value
3) Central Mass Ambulance Service can purchase a new ambulance for $200,000 that will
provide an annual net cash low of $50,000 per year for ive years. Calculate the NPV of the
ambulance if the required rate of return is 9%. (Round your answer to the nearest $1.)
A) $50,000
B) $(5,061)
C) $(5,517)
D) $5,517
Question Status: Previous edition
Objective: 11.2 Evaluate investment opportunities using net present value and describe why net
present value is the best measure to use.
Keywords: net present value
Principles: Principle 1: Money Has a Time Value
5
4) Central Mass Ambulance Service can purchase a new ambulance for $200,000 that will
provide an annual net cash low of $50,000 per year for ive years. The salvage value of the
ambulance will be $25,000. Assume the ambulance is sold at the end of year 5. Calculate
the NPV of the ambulance if the required rate of return is 9%. (Round your answer to the
nearest $1.)
A) $(10,731)
B) $10,731
C) $(5,517)
D) $5,517
Question Status: Previous edition
Objective: 11.2 Evaluate investment opportunities using net present value and describe why net
present value is the best measure to use.
Keywords: net present value
Principles: Principle 1: Money Has a Time Value
5) Fitchminster Armored Car can purchase a new vehicle for $200,000 that will provide
annual net cash low over the next ive years of $40,000, $45,000, $50,000, $55,000,
$60,000. The salvage value of the vehicle will be $25,000. Assume that the vehicle is sold at
the end of year 5. Calculate the NPV of the ambulance if the required rate of return is 9%.
(Round your answer to the nearest $1.)
A) $7,390
B) $6,048
C) $6,780
D) $19,483
Question Status: Previous edition
Objective: 11.2 Evaluate investment opportunities using net present value and describe why net
present value is the best measure to use.
Keywords: net present value
Principles: Principle 1: Money Has a Time Value
6) Project H requires an initial investment of $100,000 and the produces annual cash lows
of $50,000, $40,000, and $30,000. Project T requires an initial investment of $100,000 and
the produces annual cash lows of $30,000, $40,000, and $50,000. If the required rate of
return is greater than 0% and the projects are mutually exclusive
A) H will always be preferable to T.
B) T will always be preferable to H.
C) H and T are equally attractive.
D) The project rankings will change with diferent discount rates.
Question Status: Previous edition
Objective: 11.2 Evaluate investment opportunities using net present value and describe why net
present value is the best measure to use.
Keywords: net present value
Principles: Principle 1: Money Has a Time Value
7) Project H requires an initial investment of $100,000 and the produces annual cash lows
of $45,000 per year for each of the next 3 years. Project T also requires an initial
investment of $100,000 and produces cash lows of $30,000 in year 1, $40,000 in year 2,
and $70,000 in year 3. If the discount rate is 10% and the projects are mutually exclusive
A) Project H should be chosen.
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B) Project T should be chosen.
C) H and T are equally attractive.
D) Both projects should be chosen.
Question Status: Previous edition
Objective: 11.2 Evaluate investment opportunities using net present value and describe why net
present value is the best measure to use.
Keywords: net present value
Principles: Principle 1: Money Has a Time Value
8) Project H requires an initial investment of $100,000 and the produces annual cash lows
of $45,000 per year for each of the next 3 years. Project T also requires an initial
investment of $100,000 and produces cash lows of $30,000 in year 1, $40,000 in year 2,
and $70,000 in year 3. If the discount rate is 10% and the projects are not mutually
exclusive
A) Project H should be chosen.
B) Project T should be chosen.
C) H and T are equally attractive.
D) Both projects should be accepted.
Question Status: Previous edition
Objective: 11.2 Evaluate investment opportunities using net present value and describe why net
present value is the best measure to use.
Keywords: net present value
Principles: Principle 1: Money Has a Time Value
9) Project H requires an initial investment of $100,000 and the produces annual cash lows
of $45,000 per year for each of the next 3 years. Project T also requires an initial
investment of $100,000 and produces cash lows of $30,000 in year 1, $40,000 in year 2,
and $70,000 in year 3. If the discount rate increases from 10% to 16%
A) Project T should be chosen.
B) Both projects should be rejected.
C) H and T are equally attractive.
D) The project rankings will change.
Question Status: Previous edition
Objective: 11.2 Evaluate investment opportunities using net present value and describe why net
present value is the best measure to use.
Keywords: net present value
Principles: Principle 1: Money Has a Time Value
10) A machine costs $1,000, has a three-year life, and has an estimated salvage value of
$100. It will generate after-tax annual cash lows (ACF) of $600 a year, starting next year. If
your required rate of return for the project is 10%, what is the NPV of this investment?
(Round your answer to the nearest $10.)
A) $490
B) $570
C) $900
D) -$150
Question Status: Previous edition
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Objective: 11.2 Evaluate investment opportunities using net present value and describe why net
present value is the best measure to use.
Keywords: net present value
Principles: Principle 1: Money Has a Time Value
11) Suppose you determine that the NPV of a project is $1,525,855. What does that mean?
A) In all cases, investing in this project would be better than investing in a project that has
an NPV of $850,000.
B) The project would add value to the irm.
C) Under all conditions, the project’s payback would be less than the proitability index.
D) Other investment criteria might need to be considered.
Question Status: Previous edition
Objective: 11.2 Evaluate investment opportunities using net present value and describe why net
present value is the best measure to use.
Keywords: net present value
Principles: Principle 1: Money Has a Time Value
12) Project January has a NPV of $50,000, project December has a NPV of $40,000. Which
of the following circumstances could make it possible to choose December over January?
A) January has a shorter payback period.
B) The projects are mutually exclusive.
C) The projects have unequal lives.
D) The projects are mandated.
Question Status: Previous edition
Objective: 11.2 Evaluate investment opportunities using net present value and describe why net
present value is the best measure to use.
Keywords: net present value
Principles: Principle 1: Money Has a Time Value
8
13) The present value of the total costs over a ive year period for Project April is $50,000.
The net present value of total costs over a 4 year period for Project October is $40,000. The
company uses a discount rate of 9%. Which project should it choose and why?
A) April because it has a higher net present value (NPV).
B) April because is has a higher equivalent annual cost (EAC).
C) October because it has a shorter life.
D) October because it has a lower equivalent annual cost (EAC).
Question Status: Previous edition
Objective: 11.2 Evaluate investment opportunities using net present value and describe why net
present value is the best measure to use.
Keywords: net present value
Principles: Principle 1: Money Has a Time Value
14) Warchester Inc. is considering the purchase of copying equipment that will require an
initial investment of $15,000 and $4,000 per year in annual operating costs over the
equipment’s estimated useful life of 5 years. The company will use a discount rate of 8.5%.
What is the equivalent annual cost?
A) $4,000
B) $7,000
C) $6,152.51
D) $7,806.49
Question Status: Previous edition
Objective: 11.2 Evaluate investment opportunities using net present value and describe why net
present value is the best measure to use.
Keywords: net present value
Principles: Principle 1: Money Has a Time Value
15) Artie’s Soccer Ball Company is considering a project with the following cash lows:
Initial outlay = $750,000
Incremental after-tax cash lows from operations Years 1-4 = $250,000 per year
Compute the NPV of this project if the company‘s discount rate is 12%.
A) $9,337
B) $7,758
C) $4,337
D) $2,534
Question Status: Previous edition
Objective: 11.2 Evaluate investment opportunities using net present value and describe why net
present value is the best measure to use.
Keywords: net present value
Principles: Principle 1: Money Has a Time Value
Use the following to answer the following question(s).
The information below describes a project with an initial cash outlay of $10,000 and a
required return of 12%.
After-tax cash inlow
Year 1 $6,000
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Year 2 $2,000
Year 3 $2,000
Year 4 $2,000
16) Which of the following statements is correct?
A) The project should be accepted since its NPV is $353.87.
B) The project should be rejected since its NPV is –$353.87.
C) The project should be accepted since it has a payback of less than four years.
D) The project should be rejected since its NPV is -$23.91.
Question Status: Previous edition
Objective: 11.2 Evaluate investment opportunities using net present value and describe why net
present value is the best measure to use.
Keywords: net present value
Principles: Principle 1: Money Has a Time Value
17) You have been asked to analyze a capital investment proposal. The project’s cost is
$2,775,000. Cash inlows are projected to be $925,000 in Year 1; $1,000,000 in Year 2;
$1,000,000 in Year 3; $1,000,000 in Year 4; and $1,225,000 in Year 5. Assume that your
irm discounts capital projects at 15.5%. What is the project’s NPV?
A) $101,247
B) $285,106
C) $473,904
D) $582,380
Question Status: Previous edition
Objective: 11.2 Evaluate investment opportunities using net present value and describe why net
present value is the best measure to use.
Keywords: net present value
Principles: Principle 1: Money Has a Time Value
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