21
88) Design Quilters is considering a project with the following cash flows:
Initial Outlay = $126,000
Cash Flows:
Year 1 = $44,000
Year 2 = $59,000
Year 3 = $64,000
If the appropriate discount rate is 11.5%, compute the NPV of this project.
A) -$14,947
B) $2,892
C) $7,089
D) $41,000
Keywords: Net Present Value
Learning Obj.: L.O. 10.2
AACSB: Analytical Thinking
89) Your company is considering a project with the following cash flows:
Initial Outlay = $3,000,000
Cash Flows Year 1-8 = $547,000
Compute the internal rate of return on the project.
A) 6.38%
B) 8.95%
C) 9.25%
D) 12.34%
Keywords: Internal Rate of Return
Learning Obj.: L.O. 10.2
AACSB: Analytical Thinking
90) For the net present value (NPV) criteria, a project is acceptable if NPV is ________, while for the
profitability index a project is acceptable if PI is ________.
A) greater than zero; greater than the required return
B) greater than or equal to zero; greater than zero
C) greater than one; greater than or equal to one
D) greater than or equal to zero; greater than or equal to one
Keywords: Net Present Value, Profitability Index
Learning Obj.: L.O. 10.2
AACSB: Analytical Thinking
22
91) Compute the discounted payback period for a project with the following cash flows received
uniformly within each year and with a required return of 8%.
Initial Outlay = $100
Cash Flows:
Year 1 = $40
Year 2 = $50
Year 3 = $60
A) 2.10 years
B) 2.21 years
C) 2.33 years
D) 3.00 years
Keywords: Discounted Payback Period
Learning Obj.: L.O. 10.2
AACSB: Analytical Thinking
92) Consider a project with the following information:
Year
After-tax
Accounting
Profits from
After-tax
Cash Flow
Operations
1
$799
$750
2
150
1,000
3
200
1,200
Initial outlay = $1,500
Compute the profitability index if the company‘s discount rate is 10%.
A) 15.8
B) 1.61
C) 1.81
D) 0.62
Keywords: Profitability Index
Learning Obj.: L.O. 10.2
AACSB: Analytical Thinking
23
93) If the NPV (Net Present Value) of a project with one sign reversal is positive, then the project’s IRR
(Internal Rate of Return) ________ the required rate of return.
A) must be less than
B) must be greater than
C) could be greater or less than
D) The project‘s IRR cannot be determined without actual cash flows.
Keywords: Net Present Value, Internal Rate of Return
Learning Obj.: L.O. 10.2
AACSB: Analytical Thinking
94) You are considering investing in a project with the following year-end after-tax cash flows:
Year 1: $57,000
Year 2: $72,000
Year 3: $78,000
If the initial outlay for the project is $185,000, compute the project‘s internal rate of return.
A) 3.98%
B) 5.54%
C) 11.89%
D) 14.74%
Keywords: Internal Rate of Return
Learning Obj.: L.O. 10.2
AACSB: Analytical Thinking
95) A significant advantage of the payback period is that it
A) places emphasis on time value of money.
B) allows for the proper ranking of projects.
C) tends to reduce firm risk because it favors projects that generate early, less uncertain returns.
D) gives proper weighting to all cash flows.
Keywords: Payback Period
Learning Obj.: L.O. 10.2
AACSB: Reflective Thinking
24
96) A significant disadvantage of the payback period is that it
A) is complicated to explain.
B) increases firm risk.
C) does not properly consider the time value of money.
D) provides a measure of liquidity.
Keywords: Payback Period
Learning Obj.: L.O. 10.2
AACSB: Reflective Thinking
97) Your firm is considering an investment that will cost $750,000 today. The investment will produce
cash flows of $250,000 in year 1, $300,000 in years 2 through 4, and $100,000 in year 5. What is the
investment’s discounted payback period if the required rate of return is 10%?
A) 3.33 years
B) 3.16 years
C) 2.67 years
D) 2.33 years
Keywords: Discounted Payback Period
Learning Obj.: L.O. 10.2
AACSB: Analytical Thinking
98) A significant advantage of the internal rate of return is that it
A) provides a means to choose between mutually exclusive projects.
B) provides the most realistic reinvestment assumption.
C) avoids the size disparity problem.
D) considers all of a project’s cash flows and their timing.
Keywords: Internal Rate of Return
Learning Obj.: L.O. 10.2
AACSB: Reflective Thinking
99) An independent project should be accepted if it
A) produces a net present value that is greater than or equal to zero.
B) produces a net present value that is greater than the equivalent IRR.
C) has only one sign reversal.
D) produces a profitability index greater than or equal to zero.
Keywords: Independent Projects, Net Present Value
Learning Obj.: L.O. 10.2
AACSB: Reflective Thinking
25
100) Your firm is considering an investment that will cost $920,000 today. The investment will produce
cash flows of $450,000 in year 1, $270,000 in years 2 through 4, and $200,000 in year 5. The discount rate
that your firm uses for projects of this type is 11.25%. What is the investment’s net present value?
A) $540,000
B) $378,458
C) $192,369
D) $112,583
Keywords: Net Present Value
Learning Obj.: L.O. 10.2
AACSB: Analytical Thinking
101) Your firm is considering an investment that will cost $920,000 today. The investment will produce
cash flows of $450,000 in year 1, $270,000 in years 2 through 4, and $200,000 in year 5. The discount rate
that your firm uses for projects of this type is 11.25%. What is the investment’s profitability index?
A) 1.21
B) 1.26
C) 1.43
D) 1.69
Keywords: Profitability Index
Learning Obj.: L.O. 10.2
AACSB: Analytical Thinking
102) Your firm is considering an investment that will cost $920,000 today. The investment will produce
cash flows of $450,000 in year 1, $270,000 in years 2 through 4, and $200,000 in year 5. The discount rate
that your firm uses for projects of this type is 11.25%. What is the investment’s internal rate of return?
A) 27.28%
B) 21.26%
C) 20.53%
D) 15.98%
Keywords: Internal Rate of Return
Learning Obj.: L.O. 10.2
AACSB: Analytical Thinking
103) Which of the following statements about the internal rate of return (IRR) is true?
A) It has the most conservative and realistic reinvestment assumption.
B) It never gives conflicting answers.
C) It fully considers the time value of money.
D) It is greater than the modified internal rate of return if the discount rate is higher than the IRR.
Keywords: Internal Rate of Return
Learning Obj.: L.O. 10.2
AACSB: Reflective Thinking
26
104) A significant disadvantage of the internal rate of return is that it
A) does not fully consider the time value of money.
B) does not give proper weight to all cash flows.
C) can result in multiple rates of return (more than one IRR).
D) is expressed as a percentage.
Keywords: Internal Rate of Return
Learning Obj.: L.O. 10.2
AACSB: Reflective Thinking
105) A significant disadvantage of the internal rate of return is that it
A) does not fully consider the time value of money.
B) does not give proper weight to all cash flows.
C) may have an unrealistic reinvestment assumption.
D) is expressed as a percentage.
Keywords: Internal Rate of Return
Learning Obj.: L.O. 10.2
AACSB: Reflective Thinking
106) A one-sign-reversal project should be accepted if it
A) generates an internal rate of return that is higher than the profitability index.
B) produces an internal rate of return that is greater than the firm‘s discount rate.
C) results in an internal rate of return that is above a project’s equivalent annual annuity.
D) results in a modified internal rate of return that is higher than the internal rate of return.
Keywords: Internal Rate of Return
Learning Obj.: L.O. 10.2
AACSB: Reflective Thinking
107) What is the internal rate of return‘s assumption about how cash flows are reinvested?
A) They are reinvested at the firm’s discount rate.
B) They are reinvested at the required rate of return.
C) They are reinvested at the project’s internal rate of return.
D) They are only reinvested at the end of the project.
Keywords: Internal Rate of Return, Reinvestment Rate Assumption
Learning Obj.: L.O. 10.2
AACSB: Reflective Thinking
27
108) If the NPV (Net Present Value) of a project with multiple sign reversals is positive, then the project’s
required rate of return ________ its calculated IRR (Internal Rate of Return).
A) must be less than
B) must be greater than
C) could be greater or less than
D) The required rate of return cannot be determined without actual cash flows.
Keywords: Net Present Value, Internal Rate of Return, Multiple Sign Reversals
Learning Obj.: L.O. 10.2
AACSB: Analytical Thinking
109) A project would be acceptable if
A) the payback is greater than the discounted equivalent annual annuity.
B) the equivalent annual annuity is greater than or equal to the firm’s discount rate.
C) the profitability index is greater than the net present value.
D) the net present value is positive.
Keywords: Net Present Value, Equivalent Annual Annuity
Learning Obj.: L.O. 10.2
AACSB: Reflective Thinking
110) Kingston Corp. is considering a new machine that requires an initial investment of $480,000
installed, and has a useful life of 8 years. The expected annual after-tax cash flows for the machine are
$89,000 for each of the 8 years and nothing thereafter.
a. Calculate the net present value of the machine if the required rate of return is 11 percent.
b. Calculate the IRR of this project.
c. Should Kingston accept the project (assume that it is independent and not subject to any capital
rationing constraint)? Explain your answer.
Keywords: NPV, IRR
Learning Obj.: L.O. 10.2
AACSB: Analytical Thinking
28
111) D&B Contracting plans to purchase a new backhoe. The one under consideration costs $233,000, and
has a useful life of 8 years. After-tax cash flows are expected to be $31,384 in each of the 8 years and
nothing thereafter. Calculate the internal rate of return for the grader.
Keywords: IRR
Learning Obj.: L.O. 10.2
AACSB: Analytical Thinking
112) Consider two mutually exclusive projects X and Y with identical initial outlays of $600,000 and
useful lives of 5 years. Project X is expected to produce an after-tax cash flow of $180,000 each year.
Project Y is expected to generate a single after-tax net cash flow of $1,015,000 in year 5. The discount rate
is 14 percent.
a. Calculate the net present value for each project.
b. Calculate the IRR for each project.
c. What decision should you make regarding these projects?
Keywords: NPV, IRR
Learning Obj.: L.O. 10.2
AACSB: Analytical Thinking
113) A project that requires an initial investment of $340,000 is expected to have an after-tax cash flow of
$70,000 per year for the first two years, $90,000 per year for the next two years, and $150,000 for the fifth
year? Assume the required return for this project is 10%.
a. What is the NPV of the project%?
b. What is the IRR of the project?
c. What is the MIRR of the project?
d. What is the PI of the project?
e. What decision would you make regarding this project if the required rate of return is 10%?
f. What is the equivalent annual annuity using a 10% required rate of return?
Keywords: NPV, IRR, MIRR, PI, Equivalent Annual Annuity
Learning Obj.: L.O. 10.2
AACSB: Analytical Thinking
29
114) The Bolster Company is considering two mutually exclusive projects:
Initial Outlay
NPV
-$100,000
-$100,000
31,250
0
31,250
0
31,250
0
31,250
0
31,250
200,000
The required rate of return on these projects is 12 percent.
a. What is each project’s payback period?
b. What is each project’s discounted payback period?
c. What is each project’s net present value?
d. What is each project’s internal rate of return?
e. Fully explain the results of your analysis. Which project do you prefer, and why?
Keywords: Payback Period, Net Present Value (NPV), Internal Rate of Return (IRR)
Learning Obj.: L.O. 10.2
AACSB: Analytical Thinking
30
115) What is the difference between the IRR and the MIRR?
Keywords: IRR, MIRR
Learning Obj.: L.O. 10.2
AACSB: Reflective Thinking
116) What does a net present value profile tell you, and how is it constructed? How does the IRR enter
into the net present value profile?
Keywords: Net Present Value Profile, IRR, NPV
Learning Obj.: L.O. 10.2
AACSB: Reflective Thinking
Learning Objective 10.3
1) The payback period may be more appropriate to use for companies experiencing capital rationing.
Keywords: Payback Period, Capital Rationing
Learning Obj.: L.O. 10.3
AACSB: Reflective Thinking