Capital Investments quiz

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Capital Investments

1 / 59

Given the following cash flows for a capital investment, calculate the NPV and IRR. The required rate of return is 8 % .

5 4 3 2 1 0 Year
5,000   10,000    20,000    15,000   15,000   - 50,000 Cash flow

2 / 59

The financial manager at Genesis Company is looking into the purchase of an apartment complex for $550,000. Net after-tax cash flows are expected to be $65,000 for each of the next five years, then drop to $50,000 for four years. Genesis' required rate of return is 9% on projects of this nature. After nine years, Genesis Company expects to sell the property for after-tax proceeds of $300,000. What is the respective internal rate of return on this project ?

3 / 59

Garner Corporation is investing $30 million in new capital equipment. The present value of future after-tax cash flows generated by the equipment is estimated to be $50 million. Currently, Garner has a stock price of $28.00 per share with 8 million shares outstanding. Assuming that this project represents new information and is independent of other expectations about the company, what should the effect of the project theoretically be on the firm's stock price ?

4 / 59

An analyst is estimating the NPV of a project to introduce a new spicier version of its wellknown barbeque sauce into its product line. A cost that should most likely be excluded from his analysis is :

5 / 59

Which of the following steps is least likely to be a step in the capital allocation process ?

6 / 59

In the capital allocation process, a post-audit is used to :

7 / 59

Which of the following is most likely a going concern project ? 

8 / 59

Wilson Flannery is concerned that the following investment has multiple IRRs .

3 2 1 0 Year
- 50   100 0 - 50  Cash flow

How many discount rates produce a zero NPV for this investment ?

9 / 59

A company is considering building a distribution center that will allow it to expand sales into a new region comprising three provinces. John Parker, a firm analyst, has argued that the current analysis fails to incorporate the amount they could get from selling the distribution center at the end of year 2, rather than operating it to the end of the project’s assumed economic life. Parker is suggesting that :

10 / 59

The estimated annual after-tax cash flows of a proposed investment are shown below :

Year 1: $10,000

Year 2: $15,000

Year 3: $18,000

After-tax cash flow from sale of investment at the end of year 3 is $120,000 The initial cost of the investment is $100,000, and the required rate of return is 12%. The net present value (NPV) of the project is closest to :

11 / 59

Jack Smith, CFA, is analyzing independent investment projects X and Y. Smith has calculated the net present value (NPV) and internal rate of return (IRR) for each project:

Project X ⇒ NPV = $250; IRR = 15%

Project Y ⇒ NPV = $5,000; IRR = 8%

Smith should make which of the following recommendations concerning the two projects ?

12 / 59

The effects that the acceptance of a project may have on other firm cash flows are best described as:

13 / 59

A company is considering the purchase of a copier that costs $5,000. Assume a required rate of return of 10% and the following cash flow schedule :

Year 1: $3,000

Year 2: $2,000

Year 3: $2,000

The project’s NPV is closest to:

14 / 59

Financing costs for a capital project are :

15 / 59

As the director of capital budgeting for Denver Corporation, an analyst is evaluating two mutually exclusive projects with the following net cash flows :

 Project Z Project X Year
  100,000-  100,000- 0
         10,000        50,000 1
         30,000        40,000 2
         40,000        30,000 3
         60,000        10,000 4

If Denver's cost of capital is 15%, which project should be chosen ?
 

16 / 59

Bouchard Industries is a Canadian company that manufactures gutters for residential houses. Its management believes it has developed a new process that produces a superior product. The company must make an initial investment of CAD190 million to begin production. If demand is high, cash flows are expected to be CAD40 million per year. If demand is low, cash flows will be only CAD20 million per year. Management believes there is an equal chance that demand will be high or low. The investment, which has an investment horizon of ten years, also gives the company a production-flexibility option allowing the company to add shifts at the end of the first year if demand turns out to be high. If the company exercises this option, net cash flows would increase by an additional CAD5 million in Years 2–10. Bouchard’s opportunity cost of funds is 10%.

The internal auditor for Bouchard Industries has made two suggestions for improving capital allocation processes at the company. The internal auditor’s suggestions are as follows:

Suggestion 1: “In order to treat all capital allocation proposals in a fair manner, the investments should all use the risk-free rate for the required rate of return.”

Suggestion 2: “When rationing capital, it is better to choose the portfolio of investments that maximizes the company NPV than the portfolio that maximizes the company IRR ” .

Should the capital allocation committee accept the internal auditor’s suggestions ?

17 / 59

Should a company accept a project that has an IRR of 14% and an NPV of $2.8 million if the cost of capital is 12% ?

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The Bearing Corp. invests only in positive NPV projects. Which of the following statements is true ?

19 / 59

A company is considering a $10,000 project that will last 5 years.

Annual after tax cash flows are expected to be $3,000

Cost of capital = 9.7%

What is the project's net present value (NPV)?

20 / 59

Which of the following types of capital investments are most likely to generate little to no revenue?

21 / 59

Fullen Machinery is investing $400 million in new industrial equipment. The present value of the future after-tax cash flows resulting from the equipment is $700 million. Fullen currently has 200 million shares of common stock outstanding, with a current market price of $36 per share. Assuming that this project is new information and is independent of other expectations about the company, what is the theoretical effect of the new equipment on Fullen’s stock price?

The stock price will :

22 / 59

The IRR is best described as the :

23 / 59

When dealing with mutually exclusive projects, the most reliable decision rule is :

24 / 59

A company is considering moving its manufacturing facilities to either Texas or South Carolina to decrease taxes and labor costs. After estimating all the relevant incremental after-tax cash flows of each move, an analyst estimates the IRR of a move to Texas to be 13% and the IRR of a move to South Carolina to be 15%. If the appropriate discount rate to evaluate the moves is 14%, the analyst :

25 / 59

An analyst has gathered the following data about a company with a 12% cost of capital :

Project Q Project P
       25,000        15,000 Cost
5 years 5 years Life
$7,500/year $5,000/year Cash inflows

If the projects are independent, what should the company do?

26 / 59

A project has the following annual cash flows :

Which of the following discount rates most likely produces the highest net present value (NPV) ?

 

27 / 59

Investments 1 and 2 have similar outlays, although the patterns of future cash flows are different. The cash flows, as well as the NPV and IRR, for the two investments are shown below. For both investments, the required rate of return is 10% .

Cash Flows
IRR (%) NPV 4 3 2 1 0 Year
21.86 13.40 20 20 20 20 - 50 Investment 1
18.92 18.30 100 0 0 0 - 50 Investment 2

The two projects are mutually exclusive. What is the appropriate investment decision ?

28 / 59

A three-year investment requires an initial outlay of GBP1,000. It is expected to provide three year-end cash flows of GBP200 plus a net salvage value of GBP700 at the end of three years. Its IRR is closest to :

29 / 59

Kim Corporation is considering an investment of  750 million with expected after-tax cash inflows of  175 million per year for seven years. The required rate of return is 10 %. What is the investment’s :

30 / 59

The post-audit performed as part of the capital budgeting process is least likely to include the :

31 / 59

Bouchard Industries is a Canadian company that manufactures gutters for residential houses. Its management believes it has developed a new process that produces a superior product. The company must make an initial investment of CAD 190 million to begin production. If demand is high, cash flows are expected to be CAD 40 million per year. If demand is low, cash flows will be only CAD 20 million per year. Management believes there is an equal chance that demand will be high or low. The investment, which has an investment horizon of ten years, also gives the company a production-flexibility option allowing the company to add shifts at the end of the first year if demand turns out to be high. If the company exercises this option, net cash flows would increase by an additional CAD 5 million in Years 2–10. Bouchard’s opportunity cost of funds is 10%.

The internal auditor for Bouchard Industries has made two suggestions for improving capital allocation processes at the company. The internal auditor’s suggestions are as follows:

Suggestion 1: “In order to treat all capital allocation proposals in a fair manner, the investments should all use the risk-free rate for the required rate of return.”

Suggestion 2: “When rationing capital, it is better to choose the portfolio of investments that maximizes the company NPV than the portfolio that maximizes the company IRR.”

What is the NPV (CAD millions) of the original project for Bouchard Industries without considering the production-flexibility option ?

32 / 59

A firm is reviewing an investment opportunity that requires an initial cash outlay of $336,875 and promises to return the following irregular payments :

Year 1: $100,000

Year 2: $82,000

Year 3: $76,000

Year 4: $111,000

Year 5: $142,000

If the required rate of return for the firm is 8%, what is the net present value of the investment ?

33 / 59

When a new project reduces the cash flows of an existing project of the same firm, it is best described as a(n) :

34 / 59

Johnson's Jar Lids is deciding whether to begin producing jars. Johnson's pays a consultant $50,000 for market research that concludes Johnson's sales of jar lids will increase by 5% if it also produces jars. In choosing the cash flows to include when evaluating a project to begin producing jars, Johnson's should :

35 / 59

The effect of a company announcement that they have begun a project with a current cost of $10 million that will generate future cash flows with a present value of $20 million is most likely to :

36 / 59

With respect to capital investments, the greatest amount of detailed analysis is typically required when deciding whether to:

37 / 59

The CFO of Axis Manufacturing is evaluating the introduction of a new product. The costs of a recently completed marketing study for the new product and the possible increase in the sales of a related product made by Axis are best described (respectively) as :

38 / 59

Given a discount rate of 10%, the net present value (NPV) of the following investment is closest to :

6 5 4 3 2 1 0 time
300   500 200   1,000    600    300    1,500 - Cash flow

39 / 59

What type of project is most likely to yield new revenues for a company ?

40 / 59

An investment of $ 100 generates after-tax cash flows of $ 40 in Year 1, $ 80 in Year 2, and $ 120 in Year 3. The required rate of return is 20 %. The NPV is closest to :

41 / 59

A manufacturer of clothes washing machines decides to add matching clothes dryers to its product line. In this case, it is most likely important in the project analysis to consider :

42 / 59

The incremental after-tax cash flows (in € thousands) and information on two mutually exclusive projects are as follows:

IRR (%) NPV 4 3 2 1 0 Year
  16.0   354.0  8,000   8,000    5,000   2,000   15,000 - Project X
?  ?   15,000   7,000  500   200   13,250 - Project Y

The appropriate hurdle rate to use in evaluating the projects is 15%. Which of the following statements is most accurate? The company should accept:

43 / 59

If the calculated net present value (NPV) is negative, which of the following must be correct.

The discount rate used is :

44 / 59

An investment is purchased at a cost of $775,000 and returns $300,000 at the end of years 2 and 3. At the end of year 4 the investment receives a final payment of $400,000. The IRR of this investment is closest to :

45 / 59

An investment of $ 150,000 is expected to generate an after-tax cash flow of $ 100,000 in one year and another $ 120,000 in two years. The COC is 10 %. What is the IRR ?

46 / 59

With regard to capital allocation, an appropriate estimate of the incremental cash flows from an investment is least likely to include :

47 / 59

Which of the following is least relevant in determining project cash flow for a capital investment ?

48 / 59

Fisher, Inc., is evaluating the benefits of investing in a new industrial printer. The printer will cost $28,000 and increase after-tax cash flows by $7,000 during each of the next four years and $6,000 in each of the two years after that. The internal rate of return (IRR) of the printer project is closest to:

49 / 59

Consider the two investments below. The cash flows, as well as the NPV and IRR, for the two investments are given. For both investments, the required rate of return is 10% .

Cash Flows
IRR (%) NPV 4 3 2 1 0 Year
16.37 14.12 36 36 36 36 - 100 Investment 1
15.02 19.53 175 0 0 0 - 100 Investment 2

 What discount rate would result in the same NPV for both investments ?

50 / 59

The NPV of an investment is equal to the sum of the expected cash flows discounted at the :

51 / 59

If two projects are mutually exclusive, a company :

52 / 59

Catherine Ndereba is an energy analyst tasked with evaluating a crude oil exploration and production company. The company previously announced that it plans to embark on a new project to drill for oil offshore. As a result of this announcement, the stock price increased by 10%. After conducting her analysis, Ms. Ndereba concludes that the project does indeed have a positive NPV. Which statement is true ?

53 / 59

A firm is considering a project that would require an initial investment of 270 million . The project will help increase the firm’s after-tax net cash flows by 30 million per year in perpetuity, and it is found to have a negative NPV of 20 million. The IRR (%) of the project is closest to:

54 / 59

Which of the following statements concerning the principles underlying the capital allocation process is most accurate ?

55 / 59

One of the basic principles of capital allocation is that :

56 / 59

Polington Aircraft Co. just announced a sale of 30 aircraft to Cuba, a project with a net present value of $10 million. Investors did not anticipate the sale because government approval to sell to Cuba had never before been granted. The share price of Polington should theoretically :

57 / 59

Lincoln Coal is planning a new coal mine, which will cost $430,000 to build. The mine will bring cash inflows of $200,000 annually over the next seven years. It will then cost $170,000 to close down the mine in the following year. Assume all cash flows occur at the end of the year. Alternatively, Lincoln Coal may choose to sell the site today. If Lincoln has a 16% required rate of return, the minimum price they should accept for the property is closest to :

58 / 59

A USD 2.2 million investment will result in the following year-end cash flows :

4 3 2 1 Year
USD 0.8 USD 1.9 USD 1.6 USD 1.3 Cash flow (millions)

Using an 8 % opportunity COC, the investment’s NPV is closest to :

59 / 59

Erin Chou is reviewing a profitable investment that has a conventional cash flow pattern. If the cash flows for the initial outlay and future after-tax cash flows all double, Chou would predict that the IRR would :

types of capital investments made by companies

Principles of Capital Allocation

Net Present Value (NPV)

Internal Rate of Return (IRR)

relations among a company’s investments, company value, and share price

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