Business finance Quiz
accounting profits are used to make capital budgeting decisions because generally accepted accounting principles ensure that profits are the best measure of a company’s economic activity. True or False.
Capital budgeting decisions are based on free cash flow because free cash flow better reflects when money is received and available for reinvestment than account profits. True or False.
The guiding rule in deciding if a free cash flow is incremental is to loot at the company with versus without the new project. True or False.
A grocery store decides to offer beer for sale and this decision results in more potato chip sales. This is an example of synergistic. True or False.
Additional investment in working capital, even if it may be recovered at the end of a project, must be included in capital budgeting analysis because of the time value of money. True or False.
Sunk costs are cash outflows that will occur regardless of the current accept/reject decision, and therefor should be excluded from the analysis. True or False.
overhead costs are sometimes incremental cash flows and other times considered sunk costs. True or False
Interest payments on a loan obtained specifically to fund a new project should be considered in an incremental cash flow for the new project when determining the accept/reject decision. True or False.
To be included in a capital budgeting analysis, all incremental free cash flows must be expensed on the company’s books, otherwise generally accepted accounting principles will be violated. true or false
In measuring cash flows we are interested only in the incremental or incremental after tax cash flows that are attributed to the investment proposal being evaluated. True or False.
The initial outlay for a new project is an example of an opportunity cost. True or False.
synergistic benefits from an investment project include cannibalism.True or False.
A projects annual free cash flow is the change in operating cash flow less any change in net working capital and less any change in capital spending. T or F
Toyotas Capital budget analysis for the prius a gas electric hybrid was faulty because the car line bass not made a profit to date T or F.
Accounting profits, adjusted for taxes and differences in accounting methods provide the best measure of relevant cash flows for capital budgeting purposes. T or F.
Hersheys expects to sell 2 million of its new candy bar, although 200,000 of this amount would have been spent on its existing candy bar. the 2 million is the appropriate cash inflow for the new candy project, while the 200,000 will be counted against the return on the old candy bar. T or F
adding gourmet coffee stations to my convenience store is expected to increase sales of my breakfast sandwiches, however the sales of breakfast sandwiches should not be included in the evaluation of the gourmet coffee project because only relevant incremental cash flows should be considered. T or F.
As a rule, any cash flows that are not affected by the accept reject criterion should not be included in capital budgeting analysis. T or F
If a project uses an asset the corporation already owns, the cost of that asset for capital budgeting purposes is zero to reflect the advantage the project has over projects that require the purchase of new assets. T or F.
For companies in competitive markets, the evolution and introduction of new products may serve more to preserve market share than to expand it. T or F
the calculation of incremental cash flows over a projects life should include:
a) labor and material saving.
c)interest to bondholders
d) A and B
Eastlick Dairy invests in a new kind of frozen desert called polar cream that becomes very popular. So many new customers come to the store that the sales of existing ice cream products are increased. The extra sales revenue
a) should not be counted as incremental revenue for the polar cream project because the sales come from existing products.
b) are synergistic effects that should be counted as incremental revenues for the polar cream project.
c) are cannbilized sales that should be excluded from the analysis.
d)should be included in the analysis but not the cost of the ice cream that is sold as that is a recurring expense.
sunk costs are:
c)not relevant in capital budgeting
d)not deductible for tax purposes
The initial outlay of a project may be reduced by the after tax salvage of replaced equipment T or G
A weakness in the capital budgeting process is the funds for an investment proposal obtained by issuing bonds, and the respective interest payments, are not considered in the capital budgeting process. T or F
The initial outlay includes the immediate cash-flow necessary to purchase the asset and put it in operating order. T or F
If the increase in net working capital is recovered entirely at the end of the project then it may be ignored T or F
cash flows associated with a projects termination generally include the salvage value of the project net of any taxes associated with the sale. T or F
Increasing depreciation expense results in a decrease of the incremental after tax free cash flow. T or F
Increase in working capital needs should be included as part of the initial outlay of a project, but decreases in working capital for a project should not be considered because they are not guaranteed. T or F
In general, a projects free cash flows will fall in one of the following three categories: initial outlay, differential cash flows over the projects life, and the terminal cash flow. T or F
If an old asset is sold for less than its book value the resulting loss will save the company taxes, hence lowering the cost of the project. T or F.
if an old asset is sold for its depreciated or book value then no taxes result as there is no tax effect from the scale. T or F
One example of a terminal cash flow is the recapture of the net working capital associated with the project. T or F.
Any increase in interest payments caused by a project should be counted in the incremental cash flows. T or F.
terminal cash flows are always positive because they result from the shutting down of a project with the sale of any assets with remaining value. T or F.
Interest payments on debt are not included in a projects incremental cash flows, but are instead accounted for in the projects discount rate. T or F
Depreciation is a non cash deduction so it may be ignored in the calculation of a projects incremental after tax cash flows T or F.
Depreciation expense produces a cash inflow equal to the depreciation expense multiplied by the firms marginal tax rate. T or F.
TRL, Inc has spent 2,000000 in nonrefundable engenieeing fees in contemplation of building a convention center and the additional costs to complete the project are 18,000000 the present value of all benefits the center will produce in its lifetime are 19000000 so TRL should not build the convention center T or F.
free cash flow calculations can be broken down into three parts: cash flows from operations, cash flows associated with working capital requirements, and financing flows relating to interest and divident payments. T or F
An opportunity cost is a relevant incremental cost for capital budgeting decisions. T or F
Capital budgeting projects that expand sales are more likely to involve increases in working capital than are projects that involve the replacement of existing assets. T or F
Increases in inventory and accounts receivable expected to occur if a proposed advertising capping is undertaken are examples of sunk costs. T or F
In general, a projects free cash flows will fall into one of the three categories: incremental costs, sunk costs, and opportunity costs. T or F
The initial outlay includes the cost of purchasing the asset and getting it operational, incl
uding the purchase price, shipping and installation and any training costs for employees who will be operating the equipment and any increases in working capital requirements. T or F
The initial outlay includes the cost of purchasing the asset and getting it operational but this excluded training costs for employees which should be included as part of a differential cash flows over the life of the project. T or F
In a replacement decision, the initial outlay is equal to the cost of the reduction in depreciation from elimination of the old asset. T or F
Operating cash flow is equal to the chance in EBIT less the change in interest expense, less the change in taxes, plus the change in depreciation T or F
Changes in capital spending are not incorporated directly into capital budgeting problems because the amounts are included in the operating cash flows through the inclusion of deprecation expense. T or F
A projects annual free cash flow is the change in operating cash flow less and change in net working capital less any change in capital spending T or F
Laural Inc. is a household products firm that is considering developing a new detergent. In evaluating whether to go ahead with the new detergent project, which of the following statements is most correct
A) The company will produce the detergent in a building that they already own. The cost of the building is therefore zero and should be excluded from the analysis.
B) The company will need to use some equipment that it could have leased to another company. This equipment lease could have generated $200,000 per year in after-tax income. The $200,000 should be excluded because the equipment can no longer be leased.
C) The company will need to hire 10 new workers whose salaries and benefits will total $400,000 per year. Labor costs are not part of capital budgeting and should be excluded.
D) The company will produce the detergent in a building that it renovated 2 years ago for $300,000. The $300,000 should be excluded from the analysis.
JW Enterprises is considering a new marketing campaign that will require the addition of a new computer programmer and new software. The programmer will occupy an office in JW’s current building and will be paid $8,000 per month. The software license costs $1,000 per month. The rent for the building is $4,000 per month. JW’s computer system is always on, so running the new software will not change the current monthly electric bill of $900. The incremental expenses for the new marketing campaign are:
A) $13,900 per month. B) $9,000 per month. C) $13,000 per month. D) $8,000 per month.
A local restaurant owner is considering expanding into another urban area. The expansion project will be financed through a line of credit with First National Bank. The administrative costs of obtaining the line of credit are $500, and the interest payments are expected to be $1,000 per month. The new restaurant will occupy an existing building that can be rented for $2,500 per month. The incremental cash flows for the new restaurant include:
A) $500 administrative costs, $1,000 per month interest payments, $2,500 per month rent. B) $500 administrative costs, $2,500 per month rent.
C) $1,000 per month interest payments, $2,500 per month rent.
D) $2,500 per month rent.
Margo Inc. wants to replace a 9-year-old machine with a new machine that is more efficient. The old machine cost $70,000 when new and has a current book value of $15,000. Margo can sell the machine to a foreign buyer for $14,000. Margo’s tax rate is 35%. The effect of the sale of the old machine on the initial outlay for the new machine is:
Which of the following is not an acceptable method of measuring risk for capital budgeting purposes
A) Modified internal rate of return
B) Sensitivity analysis
C) Using a risk-adjusted discount rate
D) Proxy, or pure play method for estimating a project’s beta
3) The simulation approach provides us with:
A) a single value for the risk-adjusted net present value.
B) an approximation of the systematic risk level.
C) a probability distribution of the project’s net present value or internal rate of return. D) a graphic exposition of the year-by-year sequence of possible outcomes.
2) What method is used for calculation of the accounting beta A) simulation
B) regression analysis
C) sensitivity analysis
D) both A and C
1) Advantages of using simulation include:
A) adjustment for risk in the resulting distribution of net present values.
B) a range of possible outcomes presented.
C) is good only for single period investments since discounting is not possible. D) graphically displays all possible outcomes of the investment.
) Using simulation provides the financial manager with a probability distribution of an investment’s net present value or internal rate of return. T or F