Sample Questions CHAPTER 14 by 3W8G00U7

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									MGMT 134 Sample Midterm – Answers at end


                                Sample Questions CHAPTER 14


True-False


Relevant cash flows
i.     Since the focus of capital budgeting is on cash flows rather than on net income, changes
       in noncash balance sheet accounts such as inventory are not relevant in the analysis.

       a. True
       b. False

Relevant cash flows
ii.    If an investment project would make use of land which the firm currently owns, the
       project should be charged with the opportunity cost of the land.

       a. True
       b. False

Relevant cash flows
iii.   When calculating the cash flows for a project, you should include interest payments.

       a. True
       b. False

Relevant cash flows
iv.    Any cash flow that can be classified as incremental is relevant in a capital budgeting
       project analysis.

       a. True
       b. False

Net operating working capital                                                                 :E
v.     Changes in net operating working capital do not need to be considered in capital
       budgeting cash flow analysis as long as the nominal (undiscounted) values of the changes
       are identical in each time period.

       a. True
       b. False




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MGMT 134 Sample Midterm – Answers at end


Cash flow estimation                                                                                :
vi.     With the current techniques available, estimating cash flows has become the easiest step
        in the analysis of a capital budgeting project.

        a. True
        b. False

Cash flow estimation
vii.    Estimating project cash flows is considered the most important and the most difficult step
        in the capital budgeting process. Both the number of variables and the interdepartmental
        nature of the process contribute to the difficulty of estimating cash flows.

        a. True
        b. False

Cash flow estimation
viii.   Although it is difficult to make accurate forecasts, the initial outlays and subsequent costs
        of large projects are forecast with great accuracy, but revenues are more uncertain and
        large errors are not uncommon.

        a. True
        b. False

Incremental cash flows
ix.     Net incremental cash flow is calculated by adding back the change in depreciation to the
        change in net income.

        a. True
        b. False

Externalities
x.      In cash flow estimation, the presence of externalities has no direct cash flow effects.

        a. True
        b. False

Externalities
xi.     Externalities present in projects being considered in capital budgeting are very difficult to
        quantify and as a result of this, they should be excluded from the financial analyses.

        a. True
        b. False




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MGMT 134 Sample Midterm – Answers at end



Depreciation cash flows
xii.    The primary advantage of accelerated depreciation over straight-line depreciation is that
        the total, undiscounted, depreciation tax savings over the life of the project are greater
        when an accelerated depreciation method is used.

        a. True
        b. False

Depreciation cash flows
xiii.   A firm which bases its capital budgeting decisions on either NPV or IRR will be more
        likely to accept a given project if it uses MACRS accelerated depreciation than if it uses
        the optional straight-line alternative, other things being equal.

        a. True
        b. False

Market risk
xiv.    A project's market risk rises if the correlation of its cash flows with the economy
        decreases.

        a. True
        b. False

Market risk
xv.     If an asset being considered for acquisition has beta of zero, its purchase will have no
        effect on the firm's market risk.

        a. True
        b. False

Project risk
xvi.    A particular project might have very uncertain cash flows, hence a highly uncertain NPV
        and IRR, yet it may not have high market risk.

        a. True
        b. False

Accepting risky projects
xvii.   When risk is explicitly accounted for in capital budgeting, a project will be acceptable to
        a firm if its IRR (or modified IRR) is greater than the firm's weighted average cost of
        capital.

        a. True
        b. False




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MGMT 134 Sample Midterm – Answers at end


Quantification of risk
xviii. Quantification of risk is the easiest part of incorporating risk into capital budgeting.

        a. True
        b. False

Effects of diversification
xix.    The lower the correlation of a project's cash flows with those of the rest of the firm, the
        greater will be the benefits of the project with regard to reducing within-firm risk.

        a. True
        b. False

Risk-adjusted discount rate
xx.     Risky projects can be evaluated by discounting expected cash flows using a risk-adjusted
        discount rate.

        a. True
        b. False

Risk-adjusted discount rate
xxi.    Using the same risk-adjusted discount rate to discount all cash flows ignores the fact that
        the more distant cash flows are more risky.

        a. True
        b. False


Medium:

Relevant cash flows
xxii.   The two cardinal rules which financial analysts follow to avoid capital budgeting errors
        are: (1) capital budgeting decisions must be based on accounting income, and (2) only
        incremental cash flows are relevant to accept/reject decisions.

        a. True
        b. False

Opportunity costs
xxiii. Opportunity costs include those cash inflows that could be generated from assets the firm
       already owns, if those assets are not used for the project being evaluated.

        a. True
        b. False

Sunk costs




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MGMT 134 Sample Midterm – Answers at end

xxiv. Suppose a firm is considering production of a new product whose projected sales include
      sales that will be taken away from another product the firm also produces. The lost sales
      on the existing product are a sunk cost and are not a relevant cost to the new product.

         a. True
         b. False

Cash flow estimation
xxv.     Superior analytical techniques, such as NPV, used in combination with cost of capital
         adjustments, can overcome the problem of poor cash flow estimation in decision making.

         a. True
         b. False




i.       Relevant cash flows                                             Answer: b    Diff: E

ii.      Relevant cash flows                                             Answer: a    Diff: E

iii.     Relevant cash flows                                             Answer: b    Diff: E

iv.      Relevant cash flows                                             Answer: a    Diff: E

v.       Net operating working capital                                   Answer: b    Diff: E

vi.      Cash flow estimation                                            Answer: b    Diff: E

vii.     Cash flow estimation                                            Answer: a    Diff: E

viii. Cash flow estimation                                               Answer: b    Diff: E

ix.      Incremental cash flows                                          Answer: a    Diff: E

x.       Externalities                                                   Answer: b    Diff: E

xi.      Externalities                                                   Answer: b    Diff: E

xii.     Depreciation cash flows                                         Answer: b    Diff: E

xiii. Depreciation cash flows                                            Answer: a    Diff: E

xiv.     Market risk                                                     Answer: b    Diff: E

xv.      Market risk                                                     Answer: b    Diff: E

xvi.     Project risk                                                    Answer: a    Diff: E

xvii. Accepting risky projects                                           Answer: b    Diff: E

xviii.                                                              Quantification of risk        Answer

xix.     Effects of diversification                                      Answer: a    Diff: E




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MGMT 134 Sample Midterm – Answers at end


xx.      Risk-adjusted discount rate       Answer: a   Diff: E

xxi.     Risk-adjusted discount rate       Answer: b   Diff: E

xxii. Relevant cash flows                  Answer: b   Diff: M

xxiii.                                      Opportunity costs    Answer

xxiv. Sunk costs                           Answer: b   Diff: M

xxv.     Cash flow estimation              Answer: b   Diff: M




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