1. FIN 534 Quiz 4
(30 questions with answers) 99,99 % Scored
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Question 1
Which of the following statements is CORRECT?
Answer
For a project with normal cash flows, any change in the WACC will change both
the NPV and the IRR.
To find the MIRR, we first compound cash flows at the regular IRR to find the TV,
and then we discount the TV at the WACC to find the PV.
The NPV and IRR methods both assume that cash flows can be reinvested at the
WACC. However, the MIRR method assumes reinvestment at the MIRR itself.
If two projects have the same cost, and if their NPV profiles cross in the upper
right quadrant, then the project with the higher IRR probably has more of its cash
flows coming in the later years.
If two projects have the same cost, and if their NPV profiles cross in the upper
right quadrant, then the project with the lower IRR probably has more of its cash
flows coming in the later years.
2 points
Question 2
Which of the following statements is CORRECT?
Answer
If a project with normal cash flows has an IRR greater than the WACC, the project
must also have a positive NPV.
If Project A’s IRR exceeds Project B’s, then A must have the higher NPV.
A project’s MIRR can never exceed its IRR.
If a project with normal cash flows has an IRR less than the WACC, the project
must have a positive NPV.

2. If the NPV is negative, the IRR must also be negative.
2 points
Question 3
Which of the following statements is CORRECT?
Answer
The regular payback method recognizes all cash flows over a project’s life.
The discounted payback method recognizes all cash flows over a project’s life,
and it also adjusts these cash flows to account for the time value of money.
The regular payback method was, years ago, widely used, but virtually no
companies even calculate the payback today.
The regular payback is useful as an indicator of a project’s liquidity because it
gives managers an idea of how long it will take to recover the funds invested in a
project.
The regular payback does not consider cash flows beyond the payback year, but
the discounted payback overcomes this defect.
2 points
Question 4
Projects S and L both have an initial cost of $10,000, followed by a series of
positive cash inflows. Project S’s undiscounted net cash flows total $20,000, while
L’s total undiscounted flows are $30,000. At a WACC of 10%, the two projects
have identical NPVs. Which project’s NPV is more sensitive to changes in the
WACC?
Answer
Project S.
Project L.
Both projects are equally sensitive to changes in the WACC since their NPVs are
equal at all costs of capital.
Neither project is sensitive to changes in the discount rate, since both have NPV
profiles that are horizontal.

3. The solution cannot be determined because the problem gives us no information
that can be used to determine the projects’ relative IRRs.
2 points
Question 5
Which of the following statements is CORRECT? Assume that the project being
considered has normal cash flows, with one outflow followed by a series of
inflows.
Answer
A project’s NPV is found by compounding the cash inflows at the IRR to find the
terminal value (TV), then discounting the TV at the WACC.
The lower the WACC used to calculate a project’s NPV, the lower the calculated
NPV will be.
If a project’s NPV is less than zero, then its IRR must be less than the WACC.
If a project’s NPV is greater than zero, then its IRR must be less than zero.
The NPV of a relatively low-risk project should be found using a relatively high
WACC.
2 points
Question 6
Which of the following statements is CORRECT?
Answer
The MIRR and NPV decision criteria can never conflict.
The IRR method can never be subject to the multiple IRR problem, while the
MIRR method can be.
One reason some people prefer the MIRR to the regular IRR is that the MIRR is
based on a generally more reasonable reinvestment rate assumption.
The higher the WACC, the shorter the discounted payback period.
The MIRR method assumes that cash flows are reinvested at the crossover rate.
2 points

4. Question 7
Which of the following statements is CORRECT? Assume that the project being
considered has normal cash flows, with one outflow followed by a series of
inflows.
Answer
The longer a project’s payback period, the more desirable the project is normally
considered to be by this criterion.
One drawback of the regular payback for evaluating projects is that this method
does not properly account for the time value of money.
If a project’s payback is positive, then the project should be rejected because it
must have a negative NPV.
The regular payback ignores cash flows beyond the payback period, but the
discounted payback method overcomes this problem.
If a company uses the same payback requirement to evaluate all projects, say it
requires a payback of 4 years or less, then the company will tend to reject
projects with relatively short lives and accept long-lived projects, and this will
cause its risk to increase over time.
2 points
Question 8
Which of the following statements is CORRECT?
Answer
The NPV, IRR, MIRR, and discounted payback (using a payback requirement of 3
years or less) methods always lead to the same accept/reject decisions for
independent projects.
For mutually exclusive projects with normal cash flows, the NPV and MIRR
methods can never conflict, but their results could conflict with the discounted
payback and the regular IRR methods.
Multiple IRRs can exist, but not multiple MIRRs. This is one reason some people
favor the MIRR over the regular IRR.
If a firm uses the discounted payback method with a required payback of 4 years,
then it will accept more projects than if it used a regular payback of 4 years.

5. The percentage difference between the MIRR and the IRR is equal to the
project’s WACC.
2 points
Question 9
Which of the following statements is CORRECT? Assume that the project being
considered has normal cash flows, with one outflow followed by a series of
inflows.
Answer
A project’s NPV is generally found by compounding the cash inflows at the
WACC to find the terminal value (TV), then discounting the TV at the IRR to find
its PV.
The higher the WACC used to calculate the NPV, the lower the calculated NPV
will be.
If a project’s NPV is greater than zero, then its IRR must be less than the WACC.
If a project’s NPV is greater than zero, then its IRR must be less than zero.
The NPVs of relatively risky projects should be found using relatively low WACCs.
2 points
Question 10
Which of the following statements is CORRECT?
Answer
The NPV method assumes that cash flows will be reinvested at the WACC, while
the IRR method assumes reinvestment at the IRR.
The NPV method assumes that cash flows will be reinvested at the risk-free rate,
while the IRR method assumes reinvestment at the IRR.
The NPV method assumes that cash flows will be reinvested at the WACC, while
the IRR method assumes reinvestment at the risk-free rate.
The NPV method does not consider all relevant cash flows, particularly cash
flows beyond the payback period.
The IRR method does not consider all relevant cash flows, particularly cash flows
beyond the payback period.

6. 2 points
Question 11
Which of the following statements is CORRECT? Assume that the project being
considered has normal cash flows, with one outflow followed by a series of
inflows.
Answer
A project’s regular IRR is found by compounding the initial cost at the WACC to
find the terminal value (TV), then discounting the TV at the WACC.
A project’s regular IRR is found by compounding the cash inflows at the WACC to
find the present value (PV), then discounting the TV to find the IRR.
If a project’s IRR is smaller than the WACC, then its NPV will be positive.
A project’s IRR is the discount rate that causes the PV of the inflows to equal the
project’s cost.
If a project’s IRR is positive, then its NPV must also be positive.
2 points
Question 12
Projects C and D are mutually exclusive and have normal cash flows. Project C
has a higher NPV if the WACC is less than 12%, whereas Project D has a higher
NPV if the WACC exceeds 12%. Which of the following statements is
CORRECT?
Answer
Project D probably has a higher IRR.
Project D is probably larger in scale than Project C.
Project C probably has a faster payback.
Project C probably has a higher IRR.
The crossover rate between the two projects is below 12%.
2 points
Question 13

7. Projects S and L are equally risky, mutually exclusive, and have normal cash
flows. Project S has an IRR of 15%, while Project L’s IRR is 12%. The two
projects have the same NPV when the WACC is 7%. Which of the following
statements is CORRECT?
Answer
If the WACC is 10%, both projects will have positive NPVs.
If the WACC is 6%, Project S will have the higher NPV.
If the WACC is 13%, Project S will have the lower NPV.
If the WACC is 10%, both projects will have a negative NPV.
Project S’s NPV is more sensitive to changes in WACC than Project L's.
2 points
Question 14
Which of the following statements is CORRECT?
Answer
An NPV profile graph shows how a project’s payback varies as the cost of capital
changes.
The NPV profile graph for a normal project will generally have a positive (upward)
slope as the life of the project increases.
An NPV profile graph is designed to give decision makers an idea about how a
project’s risk varies with its life.
An NPV profile graph is designed to give decision makers an idea about how a
project’s contribution to the firm’s value varies with the cost of capital.
We cannot draw a project’s NPV profile unless we know the appropriate WACC
for use in evaluating the project’s NPV.
2 points
Question 15
Westchester Corp. is considering two equally risky, mutually exclusive projects,
both of which have normal cash flows. Project A has an IRR of 11%, while Project
B's IRR is 14%. When the WACC is 8%, the projects have the same NPV. Given
this information, which of the following statements is CORRECT?

8. Answer
If the WACC is 13%, Project A’s NPV will be higher than Project B’s.
If the WACC is 9%, Project A’s NPV will be higher than Project B’s.
If the WACC is 6%, Project B’s NPV will be higher than Project A’s.
If the WACC is greater than 14%, Project A’s IRR will exceed Project B’s.
If the WACC is 9%, Project B’s NPV will be higher than Project A’s.
2 points
Question 16
Rowell Company spent $3 million two years ago to build a plant for a new
product. It then decided not to go forward with the project, so the building is
available for sale or for a new product. Rowell owns the building free and clear--
there is no mortgage on it. Which of the following statements is CORRECT?
Answer
Since the building has been paid for, it can be used by another project with no
additional cost. Therefore, it should not be reflected in the cash flows for any new
project.
If the building could be sold, then the after-tax proceeds that would be generated
by any such sale should be charged as a cost to any new project that would use
it.
This is an example of an externality, because the very existence of the building
affects the cash flows for any new project that Rowell might consider.
Since the building was built in the past, its cost is a sunk cost and thus need not
be considered when new projects are being evaluated, even if it would be used
by those new projects.
If there is a mortgage loan on the building, then the interest on that loan would
have to be charged to any new project that used the building.
2 points
Question 17
Which of the following rules is CORRECT for capital budgeting analysis?
Answer

9. The interest paid on funds borrowed to finance a project must be included in
estimates of the project’s cash flows.
Only incremental cash flows, which are the cash flows that would result if a
project is accepted, are relevant when making accept/reject decisions.
Sunk costs are not included in the annual cash flows, but they must be deducted
from the PV of the project’s other costs when reaching the accept/reject decision.
A proposed project’s estimated net income as determined by the firm’s
accountants, using generally accepted accounting principles (GAAP), is
discounted at the WACC, and if the PV of this income stream exceeds the
project’s cost, the project should be accepted.
If a product is competitive with some of the firm’s other products, this fact should
be incorporated into the estimate of the relevant cash flows. However, if the new
product is complementary to some of the firm’s other products, this fact need not
be reflected in the analysis.
2 points
Question 18
A firm is considering a new project whose risk is greater than the risk of the firm’s
average project, based on all methods for assessing risk. In evaluating this
project, it would be reasonable for management to do which of the following?
Answer
Increase the estimated IRR of the project to reflect its greater risk.
Increase the estimated NPV of the project to reflect its greater risk.
Reject the project, since its acceptance would increase the firm’s risk.
Ignore the risk differential if the project would amount to only a small fraction of
the firm’s total assets.
Increase the cost of capital used to evaluate the project to reflect its higher-than-
average risk.
2 points
Question 19
Dalrymple Inc. is considering production of a new product. In evaluating whether
to go ahead with the project, which of the following items should NOT be explicitly
considered when cash flows are estimated?

10. Answer
The company will produce the new product in a vacant building that was used to
produce another product until last year. The building could be sold, leased to
another company, or used in the future to produce another of the firm’s products.
The project will utilize some equipment the company currently owns but is not
now using. A used equipment dealer has offered to buy the equipment.
The company has spent and expensed for tax purposes $3 million on research
related to the new detergent. These funds cannot be recovered, but the research
may benefit other projects that might be proposed in the future.
The new product will cut into sales of some of the firm’s other products.
If the project is accepted, the company must invest $2 million in working capital.
However, all of these funds will be recovered at the end of the project’s life.
2 points
Question 20
Which of the following statements is CORRECT?
Answer
Using accelerated depreciation rather than straight line would normally have no
effect on a project’s total projected cash flows but it would affect the timing of the
cash flows and thus the NPV.
Under current laws and regulations, corporations must use straight-line
depreciation for all assets whose lives are 5 years or longer.
Corporations must use the same depreciation method (e.g., straight line or
accelerated) for stockholder reporting and tax purposes.
Since depreciation is not a cash expense, it has no effect on cash flows and thus
no effect on capital budgeting decisions.
Under accelerated depreciation, higher depreciation charges occur in the early
years, and this reduces the early cash flows and thus lowers a project’s projected
NPV.
2 points
Question 21

11. A company is considering a proposed new plant that would increase productive
capacity. Which of the following statements is CORRECT?
Answer
In calculating the project’s operating cash flows, the firm should not
deduct financing costs such as interest expense, because financing costs are
accounted for by discounting at the WACC. If interest were deducted when
estimating cash flows, this would, in effect, “double count” it.
Since depreciation is a non-cash expense, the firm does not need to deal with
depreciation when calculating the operating cash flows.
When estimating the project’s operating cash flows, it is important to include both
opportunity costs and sunk costs, but the firm should ignore the cash flow effects
of externalities since they are accounted for in the discounting process.
Capital budgeting decisions should be based on before-tax cash flows.
The WACC used to discount cash flows in a capital budgeting analysis should be
calculated on a before-tax basis.
2 points
Question 22
Which of the following statements is CORRECT?
Answer
A sunk cost is any cost that must be expended in order to complete a project and
bring it into operation.
A sunk cost is any cost that was expended in the past but can be recovered if the
firm decides not to go forward with the project.
A sunk cost is a cost that was incurred and expensed in the past and cannot be
recovered if the firm decides not to go forward with the project.
Sunk costs were formerly hard to deal with but now that the NPV method is
widely used, it is possible to simply include sunk costs in the cash flows and then
calculate the PV of the project.
A good example of a sunk cost is a situation where Home Depot opens a new
store, and that leads to a decline in sales of one of the firm’s existing stores.
2 points

12. Question 23
Currently, Powell Products has a beta of 1.0, and its sales and profits are
positively correlated with the overall economy. The company estimates that a
proposed new project would have a higher standard deviation and coefficient of
variation than an average company project. Also, the new project’s sales would
be countercyclical in the sense that they would be high when the overall economy
is down and low when the overall economy is strong. On the basis of this
information, which of the following statements is CORRECT?
Answer
The proposed new project would have more stand-alone risk than the firm’s
typical project.
The proposed new project would increase the firm’s corporate risk.
The proposed new project would increase the firm’s market risk.
The proposed new project would not affect the firm’s risk at all.
The proposed new project would have less stand-alone risk than the firm’s typical
project.
2 points
Question 24
Which of the following should be considered when a company estimates the cash
flows used to analyze a proposed project?
Answer
The new project is expected to reduce sales of one of the company’s existing
products by 5%.
Since the firm’s director of capital budgeting spent some of her time last year to
evaluate the new project, a portion of her salary for that year should be charged
to the project’s initial cost.
The company has spent and expensed $1 million on R&D associated with the
new project.
The company spent and expensed $10 million on a marketing study before its
current analysis regarding whether to accept or reject the project.
The firm would borrow all the money used to finance the new project, and the
interest on this debt would be $1.5 million per year.

13. 2 points
Question 25
Which of the following statements is CORRECT?
Answer
Sensitivity analysis is a good way to measure market risk because it explicitly
takes into account diversification effects.
One advantage of sensitivity analysis relative to scenario analysis is that it
explicitly takes into account the probability of specific effects occurring, whereas
scenario analysis cannot account for probabilities.
Well-diversified stockholders do not need to consider market risk when
determining required rates of return.
Market risk is important, but it does not have a direct effect on stock prices
because it only affects beta.
Simulation analysis is a computerized version of scenario analysis where input
variables are selected randomly on the basis of their probability distributions.
2 points
Question 26
Which of the following statements is CORRECT?
Answer
Sensitivity analysis as it is generally employed is incomplete in that it fails to
consider the probability of occurrence of the key input variables.
In comparing two projects using sensitivity analysis, the one with the steeper lines
would be considered less risky, because a small error in estimating a variable
such as unit sales would produce only a small error in the project’s NPV.
The primary advantage of simulation analysis over scenario analysis is that
scenario analysis requires a relatively powerful computer, coupled with an
efficient financial planning software package, whereas simulation analysis can be
done efficiently using a PC with a spreadsheet program or even with just a
calculator.
Sensitivity analysis is a type of risk analysis that considers both the sensitivity of
NPV to changes in key input variables and the probability of occurrence of these
variables’ values.

14. As computer technology advances, simulation analysis becomes increasingly
obsolete and thus less likely to be used as compared to sensitivity analysis.
2 points
Question 27
Langston Labs has an overall (composite) WACC of 10%, which reflects the cost
of capital for its average asset. Its assets vary widely in risk, and Langston
evaluates low-risk projects with a WACC of 8%, average-risk projects at 10%,
and high-risk projects at 12%. The company is considering the following projects:
Project Risk Expected Return
A High 15%
B Average 12%
C High 11%
D Low 9%
E Low 6%
Which set of projects would maximize shareholder wealth?
Answer
A and B.
A, B, and C.
A, B, and D.
A, B, C, and D.
A, B, C, D, and E.
2 points
Question 28
Which of the following is NOT a relevant cash flow and thus should not be
reflected in the analysis of a capital budgeting project?
Answer
Changes in net working capital.

15. Shipping and installation costs.
Cannibalization effects.
Opportunity costs.
Sunk costs that have been expensed for tax purposes.
2 points
Question 29
Which of the following statements is CORRECT?
Answer
If a firm is found guilty of cannibalization in a court of law, then it is judged to have
taken unfair advantage of its competitors. Thus, cannibalization is dealt with by
society through the antitrust laws.
If a firm is found guilty of cannibalization in a court of law, then it is judged to have
taken unfair advantage of its customers. Thus, cannibalization is dealt with by
society through the antitrust laws.
If cannibalization exists, then the cash flows associated with the project must be
increased to offset these effects. Otherwise, the calculated NPV will be biased
downward.
If cannibalization is determined to exist, then this means that the calculated NPV
if cannibalization is considered will be higher than the NPV if this effect is not
recognized.
Cannibalization, as described in the text, is a type of externality that is not against
the law, and any harm it causes is done to the firm itself.
2 points
Question 30
When evaluating a new project, firms should include in the projected cash flows
all of the following EXCEPT:
Answer
Changes in net working capital attributable to the project.
Previous expenditures associated with a market test to determine the feasibility of
the project, provided those costs have been expensed for tax purposes.

16. The value of a building owned by the firm that will be used for this project.
A decline in the sales of an existing product, provided that decline is directly
attributable to this project.
The salvage value of assets used for the project that will be recovered at the end
of the project’s life.