Capital Budgeting Midterm Exam Question Section

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Please underline the correct answer below. You may include an explanation if you think the question is tricky-but do not do this very often.  Thank you and Good Luck.

1. True or False Opportunity costs are relevant to the capital budgeting decision. 

2. True or False Accrual basis income and cash basis income are often the same amount for each period. 

3. True or False Building are classified into one of 6 class lives and depreciated by the MACRS tables. 

4. True or False Per IRS depreciation rules, equipment is classified into one of eight life categories and depreciated by formula.

5. True or False Some capital investments may require several years of outlays before they begin to generate cash inflows. 

6. True or False Trend analysis is a form of sales forecasting where potential customers are studied. 

7. True or False Competitive markets usually have identical products, and identical cost and one very large producer (with market power)

8. True or False An uninformed customer can be a source of competitive advantage and economic profits.

9. True or False A competitive advantage that last for a short period of time is more valuable than the same competitive advantage that is sustained for a long period of time.

10. True or False Growth without competitive advantage (and a negative NPV) can actually decrease the wealth of the firm.

11. True or False For some products an economic profit may be earned because the customers are less price sensitive (like medical services).

12. True or False Distribution can be a feature that companies use to differentiation their products to improve their chances of establishing a competitive advantage and earning economic profits.

13. True or False Arbitrage insures that equal cash flows (of equal risk) sell at equal prices and unequal cash flows (of equal risk) sell at equal rates of return once arbitrage has worked to adjust the prices.

14. True or False   The NPV is a measure of wealth not risk.

15. True or False   The current yield is a better measure to the long term investor than the yield to maturity.

16. True or False   The major role played by earnings announcements in the valuation of a business (or project) is that earnings announcements are used to revise or refine your forecast of future cash flows.

17. True or False   The difference between the yield to maturity and the yield to call is that yield to maturity is the presumed yield an investor will earn if they hold a bond until it matures. Yield to call is the presumed yield an investor will earn if they buy the bond at the current price and assume that it will be called.

18. True or False The reinvestment rate assumption is important to interpreting the IRR percentage.

19. True or False Ordinary annuities are common with leases and premiums paid to insurance companies because these cash flows usually occur at the beginning of the period.

20. True or False When companies have daily cash flows that occur over the year rather than at any single point in time, the analyst should use midyear cash flow discounting to approximate the daily cash flows.

21. True or False Assuming the same risk, the present value of $100 per year forever is less than the present value of $100 the first year and growing a 4% forever thereafter.

22. True or False Internal rate of return is the preferred method to adjust for unequal lives. 

23. True or False The net present value measures an investment's total contribution to shareholder wealth while the profitability index measures wealth creation per dollar invested.

24. True or False The investment with the highest equivalent annuity will have the highest net present value of total cash flows if all competing investments are repeated to infinity or to a comparable time horizon at which the lives of all competing investments end.

25. True or False XYZ Company is comparing a 10 year project with a 20 year project.  When calculating an equivalent annuity for the project with a 10 year life, XYZ should calculate the present value of the project and divide this NPV by the annuity factor (PVIF) for 20 years.

26. True or False Failure to recognize potential increases in indirect costs will lead to overestimation of the projects profitability.

27. True or False All single amount problems involve finding either-- the present value, the future value, the rate of return, or the number of periods.

28. True or False Annuity dues are constant and consistent payments that occur at the end of each investment period.

29. True or False Businesses in highly competitive markets typically have a positive accounting profit and but not a positive economic profit. 

30. True or False Competitive advantage is the elimination of some of the conditions for perfect competition so that economic profit is possible. 

31. True or False Capital budgeting much like strategic planning begins with the establishing of goals.

32. True or False To continue delivering their missions, many non-profit organizations (while working for social causes) seek to maintain or increase wealth as if they were profit seeking businesses.

33. True or False It is uncommon for different stages of the value chain (from the purchase of raw materials, producing the product, to selling the product) to be performed in different part of the world.

34. True or False A payback period of 4 is better than a payback period of 6. 

35. True or False Sunk costs are associated with past expenditures and are therefore relevant to the capital budgeting decision. 

36. True or False A profitability index of 1.6 is better than a profitability index of 1.4 (all other variables the same) 

37. True or False An IRR of 12% is better than an IRR or 14% (all other variables the same)