FM12 CH 11 Test Bank Capital Budget
FM12 CH 11 Test Bank Capital Budget
FM12 CH 11 Test Bank Capital Budget
True/False
Easy:
(11.2) NPV (constant cash flows; 3 years) Answer: a EASY
1
. Edmondson Electric Systems is considering a project that has the
following cash flow and WACC data. What is the project's NPV? Note
that if a project's projected NPV is negative, it should be rejected.
WACC: 10.00%
Year: 0 1 2 3
Cash flows: -$1,000 $500 $500 $500
a. $243.43
b. $255.60
c. $268.38
d. $281.80
e. $295.89
WACC: 10.00%
Year: 0 1 2 3 4
Cash flows: -$1,000 $350 $350 $350 $350
a. $98.78
b. $103.98
c. $109.45
d. $114.93
e. $120.67
WACC: 9.00%
a. $135.94
b. $143.09
c. $150.62
d. $158.55
e. $166.90
Year: 0 1 2 3
Cash flows: -$1,000 $450 $450 $450
a. 15.82%
b. 16.65%
c. 17.48%
d. 18.36%
e. 19.27%
Year: 0 1 2 3 4
Cash flows: -$1,000 $400 $400 $400 $400
a. 15.94%
b. 17.71%
c. 19.68%
d. 21.86%
e. 24.05%
Year: 0 1 2 3 4 5
Cash flows: -$1,000 $325 $325 $325 $325 $325
Year: 0 1 2 3
Cash flows: -$1,000 $500 $500 $500
a. 1.62 years
b. 1.80 years
c. 2.00 years
d. 2.20 years
e. 2.42 years
Easy/Medium:
(11.2) NPV (uneven cash flows; 3 years) Answer: a EASY/MEDIUM
8
. Adler Enterprises is considering a project that has the following cash
flow and WACC data. What is the project's NPV? Note that a project's
projected NPV can be negative, in which case it will be rejected.
WACC: 10.00%
Year: 0 1 2 3
Cash flows: -$1,000 $450 $460 $470
a. $142.37
b. $149.49
c. $156.97
d. $164.82
e. $173.06
(11.2) NPV (uneven cash flows; 3 years) Answer: c EASY/MEDIUM
9
. Babcock Inc. is considering a project that has the following cash flow
and WACC data. What is the project's NPV? Note that a project's
projected NPV can be negative, in which case it will be rejected.
WACC: 10.00%
Year: 0 1 2 3
Cash flows: -$950 $500 $400 $300
WACC: 10.00%
Year: 0 1 2 3 4
Cash flows: -$1,000 $400 $405 $410 $415
a. $190.16
b. $211.29
c. $234.77
d. $260.85
e. $289.84
WACC: 10.00%
Year: 0 1 2 3 4 5
Cash flows: -$1,200 $400 $395 $390 $385 $380
a. $253.81
b. $282.01
c. $310.21
d. $341.23
e. $375.35
Year: 0 1 2 3
Cash flows: -$1,000 $450 $470 $490
Year: 0 1 2 3 4
Cash flows: -$650 $250 $230 $210 $190
a. 14.04%
b. 15.44%
c. 16.99%
d. 18.69%
e. 20.56%
Year: 0 1 2 3 4 5
Cash flows: -$1,000 $300 $295 $290 $285 $270
a. 11.16%
b. 12.40%
c. 13.78%
d. 15.16%
e. 16.68%
WACC: 10.00%
Year: 0 1 2 3
Cash flows: -$800 $350 $350 $350
a. 8.62%
b. 9.58%
c. 10.64%
d. 11.82%
e. 13.14%
WACC: 10.00%
Year: 0 1 2 3 4
Cash flows: -$900 $300 $320 $340 $360
a. 12.61%
b. 14.01%
c. 15.41%
d. 16.95%
e. 18.64%
Year: 0 1 2 3 4 5
Cash flows: -$1,000 $300 $310 $320 $330 $340
a. 2.11 years
b. 2.34 years
c. 2.60 years
d. 2.89 years
e. 3.21 years
WACC: 10.00%
Year: 0 1 2 3
Cash flows: -$1,000 $500 $500 $500
a. 2.12 years
b. 2.35 years
c. 2.59 years
d. 2.85 years
e. 3.13 years
WACC: 10.00%
Year: 0 1 2 3 4
Cash flows: -$1,000 $525 $485 $445 $405
a. 1.72 years
b. 1.92 years
c. 2.13 years
d. 2.36 years
e. 2.60 years
a. $57.18
b. $60.19
c. $63.36
d. $66.69
e. $70.03
a. $72.27
b. $75.88
c. $79.68
d. $83.66
e. $87.85
WACC: 11.00%
0 1 2 3 4
CFS -$1,100 $550 $600 $100 $100
CFL -$2,700 $650 $725 $800 $1,400
a. -$1.60
b. -$1.44
c. -$1.30
d. $0.00
e. $1.60
WACC: 10.00%
Year: 0 1 2 3
Cash flows: -$1,000 $500 $500 $500
NPV = $243.43
WACC: 10.00%
Year: 0 1 2 3 4
Cash flows: -$1,000 $350 $350 $350 $350
NPV = $109.45
WACC: 9.00%
Year: 0 1 2 3 4 5
Cash flows: -$1,000 $300 $300 $300 $300 $300
NPV = $166.90
Year: 0 1 2 3
Cash flows: -$1,000 $450 $450 $450
IRR = 16.65%
Year: 0 1 2 3 4
Cash flows: -$1,000 $400 $400 $400 $400
IRR = 21.86%
Year: 0 1 2 3 4 5
Cash flows: -$1,000 $325 $325 $325 $325 $325
IRR = 18.72%
Year: 0 1 2 3
Cash flows: -$1,000 $500 $500 $500
Cumulative CF -$1,000 -$500 $0 $500
Payback = 2.00 — — 2.00 —
WACC: 10.00%
Year: 0 1 2 3
Cash flows: -$1,000 $450 $460 $470
NPV = $142.37
WACC: 10.00%
Year: 0 1 2 3
Cash flows: -$950 $500 $400 $300
NPV = $60.52
WACC: 10.00%
Year: 0 1 2 3 4
Cash flows: -$1,000 $400 $405 $410 $415
NPV = $289.84
WACC: 10.00%
Year: 0 1 2 3 4 5
Cash flows: -$1,200 $400 $395 $390 $385 $380
NPV = $282.01
Year: 0 1 2 3
Cash flows: -$1,000 $450 $470 $490
IRR = 19.05%
Year: 0 1 2 3 4
Cash flows: -$650 $250 $230 $210 $190
IRR = 14.04%
Year: 0 1 2 3 4 5
Cash flows: -$1,000 $300 $295 $290 $285 $270
IRR = 13.78%
WACC: 10.00%
Year: 0 1 2 3
Cash flows: -$800 $350 $350 $350 TV = Sum of compounded inflows:
Compounded values, FVs: $423.50 $385.00 $350.00 $1,158.50
MIRR = 13.14% Found as discount rate that equates PV of TV to cost, discounted back 3 years @ 10%
MIRR = 13.14% Alternative calculation, using Excel's MIRR function
16. (11.6) MIRR (uneven cash flows; 4 years) Answer: b MEDIUM
WACC: 10.00%
Year: 0 1 2 3 4
Cash flows: -$900 $300 $320 $340 $360 TV = Sum of comp’ed inflows:
Compounded values: $399.30 $387.20 $374.00 $360.00 $1,520.50
MIRR = 14.01% Found as discount rate that equates PV of TV to cost, discounted back 4 years @ 10%
MIRR = 14.01% Alternative calculation, using Excel's MIRR function
Year: 0 1 2 3 4 5
Cash flows: -$1,000 $300 $310 $320 $330 $340
Cumulative CF -$1,000 -$700 -$390 -$70 $260 $600
Payback = 3.21 — — — — 3.21 —
WACC: 10.00%
Year: 0 1 2 3
Cash flows: -$1,000 $500 $500 $500
PV of CFs -$1,000 $455 $413 $376
Cumulative CF -$1,000 -$545 -$132 $243
Payback = 2.35 — — — 2.35
WACC: 10.00%
Year: 0 1 2 3 4
Cash flows: -$1,000 $525 $485 $445 $405
PV of CFs -$1,000 $477 $401 $334 $277
Cumulative CF -$1,000 -$523 -$122 $212 $489
Payback = 2.36 — — — 2.36 —
20. (Comp: 11.2-11.4) NPV vs IRR (constant CFs; 3 years) Answer: d MEDIUM
21. (Comp: 11.2-11.4) NPV vs IRR (uneven CFs; 3 yrs) Answer: a MEDIUM
First, recognize that NPV makes theoretically correct capital budgeting decisions, so the highest NPV tells us how
much value could be added. We calculate the two projects' NPVs, IRRs, and MIRRs. We then see what NPV
would result if the decision were based on the IRR and the MIRR. Under some conditions, MIRR will choose the
project with the higher NPV while the IRR chooses the lower NPV project. Then, the difference between the NPV
is the loss incurred if the IRR criterion is used. Of course, it's possible that both the MIRR and the IRR could
choose the wrong project. This problem shows that that could happen, but does not directly address it.
WACC: 11.000%
0 1 2 3 4 TV MIRR
CFS -$1,100 $550 $600 $100 $100
752.20 739.26 111.00 100.00 $1,702.46 11.5375%
CFL -$2,700 $650 $725 $800 $1,400
888.96 893.27 888.00 1400.00 $4,070.23 10.8062%
With the cash flows given here, the IRR and MIRR will make the same decision with any WACC above 7.895%
but different decisions and thus an advantage to MIRR below that rate. Note also that both the IRR and MIRR
choose the wrong project at WACCs about 7.986%. So, MIRR is better at low rates, but both are wrong at high
rates.
Note that the WACC is not constrained to be less than the crossover point, so there may not be a conflict between
MIRR and IRR, hence following the IRR rule may not result in a loss of value. In that case, the correct answer is
$0.00. Note, though, that both IRR and MIRR can lead to incorrect decisions vis à vis the NPV method.