Finance 201 Brau Exam 4 quiz

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22 questions

About 13 minutes. Every answer comes with the right one.

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All 22 questions

What is the primary goal of capital budgeting?
Answer
To maximize shareholder wealth by selecting profitable projects
Which of the following is included in the initial outlay of a project?
Answer
Increase in net working capital
Differential cash flows are calculated based on accounting profits rather than actual cash generated.
Answer
False
The total cash outflow required at the very beginning of a project is known as the ___.
Answer
initial outlay
How is simplified straight-line depreciation calculated for a project?
Answer
Depreciable basis divided by the asset's useful life
What is the purpose of adding back depreciation to net income when calculating differential cash flows?
Answer
Because depreciation is a non-cash expense and needs to be added back to reflect actual cash generated
The salvage value of an asset is always a cash inflow, regardless of its book value.
Answer
False
The annual incremental cash flows generated by a project are called ___.
Answer
differential cash flows
Which of the following best describes terminal cash flows?
Answer
The cash flows occurring in the final year, including operating cash flow, asset disposal, and NWC recovery
A taxable capital gain occurs when an asset is sold for:
Answer
More than its book value
Net working capital is depreciated over the life of the project.
Answer
False
The estimated market value of an asset at the end of its useful life is its ___.
Answer
salvage value
What is the role of the cost of capital in NPV analysis?
Answer
It represents the minimum required rate of return for the project
If a project has a negative NPV, what does this imply?
Answer
The project is expected to decrease firm value
A higher cost of capital generally makes a project more attractive.
Answer
False
The sum of the present values of all cash flows, discounted at the cost of capital, is the ___.
Answer
Net Present Value
What is the depreciable basis of an asset?
Answer
The asset's original cost plus installation costs
Why is an increase in Net Working Capital (NWC) considered an initial outlay?
Answer
It represents an investment of cash that is tied up in operations and not available for other uses
The NPV calculation considers the time value of money.
Answer
True
What is the primary decision rule when using Net Present Value (NPV)?
Answer
Accept projects with a positive NPV and reject projects with a negative NPV
Explain the three main components of a project's total cash flow stream.
Answer
A project's total cash flow stream consists of three main components: the initial outlay, the annual differential cash flows, and the terminal cash flows. The initial outlay occurs at time 0 and represents all upfront investments. Annual differential cash flows are the incremental cash flows generated by the project over its operating life (years 1 through n-1). Terminal cash flows occur at the end of the project's life (year n) and include the final year's operating cash flow, after-tax proceeds from asset disposal, and the recovery of net working capital.
Describe the NPV decision rule and its implication for firm value.
Answer
The NPV decision rule states that a project should be accepted if its Net Present Value (NPV) is positive and rejected if its NPV is negative. A positive NPV indicates that the project is expected to generate returns exceeding the required rate of return (cost of capital), thereby increasing the value of the firm. Conversely, a negative NPV suggests the project is expected to earn less than the required rate of return and would decrease firm value.