Missouri Southern State University

ECON 350

Financial Management

Chapter 10 Quiz

1)The______is the exact amount of time it takes the firm to recover its initial investment.

1. 1. average rate of return
   2. internal rate of return
   3. net present value

D) payback period

2. Among the reasons many firms use the payback period as a guideline in capital investment decisions are all of the following EXCEPT
   1. it gives an implicit consideration to the timing of cash flows.

B) it recognizes cash flows which occur after the payback period.

3. it is a measure of risk exposure.
4. it is easy to calculate.

3. A firm is evaluating a proposal which has an initial investment of $35,000 and has cash flows of $10,000 in year 1, $20,000 in year 2, and $10,000 in year 3. The payback period of the project is
   1. 1 year.
   2. 2 years.
   3. between 1 and 2 years.

D) between 2 and 3 years.

4. A firm is evaluating an investment proposal which has an initial investment of $5,000 and cash flows presently valued at $4,000. The net present value of the investment is                                  .

A) -$1,000

B) $0

C) $1,000

D) $1.25

5. The                              is the discount rate that equates the present value of the cash inflows with the initial investment.
   1. payback period
   2. average rate of return
   3. cost of capital

D) internal rate of return

6. A firm would accept a project with a net present value of zero because

A) the project would maintain the wealth of the firm's owners.

2. the project would enhance the wealth of the firm's owners.
3. the return on the project would be positive.
4. the return on the project would be zero.

7. A firm with a cost of capital of 13 percent is evaluating three capital projects. The internal rates of return are as follows:

Internal rate Project  of Return          

1                         12%

2                         15

3                         13

The firm should                               .

1. 1. accept Project 2 and reject Projects 1 and 3

B) accept Projects 2 and 3 and reject Project 1

3. accept Project 1 and reject Projects 2 and 3
4. accept Project 3 and reject Projects 1 and 2

8. The underlying cause of conflicts in ranking for projects by internal rate of return and net present value methods is

A) the reinvestment rate assumption regarding intermediate cash flows.

2. that neither method explicitly considers the time value of money.
3. the assumption made by the IRR method that intermediate cash flows are reinvested at the cost of capital.
4. the assumption made by the NPV method that intermediate cash flows are reinvested at the internal rate of return.

9. Comparing net present value and internal rate of return analysis
   1. always results in the same ranking of projects.

B) always results in the same accept/reject decision.

3. may give different accept/reject decisions.
4. is only necessary on mutually exclusive projects.

10. In comparing the internal rate of return and net present value methods of evaluation,
    1. internal rate of return is theoretically superior, but financial managers prefer net present value.

B) net present value is theoretically superior, but financial managers prefer to use internal rate of return.

3. financial managers prefer net present value, because it is presented as a rate of return.
4. financial managers prefer net present value, because it measures benefits relative to the amount invested.