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Clemson Software is considering a new project whose data are shown below. The required equipment has a 3-year tax life, after which it will be worthless, and it will be depreciated by the straight-line method over 3 years. Revenues and other operating costs are expected to be constant over the project's 3-year life. What is the project's Year 1 cash flow?


A) $28,115
B) $28,836
C) $29,575
D) $30,333
E) $31,092

F) A) and C)
G) B) and E)

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Any cash flows that can be classified as incremental to a particular project--i.e., results directly from the decision to undertake the project--should be reflected in the capital budgeting analysis.

A) True
B) False

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We can identify the cash costs and cash inflows to a company that will result from a project. These could be called "direct inflows and outflows," and the net difference is the direct net cash flow. If there are other costs and benefits that do not flow from or to the firm, but to other parties, these are called externalities, and they need not be considered as a part of the capital budgeting analysis.

A) True
B) False

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A company is considering a proposed new plant that would increase productive capacity. Which of the following statements is CORRECT?


A) 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.
B) Since depreciation is a non-cash expense, the firm does not need to deal with depreciation when calculating the operating cash flows.
C) 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.
D) Capital budgeting decisions should be based on before-tax cash flows because WACC is calculated on a before-tax basis.
E) The WACC used to discount cash flows in a capital budgeting analysis should be calculated on a before-tax basis. To do otherwise would bias the NPV upward.

F) C) and D)
G) None of the above

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Your company, CSUS Inc., is considering a new project whose data are shown below. The required equipment has a 3-year tax life, and the accelerated rates for such property are 33%, 45%, 15%, and 7% for Years 1 through 4. Revenues and other operating costs are expected to be constant over the project's 10-year expected operating life. What is the project's Year 4 cash flow?


A) $11,814
B) $12,436
C) $13,090
D) $13,745
E) $14,432

F) A) and E)
G) A) and B)

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Which of the following statements is CORRECT?


A) Sensitivity analysis as it is generally employed is incomplete in that it fails to consider the probability of occurrence of the key input variables.
B) 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.
C) 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.
D) 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.
E) As computer technology advances, simulation analysis becomes increasingly obsolete and thus less likely to be used than sensitivity analysis.

F) D) and E)
G) B) and E)

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Which of the following statements is CORRECT?


A) An externality is a situation where a project would have an adverse effect on some other part of the firm's overall operations. If the project would have a favorable effect on other operations, then this is not an externality.
B) An example of an externality is a situation where a bank opens a new office, and that new office causes deposits in the bank's other offices to decline.
C) The NPV method automatically deals correctly with externalities, even if the externalities are not specifically identified, but the IRR method does not. This is another reason to favor the NPV.
D) Both the NPV and IRR methods deal correctly with externalities, even if the externalities are not specifically identified. However, the payback method does not.
E) Identifying an externality can never lead to an increase in the calculated NPV.

F) C) and E)
G) A) and D)

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Thomson Media is considering some new equipment whose data are shown below. The equipment has a 3-year tax life and would be fully depreciated by the straight-line method over 3 years, but it would have a positive pre-tax salvage value at the end of Year 3, when the project would be closed down. Also, additional net operating working capital would be required, but it would be recovered at the end of the project's life. Revenues and other operating costs are expected to be constant over the project's 3-year life. What is the project's NPV?


A) $20,762
B) $21,854
C) $23,005
D) $24,155
E) $25,363

F) A) and E)
G) A) and D)

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You work for Whittenerg Inc., which is considering a new project whose data are shown below. What is the project's Year 1 cash flow?


A) $25,816
B) $27,175
C) $28,534
D) $29,960
E) $31,458

F) B) and E)
G) C) and D)

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Which one of the following would NOT result in incremental cash flows and thus should NOT be included in the capital budgeting analysis for a new product?


A) A firm has a parcel of land that can be used for a new plant site or be sold, rented, or used for agricultural purposes.
B) A new product will generate new sales, but some of those new sales will be from customers who switch from one of the firm's current products.
C) A firm must obtain new equipment for the project, and $1 million is required for shipping and installing the new machinery.
D) A firm has spent $2 million on research and development associated with a new product. These costs have been expensed for tax purposes, and they cannot be recovered regardless of whether the new project is accepted or rejected.
E) A firm can produce a new product, and the existence of that product will stimulate sales of some of the firm's other products.

F) A) and B)
G) D) and E)

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Temple Corp. is considering a new project whose data are shown below. The equipment that would be used has a 3-year tax life, would be depreciated by the straight-line method over its 3-year life, and would have a zero salvage value. No change in net operating working capital would be required. Revenues and other operating costs are expected to be constant over the project's 3-year life. What is the project's NPV?


A) $15,740
B) $16,569
C) $17,441
D) $18,359
E) $19,325

F) A) and C)
G) C) and D)

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Which of the following statements is CORRECT?


A) Sensitivity analysis is a good way to measure market risk because it explicitly takes into account diversification effects.
B) 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.
C) Well-diversified stockholders do not need to consider market risk when determining required rates of return.
D) Market risk is important, but it does not have a direct effect on stock prices because it only affects beta.
E) Simulation analysis is a computerized version of scenario analysis where input variables are selected randomly on the basis of their probability distributions.

F) A) and D)
G) B) and E)

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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?


A) The proposed new project would have more stand-alone risk than the firm's typical project.
B) The proposed new project would increase the firm's corporate risk.
C) The proposed new project would increase the firm's market risk.
D) The proposed new project would not affect the firm's risk at all.
E) The proposed new project would have less stand-alone risk than the firm's typical project.

F) A) and E)
G) B) and C)

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Which one of the following would NOT result in incremental cash flows and thus should NOT be included in the capital budgeting analysis for a new product?


A) Using some of the firm's high-quality factory floor space that is currently unused to produce the proposed new product. This space could be used for other products if it is not used for the project under consideration.
B) Revenues from an existing product would be lost as a result of customers switching to the new product.
C) Shipping and installation costs associated with a machine that would be used to produce the new product.
D) The cost of a study relating to the market for the new product that was completed last year. The results of this research were positive, and they led to the tentative decision to go ahead with the new product. The cost of the research was incurred and expensed for tax purposes last year.
E) It is learned that land the company owns and would use for the new project, if it is accepted, could be sold to another firm.

F) A) and E)
G) C) and D)

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As a member of UA Corporation's financial staff, you must estimate the Year 1 cash flow for a proposed project with the following data. What is the Year 1 cash flow?


A) $16,351
B) $17,212
C) $18,118
D) $19,071
E) $20,075

F) B) and C)
G) B) and E)

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In cash flow estimation, the existence of externalities should be taken into account if those externalities have any effects on the firm's long-run cash flows.

A) True
B) False

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Aggarwal Enterprises is considering a new project that has a cost of $1,000,000, and the CFO set up the following simple decision tree to show its three most-likely scenarios. The firm could arrange with its work force and suppliers to cease operations at the end of Year 1 should it choose to do so, but to obtain this abandonment option, it would have to make a payment to those parties. How much is the option to abandon worth to the firm?


A) $55.1
B) $58.0
C) $61.0
D) $64.1
E) $67.3

F) All of the above
G) A) and D)

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Fool Proof Software is considering a new project whose data are shown below. The equipment that would be used has a 3-year tax life, and the allowed depreciation rates for such property are 33%, 45%, 15%, and 7% for Years 1 through 4. Revenues and other operating costs are expected to be constant over the project's 10-year expected life. What is the Year 1 cash flow?


A) $30,258
B) $31,770
C) $33,359
D) $35,027
E) $36,778

F) C) and E)
G) B) and D)

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If a firm's projects differ in risk, then one way of handling this problem is to evaluate each project with the appropriate risk-adjusted discount rate.

A) True
B) False

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Suppose Walker Publishing Company is considering bringing out a new finance text whose projected revenues include some revenues that will be taken away from another of Walker's books. The lost sales on the older book are a sunk cost and as such should not be considered in the analysis for the new book.

A) True
B) False

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