Capital Investments quiz

What type of project is most likely to yield new revenues for a company ?

Bouchard Industries is a Canadian company that manufactures gutters for residential houses. Its management believes it has developed a new process that produces a superior product. The company must make an initial investment of CAD190 million to begin production. If demand is high, cash flows are expected to be CAD40 million per year. If demand is low, cash flows will be only CAD20 million per year. Management believes there is an equal chance that demand will be high or low. The investment, which has an investment horizon of ten years, also gives the company a production-flexibility option allowing the company to add shifts at the end of the first year if demand turns out to be high. If the company exercises this option, net cash flows would increase by an additional CAD5 million in Years 2–10. Bouchard’s opportunity cost of funds is 10%.

The internal auditor for Bouchard Industries has made two suggestions for improving capital allocation processes at the company. The internal auditor’s suggestions are as follows:

Suggestion 1: “In order to treat all capital allocation proposals in a fair manner, the investments should all use the risk-free rate for the required rate of return.”

Suggestion 2: “When rationing capital, it is better to choose the portfolio of investments that maximizes the company NPV than the portfolio that maximizes the company IRR ” .

Should the capital allocation committee accept the internal auditor’s suggestions ?

Which of the following steps is least likely to be a step in the capital allocation process ?

Garner Corporation is investing $30 million in new capital equipment. The present value of future after-tax cash flows generated by the equipment is estimated to be $50 million. Currently, Garner has a stock price of $28.00 per share with 8 million shares outstanding. Assuming that this project represents new information and is independent of other expectations about the company, what should the effect of the project theoretically be on the firm's stock price ?

The Bearing Corp. invests only in positive NPV projects. Which of the following statements is true ?

Fullen Machinery is investing $400 million in new industrial equipment. The present value of the future after-tax cash flows resulting from the equipment is $700 million. Fullen currently has 200 million shares of common stock outstanding, with a current market price of $36 per share. Assuming that this project is new information and is independent of other expectations about the company, what is the theoretical effect of the new equipment on Fullen’s stock price?

The stock price will :

When a new project reduces the cash flows of an existing project of the same firm, it is best described as a(n) :

When dealing with mutually exclusive projects, the most reliable decision rule is :

In the capital allocation process, a post-audit is used to :

An analyst is estimating the NPV of a project to introduce a new spicier version of its wellknown barbeque sauce into its product line. A cost that should most likely be excluded from his analysis is :

Polington Aircraft Co. just announced a sale of 30 aircraft to Cuba, a project with a net present value of $10 million. Investors did not anticipate the sale because government approval to sell to Cuba had never before been granted. The share price of Polington should theoretically :

Financing costs for a capital project are :

Kim Corporation is considering an investment of  750 million with expected after-tax cash inflows of  175 million per year for seven years. The required rate of return is 10 %. What is the investment’s :

An analyst has gathered the following data about a company with a 12% cost of capital :

If the projects are independent, what should the company do?

A company is considering moving its manufacturing facilities to either Texas or South Carolina to decrease taxes and labor costs. After estimating all the relevant incremental after-tax cash flows of each move, an analyst estimates the IRR of a move to Texas to be 13% and the IRR of a move to South Carolina to be 15%. If the appropriate discount rate to evaluate the moves is 14%, the analyst :

A project has the following annual cash flows :

Which of the following discount rates most likely produces the highest net present value (NPV) ?

Bouchard Industries is a Canadian company that manufactures gutters for residential houses. Its management believes it has developed a new process that produces a superior product. The company must make an initial investment of CAD 190 million to begin production. If demand is high, cash flows are expected to be CAD 40 million per year. If demand is low, cash flows will be only CAD 20 million per year. Management believes there is an equal chance that demand will be high or low. The investment, which has an investment horizon of ten years, also gives the company a production-flexibility option allowing the company to add shifts at the end of the first year if demand turns out to be high. If the company exercises this option, net cash flows would increase by an additional CAD 5 million in Years 2–10. Bouchard’s opportunity cost of funds is 10%.

The internal auditor for Bouchard Industries has made two suggestions for improving capital allocation processes at the company. The internal auditor’s suggestions are as follows:

Suggestion 1: “In order to treat all capital allocation proposals in a fair manner, the investments should all use the risk-free rate for the required rate of return.”

Suggestion 2: “When rationing capital, it is better to choose the portfolio of investments that maximizes the company NPV than the portfolio that maximizes the company IRR.”

What is the NPV (CAD millions) of the original project for Bouchard Industries without considering the production-flexibility option ?

Should a company accept a project that has an IRR of 14% and an NPV of $2.8 million if the cost of capital is 12% ?

The financial manager at Genesis Company is looking into the purchase of an apartment complex for $550,000. Net after-tax cash flows are expected to be $65,000 for each of the next five years, then drop to $50,000 for four years. Genesis' required rate of return is 9% on projects of this nature. After nine years, Genesis Company expects to sell the property for after-tax proceeds of $300,000. What is the respective internal rate of return on this project ?

Jack Smith, CFA, is analyzing independent investment projects X and Y. Smith has calculated the net present value (NPV) and internal rate of return (IRR) for each project:

Project X ⇒ NPV = $250; IRR = 15%

Project Y ⇒ NPV = $5,000; IRR = 8%

Smith should make which of the following recommendations concerning the two projects ?

As the director of capital budgeting for Denver Corporation, an analyst is evaluating two mutually exclusive projects with the following net cash flows :

If Denver's cost of capital is 15%, which project should be chosen ?
 

The incremental after-tax cash flows (in € thousands) and information on two mutually exclusive projects are as follows:

The appropriate hurdle rate to use in evaluating the projects is 15%. Which of the following statements is most accurate? The company should accept:

If the calculated net present value (NPV) is negative, which of the following must be correct.

The discount rate used is :

Catherine Ndereba is an energy analyst tasked with evaluating a crude oil exploration and production company. The company previously announced that it plans to embark on a new project to drill for oil offshore. As a result of this announcement, the stock price increased by 10%. After conducting her analysis, Ms. Ndereba concludes that the project does indeed have a positive NPV. Which statement is true ?

The post-audit performed as part of the capital budgeting process is least likely to include the :

A company is considering building a distribution center that will allow it to expand sales into a new region comprising three provinces. John Parker, a firm analyst, has argued that the current analysis fails to incorporate the amount they could get from selling the distribution center at the end of year 2, rather than operating it to the end of the project’s assumed economic life. Parker is suggesting that :

Lincoln Coal is planning a new coal mine, which will cost $430,000 to build. The mine will bring cash inflows of $200,000 annually over the next seven years. It will then cost $170,000 to close down the mine in the following year. Assume all cash flows occur at the end of the year. Alternatively, Lincoln Coal may choose to sell the site today. If Lincoln has a 16% required rate of return, the minimum price they should accept for the property is closest to :

Given a discount rate of 10%, the net present value (NPV) of the following investment is closest to :

Johnson's Jar Lids is deciding whether to begin producing jars. Johnson's pays a consultant $50,000 for market research that concludes Johnson's sales of jar lids will increase by 5% if it also produces jars. In choosing the cash flows to include when evaluating a project to begin producing jars, Johnson's should :

A USD 2.2 million investment will result in the following year-end cash flows :

Using an 8 % opportunity COC, the investment’s NPV is closest to :