QUIZ 11

1.
Which of the following statement completions is incorrect? As compared to straight-line depreciation, for a profitable firm the MACRS allowances produce Possible Answers A. Higher depreciation charges in the early years of an asset's life. B. Larger cash flows in the earlier years. C. Larger total profits from the project over the project's life. D. Smaller accounting profits in the early years, assuming the company uses the same depreciation method for tax and book purposes. E. None of the above (all are correct).

2.
Two corporations are formed. They are identical in all respects except in their methods of depreciation. Firm A uses the MACRS allowances and Firm B uses the optional straightline method. Both firms plan to depreciate their assets over a 5-year MACRS life, but all assets have a 6-year useful life. Both firms pay a 34 percent tax rate. Which of the following statements is not true? Possible Answers A. Firm A will generate higher cash flows from operations in the first year than B. B. Firm B will pay higher federal corporate income taxes in the first year than A. C. If there is no change in tax rates over the 6-year period, the total amount of funds generated from operations by each corporation will be the same. D. Firm A will pay higher federal corporate income taxes in the 5th year than B. E. All of the statements are true.

3.
Suppose a firm's WACC is stated in nominal terms, but the project's cash flows are expressed in real (or current year's) dollars. In this situation, the calculated NPV normally would: Possible Answers A. be correct. B. be biased downward. C. be biased upward. D. possibly have a bias, but it could be upward or downward. E. More information is needed; otherwise, we can make no reasonable statement.

QUIZ 11

4.
Regarding the net present value of a replacement decision, which of the following statements is false? [I] The present value of the after-tax cost reduction benefits resulting from the new investment is treated as an inflow. [II] The after-tax market value of the old equipment is treated as an inflow at t = 0. [III] Interest payment on any loans used to finance the new project will be treated as a cash outflow [IV] Any loss on the sale of the old equipment is multiplied by the tax rate and is treated as an outflow at t = 0, and the larger the loss, the smaller the NPV [V] Any increase in net working capital is treated as an outflow when the project begins and as an inflow when the project ends. Possible Answers A. I, II, V B. II, V C. I, III D. III, IV E. IV, V

5.
Sanford & Son Inc. is thinking about expanding its business by opening another junk shop on a property that was purchased 10 years ago. Which of the following items should be included in the analysis of this project? Possible Answers A. The property was cleared of trees and brush 5 years ago at a cost of $5,000. B. The new shop is expected to affect the profitability of the existing shop since some current customers will transfer their business to the new shop. Sanford and Son estimate that profits at the existing shop will decrease by 10 percent. C. Sanford & Son can lease the entire property to another company (that wants to grow flowers on the lot) for $5,000 per year. D. Both statements b and c should be included in the analysis. E. All of the statements above should be included in the analysis.

6.
For this and the next 4 questions. Mars, Inc. is considering the purchase of a new machine, which will reduce manufacturing costs by $5,000 annually. Mars will use the MACRS (5-year class) method to depreciate the machine, and it expects to sell the machine at the end of its 5-year life for $10,000. The firm expects to be able to reduce net working capital by $15,000 when the machine is installed. Mars' marginal tax rate is 40%, and it uses a 12% cost of capital to evaluate projects of this nature. The machine's price is $60,000. What is the book value of the machine at end of Year 3?

QUIZ 11

Possible Answers A. $48,000 B. $11,400 C. $17,400 D. $10,200

7.
What is the initial net cash flow of the machine (i.e. NCF at t = 0)? Possible Answers A. -$60,000 B. -$45,000 C. -$75,000 D. None of the above

8.
What is the final net cash flow at t = 5? Possible Answers A. $5,640 B. $15,640 C. $13,080 D. -$1,920 E. None of the above

9.
What is the NPV of the project? Possible Answers A. -$15,394 B. -$14,093 C. -$58,512 D. -$21,493 E. None of the above

10.

QUIZ 11

What is the correct MIRR of the project? Possible Answers A. 0% B. -1.22% C. -16.49% D. 12%

11.
Projects P and Q, below, are mutually exclusive and have unequal lives. Project P is a 4year project while Project Q is a 7-year project. The required return for both projects is 15%. The projects' net cash flows are presented below. Using the EAA method, determine which project should be accepted. Project P Project Q

Year
0 1 2 3 4 5 6 7

-$150,000 55,000 55,000 55,000 55,000

-$150,000 40,000 40,000 40,000 40,000 40,000 40,000 40,000

Possible Answers A. Project P, because its EAA is $2,460.20 B. Project Q, because its EAA is $3,945.95 C. Project Q, because it has the higher NPV D. Project Q, because its EAA is $2,460.20 E. Project P, because its EAA is $3,945.95