CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
1. A firm should never accept a project if its acceptance would lead to an increase in the firm's cost of capital (its WACC).
a. True
b. Fals
e
ANSWER:
False
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
11-1 An Overview of Capital Budgeting
LEARNING OBJECTIV FOFM.BRIG.16.11.01 - An Overview of Capital Budgeting
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
Capital budget
KEYWORDS:
Bloom's: Comprehension
2. Because "present value" refers to the value of cash flows that occur at different points in time, a series of present values
of cash flows should not be summed to determine the value of a capital budgeting project.
a. True
b. Fals
e
ANSWER:
False
POINTS:

1
DIFFICULTY:
EASY
REFERENCES:
11-2 Net Present Value (NPV)
LEARNING OBJECTIV FOFM.BRIG.16.11.02 - Net Present Value (NPV)
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
PV of cash flows
KEYWORDS:
Bloom’s: Knowledge
3. Assuming that their NPVs based on the firm's cost of capital are equal, the NPV of a project whose cash flows accrue
relatively rapidly will be more sensitive to changes in the discount rate than the NPV of a project whose cash flows come
in later in its life.
a. True
b. Fals
e
ANSWER:
False
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
11-2 Net Present Value (NPV)
LEARNING OBJECTIV FOFM.BRIG.16.11.02 - Net Present Value (NPV)

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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
NPV
KEYWORDS:
Bloom's: Comprehension
4. A basic rule in capital budgeting is that if a project's NPV exceeds its IRR, then the project should be accepted.
a. True
b. Fals
e
ANSWER:
False
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
11-2 Net Present Value (NPV)
LEARNING OBJECTIV FOFM.BRIG.16.11.02 - Net Present Value (NPV)
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking

DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
NPV
KEYWORDS:
Bloom’s: Knowledge
5. Conflicts between two mutually exclusive projects occasionally occur, where the NPV method ranks one project higher
but the IRR method puts the other one first. In theory, such conflicts should be resolved in favor of the project with the
higher NPV.
a. True
b. Fals
e
ANSWER:
True
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
11-2 Net Present Value (NPV)
LEARNING OBJECTIV FOFM.BRIG.16.11.02 - Net Present Value (NPV)
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
Mutually exclusive projects
KEYWORDS:

Bloom’s: Knowledge
6. Conflicts between two mutually exclusive projects occasionally occur, where the NPV method ranks one project higher
but the IRR method puts the other one first. In theory, such conflicts should be resolved in favor of the project with the
higher IRR.
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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
a. True
b. Fals
e
ANSWER:
False
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
11-2 Net Present Value (NPV)
LEARNING OBJECTIV FOFM.BRIG.16.11.02 - Net Present Value (NPV)
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
Mutually exclusive projects
KEYWORDS:

Bloom’s: Knowledge
7. The internal rate of return is that discount rate that equates the present value of the cash outflows (or costs) with the
present value of the cash inflows.
a. True
b. Fals
e
ANSWER:
True
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
11-3 Internal Rate of Return (IRR)
LEARNING OBJECTIV FOFM.BRIG.16.11.03 - Internal Rate of Return (IRR)
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
IRR
KEYWORDS:
Bloom’s: Knowledge
8. Other things held constant, an increase in the cost of capital will result in a decrease in a project's IRR.
a. True
b. Fals
e
ANSWER:
False

POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
11-3 Internal Rate of Return (IRR)
LEARNING OBJECTIV FOFM.BRIG.16.11.03 - Internal Rate of Return (IRR)
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
STATE STANDARDS:
TOPICS:
KEYWORDS:

United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
IRR
Bloom's: Comprehension

9. Under certain conditions, a project may have more than one IRR. One such condition is when, in addition to the initial
investment at time = 0, a negative cash flow (or cost) occurs at the end of the project's life.
a. True
b. Fals
e

ANSWER:
True
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
11-4 Multiple Internal Rates of Return
LEARNING OBJECTIV FOFM.BRIG.16.11.04 - Multiple Internal Rates of Return
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
Multiple IRRs
KEYWORDS:
Bloom’s: Knowledge
10. The phenomenon called "multiple internal rates of return" arises when two or more mutually exclusive projects that
have different lives are being compared.
a. True
b. Fals
e
ANSWER:
False
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:

11-4 Multiple Internal Rates of Return
LEARNING OBJECTIV FOFM.BRIG.16.11.04 - Multiple Internal Rates of Return
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
Multiple IRRs
KEYWORDS:
Bloom’s: Knowledge
11. The NPV method is based on the assumption that projects' cash flows are reinvested at the project's risk-adjusted cost
of capital.
a. True
b. Fals
e
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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
ANSWER:
True
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
11-5 Reinvestment Rate Assumptions

LEARNING OBJECTIV FOFM.BRIG.16.11.05 - Reinvestment Rate Assumptions
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
Reinvestment rate assumption
KEYWORDS:
Bloom’s: Knowledge
12. The IRR method is based on the assumption that projects' cash flows are reinvested at the project's risk-adjusted cost
of capital.
a. True
b. Fals
e
ANSWER:
False
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
11-5 Reinvestment Rate Assumptions
LEARNING OBJECTIV FOFM.BRIG.16.11.05 - Reinvestment Rate Assumptions
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:

Reinvestment rate assumption
KEYWORDS:
Bloom’s: Knowledge
13. The NPV method's assumption that cash inflows are reinvested at the cost of capital is generally more reasonable than
the IRR's assumption that cash flows are reinvested at the IRR. This is an important reason why the NPV method is
generally preferred over the IRR method.
a. True
b. Fals
e
ANSWER:
True
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
11-5 Reinvestment Rate Assumptions
LEARNING OBJECTIV FOFM.BRIG.16.11.05 - Reinvestment Rate Assumptions
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
TOPICS:
KEYWORDS:


cost of capital
Reinvestment rate assumption
Bloom’s: Knowledge

14. For a project with one initial cash outflow followed by a series of positive cash inflows, the modified IRR (MIRR)
method involves compounding the cash inflows out to the end of the project's life, summing those compounded cash flows
to form a terminal value (TV), and then finding the discount rate that causes the PV of the TV to equal the project's cost.
a. True
b. Fals
e
ANSWER:
True
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
11-6 Modified Internal Rate of Return (MIRR)
LEARNING OBJECTIV FOFM.BRIG.16.11.06 - Modified Internal Rate of Return (MIRR)
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
Modified IRR
KEYWORDS:
Bloom’s: Knowledge
15. Both the regular and the modified IRR (MIRR) methods have wide appeal to professors, but most business executives

prefer the NPV method to either of the IRR methods.
a. True
b. Fals
e
ANSWER:
False
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
11-6 Modified Internal Rate of Return (MIRR)
LEARNING OBJECTIV FOFM.BRIG.16.11.06 - Modified Internal Rate of Return (MIRR)
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
Modified IRR
KEYWORDS:
Bloom’s: Knowledge
16. When evaluating mutually exclusive projects, the modified IRR (MIRR) always leads to the same capital budgeting
decisions as the NPV method, regardless of the relative lives or sizes of the projects being evaluated.
a. True
b. Fals
e
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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
ANSWER:
False
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
11-6 Modified Internal Rate of Return (MIRR)
LEARNING OBJECTIV FOFM.BRIG.16.11.06 - Modified Internal Rate of Return (MIRR)
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
Modified IRR
KEYWORDS:
Bloom's: Comprehension
17. One advantage of the payback method for evaluating potential investments is that it provides information about a
project's liquidity and risk.
a. True
b. Fals
e
ANSWER:
True
POINTS:
1

DIFFICULTY:
EASY
REFERENCES:
11-8 Payback Period
LEARNING OBJECTIV FOFM.BRIG.16.11.08 - Payback Period
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
Payback period
KEYWORDS:
Bloom’s: Knowledge
18. When considering two mutually exclusive projects, the firm should always select the project whose internal rate of
return is the highest, provided the projects have the same initial cost. This statement is true regardless of whether the
projects can be repeated or not.
a. True
b. Fals
e
ANSWER:
False
RATIONALE: Think about the following equally risky projects. The cost of capital is WACC =
10%.
S
L

0
−1000.00
−1000.00


1
1400.00
378.34

IRRS = 40.0%
IRRL = 30.0%
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2

3

4

5

6

378.34

378.34

378.34

378.34

378.34

NPVS = $272.73

NPVL = $647.77
Page 7


CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
S has the higher IRR, but L has a much higher NPV and is therefore preferable. If
the project could be repeated, though, S would turn out to be better—it would
have both a higher NPV and IRR.

POINTS:
DIFFICULTY:
REFERENCES
:
LEARNING O
BJECTIVES:
NATIONAL ST
ANDARDS:
STATE STAND
ARDS:
TOPICS:
KEYWORDS:

1
MODERATE
11-2 Net Present Value (NPV)
FOFM.BRIG.16.11.02 - Net Present Value (NPV)
United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and cost of
capital
Mutually exclusive projects

Bloom's: Comprehension

19. The primary reason that the NPV method is conceptually superior to the IRR method for evaluating mutually
exclusive investments is that multiple IRRs may exist, and when that happens, we don't know which IRR is relevant.
a. True
b. Fals
e
ANSWER:
False
POINTS:
1
DIFFICULTY:
MODERATE
REFERENCES:
11-5 Reinvestment Rate Assumptions
LEARNING OBJECTIV FOFM.BRIG.16.11.05 - Reinvestment Rate Assumptions
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
NPV and IRR
KEYWORDS:
Bloom's: Comprehension
20. The NPV and IRR methods, when used to evaluate two independent and equally risky projects, will lead to different
accept/reject decisions and thus capital budgets if the projects' IRRs are greater than their costs of capital.
a. True
b. Fals
e

ANSWER:
False
POINTS:
1
DIFFICULTY:
MODERATE
REFERENCES:
11-5 Reinvestment Rate Assumptions
LEARNING OBJECTIV FOFM.BRIG.16.11.05 - Reinvestment Rate Assumptions
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
STATE STANDARDS:
TOPICS:
KEYWORDS:

United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
NPV and IRR
Bloom's: Comprehension

21. The NPV and IRR methods, when used to evaluate two equally risky but mutually exclusive projects, will lead to
different accept/reject decisions and thus capital budgets if the cost of capital at which the projects' NPV profiles cross is
greater than the crossover rate.

a. True
b. Fals
e
ANSWER:
False
POINTS:
1
DIFFICULTY:
MODERATE
REFERENCES:
11-7 NPV Profiles
LEARNING OBJECTIV FOFM.BRIG.16.11.07 - NPV Profiles
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
NPV profiles
KEYWORDS:
Bloom's: Comprehension
22. A conflict will exist between the NPV and IRR methods, when used to evaluate two equally risky but mutually
exclusive projects, if the projects' cost of capital is less than the rate at which the projects' NPV profiles cross.
a. True
b. Fals
e
ANSWER:
True
POINTS:
1

DIFFICULTY:
MODERATE
REFERENCES:
11-7 NPV Profiles
LEARNING OBJECTIV FOFM.BRIG.16.11.07 - NPV Profiles
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
NPV profiles
KEYWORDS:
Bloom's: Comprehension
23. Project S has a pattern of high cash flows in its early life, while Project L has a longer life, with large cash flows late
in its life. Neither has negative cash flows after Year 0, and at the current cost of capital, the two projects have identical
NPVs. Now suppose interest rates and money costs decline. Other things held constant, this change will cause L to
become preferred to S.
a. True
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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
b. Fals
e
ANSWER:
True
POINTS:

1
DIFFICULTY:
MODERATE
REFERENCES:
11-7 NPV Profiles
LEARNING OBJECTIV FOFM.BRIG.16.11.07 - NPV Profiles
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
NPV profiles
KEYWORDS:
Bloom's: Comprehension
24. The regular payback method is deficient in that it does not take account of cash flows beyond the payback period. The
discounted payback method corrects this fault.
a. True
b. Fals
e
ANSWER:
False
RATIONALE: The discounted payback corrects the fault of not considering the timing of cash
flows, but it does not account for after-payback cash flows.
POINTS:
1
DIFFICULTY: MODERATE
REFERENCES: 11-8 Payback Period
LEARNING OB FOFM.BRIG.16.11.08 - Payback Period
JECTIVES:

NATIONAL STA United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
NDARDS:
STATE STANDA United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and cost of
RDS:
capital
TOPICS:
Discounted payback
KEYWORDS: Bloom’s: Knowledge
25. In theory, capital budgeting decisions should depend solely on forecasted cash flows and the opportunity cost of
capital. The decision criterion should not be affected by managers' tastes, choice of accounting method, or the profitability
of other independent projects.
a. True
b. Fals
e
ANSWER:
True
POINTS:
1
DIFFICULTY:
MODERATE
REFERENCES:
11-9 Conclusions on Capital Budgeting Methods
LEARNING OBJECTIV FOFM.BRIG.16.11.09 - Conclusions on Capital Budgeting Methods
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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
ES:

NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
Ranking methods
KEYWORDS:
Bloom’s: Knowledge
26. If you were evaluating two mutually exclusive projects for a firm with a zero cost of capital, the payback method and
NPV method would always lead to the same decision on which project to undertake.
a. True
b. Fals
e
ANSWER:
False
One project might have cash flows that extend well past the payback year,
RATIONALE:
leading to different rankings.

POINTS:
1
DIFFICULTY:
MODERATE
REFERENCES:
11-9 Conclusions on Capital Budgeting Methods
LEARNING OBJEC FOFM.BRIG.16.11.09 - Conclusions on Capital Budgeting Methods
TIVES:
NATIONAL STAND United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
ARDS:
STATE STANDARDS United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and cost

:
of capital
TOPICS:
Ranking methods
KEYWORDS:
Bloom's: Comprehension
27. Small businesses make less use of DCF capital budgeting techniques than large businesses. This may reflect a lack of
knowledge on the part of small firms' managers, but it may also reflect a rational conclusion that the costs of using DCF
analysis outweigh the benefits of these methods for very small firms.
a. True
b. Fals
e
ANSWER:
True
POINTS:
1
DIFFICULTY:
MODERATE
REFERENCES:
11-10 Decision Criteria Used in Practice
LEARNING OBJECTIV FOFM.BRIG.16.11.10 - Decision Criteria Used in Practice
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
Small business practices
KEYWORDS:
Bloom's: Comprehension

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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
28. An increase in the firm's WACC will decrease projects' NPVs, which could change the accept/reject decision for any
potential project. However, such a change would have no impact on projects' IRRs. Therefore, the accept/reject decision
under the IRR method is independent of the cost of capital.
a. True
b. Fals
e
ANSWER:
False
POINTS:
1
DIFFICULTY:
MODERATE
REFERENCES:
Comprehensive
LEARNING OBJECTIV FOFM.BRIG.16.11.00 - Comprehensive
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
NPV and IRR
KEYWORDS:
Bloom's: Comprehension

29. The IRR of normal Project X is greater than the IRR of normal Project Y, and both IRRs are greater than zero. Also,
the NPV of X is greater than the NPV of Y at the cost of capital. If the two projects are mutually exclusive, Project X
should definitely be selected, and the investment made, provided we have confidence in the data. Put another way, it is
impossible to draw NPV profiles that would suggest not accepting Project X.
a. True
b. Fals
e
ANSWER:
False
RATIONALE: Project X may have a negative NPV if r > IRR. The NPV profile line crosses the
horizontal axis, and the NPV at the cost of capital is in the lower right quadrant.

POINTS:
DIFFICULTY:
REFERENCES
:
LEARNING O
BJECTIVES:
NATIONAL ST
ANDARDS:
STATE STAND

1
CHALLENGING
11-7 NPV Profiles
FOFM.BRIG.16.11.07 - NPV Profiles
United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and cost of

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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
ARDS:
capital
TOPICS:
NPV profiles
KEYWORDS: Bloom's: Comprehension
30. Normal Projects S and L have the same NPV when the discount rate is zero. However, Project S's cash flows come in
faster than those of L. Therefore, we know that at any discount rate greater than zero, L will have the higher NPV.
a. True
b. Fals
e
ANSWER:
False
We can see from the graph that S has the higher NPV if r > 0.
RATIONALE:

POINTS:
1
DIFFICULTY:
CHALLENGING
REFERENCES:
11-7 NPV Profiles
LEARNING OBJECTIV FOFM.BRIG.16.11.07 - NPV Profiles
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
DS:

STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
NPV profiles
KEYWORDS:
Bloom's: Comprehension
31. If the IRR of normal Project X is greater than the IRR of mutually exclusive (and also normal) Project Y, we can
conclude that the firm should always select X rather than Y if X has NPV > 0.
a. True
b. Fals
e
ANSWER:
False
RATIONALE: We do not know if the cost of capital is to the right or left of the crossover point.
Therefore, NPVX may be either higher or lower than NPVY.

POINTS:
1
DIFFICULTY: CHALLENGING
REFERENCES: 11-7 NPV Profiles
LEARNING OB FOFM.BRIG.16.11.07 - NPV Profiles
JECTIVES:
NATIONAL STA United States - BUSPROG.FOFM.BRIG.16.06 - Reflective thinking
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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
NDARDS:

STATE STANDA United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and cost of
RDS:
capital
TOPICS:
NPV profiles
KEYWORDS: Bloom's: Comprehension
32. Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows,
with one outflow followed by a series of inflows.
a. A project's NPV is found by compounding the cash inflows at the IRR to find the
terminal value (TV), then discounting the TV at the WACC.
b.The lower the WACC used to calculate it, the lower the calculated NPV will be.
c. If a project's NPV is less than zero, then its IRR must be less than the WACC.
d.If a project's NPV is greater than zero, then its IRR must be less than zero.
e. The NPV of a relatively low-risk project should be found using a relatively high
WACC.
ANSWER:
c
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
11-2 Net Present Value (NPV)
LEARNING OBJECTIV FOFM.BRIG.16.11.02 - Net Present Value (NPV)
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:

NPV
KEYWORDS:
Bloom's: Comprehension
OTHER:
Multiple Choice: Conceptual
33. Which of the following statements is CORRECT?
a. One defect of the IRR method is that it does not take account of cash flows over a
project's full life.
b.One defect of the IRR method is that it does not take account of the time value of
money.
c. One defect of the IRR method is that it does not take account of the cost of capital.
d.One defect of the IRR method is that it values a dollar received today the same as a
dollar that will not be received until sometime in the future.
e. One defect of the IRR method is that it assumes that the cash flows to be received
from a project can be reinvested at the IRR itself, and that assumption is often not
valid.
ANSWER:
e
RATIONALE: The IRR assumes reinvestment at the IRR, and that is generally not as valid as

assuming reinvestment at the WACC, which is the reinvestment rate assumption
of the NPV method.

POINTS:
1
DIFFICULTY: EASY
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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
REFERENCES
:
LEARNING O
BJECTIVES:
NATIONAL ST
ANDARDS:
STATE STAND
ARDS:
TOPICS:
KEYWORDS:
OTHER:

11-3 Internal Rate of Return (IRR)
FOFM.BRIG.16.11.03 - Internal Rate of Return (IRR)
United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills
United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and cost of
capital
IRR
Bloom's: Comprehension
Multiple Choice: Conceptual

34. Which of the following statements is CORRECT?
a. One defect of the IRR method versus the NPV is that the IRR does not take account of
cash flows over a project's full life.
b.One defect of the IRR method versus the NPV is that the IRR does not take account of
the time value of money.
c. One defect of the IRR method versus the NPV is that the IRR does not take account of
the cost of capital.

d.One defect of the IRR method versus the NPV is that the IRR values a dollar received
today the same as a dollar that will not be received until sometime in the future.
e. One defect of the IRR method versus the NPV is that the IRR does not take proper
account of differences in the sizes of projects.
ANSWER:
e
RATIONALE: The IRR would rank a project that cost $100 and had a 100% IRR ahead of a

project that cost $1,000,000 and had an IRR of 90%. The larger project would
increase the firm's value more, as the NPV would demonstrate.

POINTS:
DIFFICULTY:
REFERENCES
:
LEARNING O
BJECTIVES:
NATIONAL ST
ANDARDS:
STATE STAND
ARDS:
TOPICS:
KEYWORDS:
OTHER:

1
EASY
11-3 Internal Rate of Return (IRR)
FOFM.BRIG.16.11.03 - Internal Rate of Return (IRR)
United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills

United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and cost of
capital
IRR
Bloom's: Comprehension
Multiple Choice: Conceptual

35. Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows,
with one outflow followed by a series of inflows.
a. A project's regular IRR is found by compounding the cash inflows at the WACC to
find the terminal value (TV), then discounting this TV at the WACC.
b.A project's regular IRR is found by discounting the cash inflows at the WACC to find
the present value (PV), then compounding this PV to find the IRR.
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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
c. If a project's IRR is greater than the WACC, then its NPV must be negative.
d.To find a project's IRR, we must solve for the discount rate that causes the PV of the
inflows to equal the PV of the project's costs.
e. To find a project's IRR, we must find a discount rate that is equal to the WACC.
ANSWER:
d
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
11-3 Internal Rate of Return (IRR)

LEARNING OBJECTIV FOFM.BRIG.16.11.03 - Internal Rate of Return (IRR)
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
IRR
KEYWORDS:
Bloom's: Comprehension
OTHER:
Multiple Choice: Conceptual
36. Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows,
with one outflow followed by a series of inflows.
a. A project's regular IRR is found by compounding the initial cost at the WACC to find
the terminal value (TV), then discounting the TV at the WACC.
b.A project's regular IRR is found by compounding the cash inflows at the WACC to
find the present value (PV), then discounting the TV to find the IRR.
c. If a project's IRR is smaller than the WACC, then its NPV will be positive.
d.A project's IRR is the discount rate that causes the PV of the inflows to equal the
project's cost.
e. If a project's IRR is positive, then its NPV must also be positive.
ANSWER:
d
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
11-3 Internal Rate of Return (IRR)

LEARNING OBJECTIV FOFM.BRIG.16.11.03 - Internal Rate of Return (IRR)
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
IRR
KEYWORDS:
Bloom's: Comprehension
OTHER:
Multiple Choice: Conceptual
37. Which of the following statements is CORRECT?
a. If a project has "normal" cash flows, then its IRR must be positive.
b.If a project has "normal" cash flows, then its MIRR must be positive.
c. If a project has "normal" cash flows, then it will have exactly two real IRRs.
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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
d.The definition of "normal" cash flows is that the cash flow stream has one or more
negative cash flows followed by a stream of positive cash flows and then one negative
cash flow at the end of the project's life.
e. If a project has "normal" cash flows, then it can have only one real IRR, whereas a
project with "nonnormal" cash flows might have more than one real IRR.
ANSWER:
e
POINTS:

1
DIFFICULTY:
EASY
REFERENCES:
11-4 Multiple Internal Rates of Return
LEARNING OBJECTIV FOFM.BRIG.16.11.04 - Multiple Internal Rates of Return
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
Normal vs. nonnormal CFs
KEYWORDS:
Bloom's: Comprehension
OTHER:
Multiple Choice: Conceptual
38. Which of the following statements is CORRECT?
a. Projects with "normal" cash flows can have only one real IRR.
b.Projects with "normal" cash flows can have two or more real IRRs.
c. Projects with "normal" cash flows must have two changes in the sign of the cash
flows, e.g., from negative to positive to negative. If there are more than two sign
changes, then the cash flow stream is "nonnormal."
d.The "multiple IRR problem" can arise if a project's cash flows are "normal."
e. Projects with "nonnormal" cash flows are almost never encountered in the real world.
ANSWER:
a
POINTS:
1
DIFFICULTY:

EASY
REFERENCES:
11-4 Multiple Internal Rates of Return
LEARNING OBJECTIV FOFM.BRIG.16.11.04 - Multiple Internal Rates of Return
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
Normal vs. nonnormal CFs
KEYWORDS:
Bloom's: Comprehension
OTHER:
Multiple Choice: Conceptual
39. Which of the following statements is CORRECT?
a. The regular payback method recognizes all cash flows over a project's life.
b.The discounted payback method recognizes all cash flows over a project's life, and it
also adjusts these cash flows to account for the time value of money.
c. The regular payback method was, years ago, widely used, but virtually no companies
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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
even calculate the payback today.
d.The regular payback is useful as an indicator of a project's liquidity because it gives
managers an idea of how long it will take to recover the funds invested in a project.
e. The regular payback does not consider cash flows beyond the payback year, but the

discounted payback overcomes this defect.
ANSWER:
d
RATIONALE: Statement d is true. The payback does indicate how long it should take to
recover the investment; hence, it is a measure of liquidity.

POINTS:
1
DIFFICULTY: EASY
REFERENCES: 11-8 Payback Period
LEARNING OBJ FOFM.BRIG.16.11.08 - Payback Period
ECTIVES:
NATIONAL STA United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills
NDARDS:
STATE STANDA United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and cost of
RDS:
capital
TOPICS:
Payback
KEYWORDS: Bloom's: Comprehension
OTHER:
Multiple Choice: Conceptual
40. Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows,
with one outflow followed by a series of inflows.
a. The longer a project's payback period, the more desirable the project is normally
considered to be by this criterion.
b.One drawback of the payback criterion for evaluating projects is that this method does
not properly account for the time value of money.
c. If a project's payback is positive, then the project should be rejected because it must
have a negative NPV.

d.The regular payback ignores cash flows beyond the payback period, but the discounted
payback method overcomes this problem.
e. If a company uses the same payback requirement to evaluate all projects, say it
requires a payback of 4 years or less, then the company will tend to reject projects with
relatively short lives and accept long-lived projects, and this will cause its risk to
increase over time.
ANSWER:
b
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
11-8 Payback Period
LEARNING OBJECTIV FOFM.BRIG.16.11.08 - Payback Period
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
Payback
KEYWORDS:
Bloom's: Comprehension
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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING

OTHER:

Multiple Choice: Conceptual

41. Which of the following statements is CORRECT?
a. The shorter a project's payback period, the less desirable the project is normally
considered to be by this criterion.
b.One drawback of the payback criterion is that this method does not take account of
cash flows beyond the payback period.
c. If a project's payback is positive, then the project should be accepted because it must
have a positive NPV.
d.The regular payback ignores cash flows beyond the payback period, but the discounted
payback method overcomes this problem.
e. One drawback of the discounted payback is that this method does not consider the time
value of money, while the regular payback overcomes this drawback.
ANSWER:
b
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
11-8 Payback Period
LEARNING OBJECTIV FOFM.BRIG.16.11.08 - Payback Period
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:

Payback
KEYWORDS:
Bloom's: Comprehension
OTHER:
Multiple Choice: Conceptual
42. Assume a project has normal cash flows. All else equal, which of the following statements is CORRECT?
a. A project's IRR increases as the WACC declines.
b. A project's NPV increases as the WACC declines.
c. A project's MIRR is unaffected by changes in the WACC.
d. A project's regular payback increases as the WACC declines.
e. A project's discounted payback increases as the WACC declines.
ANSWER:
b
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
Comprehensive
LEARNING OBJECTIV FOFM.BRIG.16.11.00 - Comprehensive
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
Ranking methods
KEYWORDS:
Bloom's: Comprehension
OTHER:

Multiple Choice: Conceptual
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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
43. Which of the following statements is CORRECT?
a. The internal rate of return method (IRR) is generally regarded by academics as being
the best single method for evaluating capital budgeting projects.
b.The payback method is generally regarded by academics as being the best single
method for evaluating capital budgeting projects.
c. The discounted payback method is generally regarded by academics as being the best
single method for evaluating capital budgeting projects.
d.The net present value method (NPV) is generally regarded by academics as being the
best single method for evaluating capital budgeting projects.
e. The modified internal rate of return method (MIRR) is generally regarded by
academics as being the best single method for evaluating capital budgeting projects.
ANSWER:
d
POINTS:
1
DIFFICULTY:
EASY
REFERENCES:
Comprehensive
LEARNING OBJECTIV FOFM.BRIG.16.11.00 - Comprehensive
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills
DS:

STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
Ranking methods
KEYWORDS:
Bloom's: Comprehension
OTHER:
Multiple Choice: Conceptual
44. Which of the following statements is CORRECT?
a. An NPV profile graph shows how a project's payback varies as the cost of capital
changes.
b.The NPV profile graph for a normal project will generally have a positive (upward)
slope as the life of the project increases.
c. An NPV profile graph is designed to give decision makers an idea about how a
project's risk varies with its life.
d.An NPV profile graph is designed to give decision makers an idea about how a
project's contribution to the firm's value varies with the cost of capital.
e. We cannot draw a project's NPV profile unless we know the appropriate WACC for
use in evaluating the project's NPV.
ANSWER:
d
POINTS:
1
DIFFICULTY:
EASY/MODERATE
REFERENCES:
11-7 NPV Profiles
LEARNING OBJECTIV FOFM.BRIG.16.11.07 - NPV Profiles
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills

DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
TOPICS:
KEYWORDS:
OTHER:

NPV profiles
Bloom's: Analysis
Multiple Choice: Conceptual

45. Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows,
with one outflow followed by a series of inflows.
a. A project's NPV is generally found by compounding the cash inflows at the WACC to
find the terminal value (TV), then discounting the TV at the IRR to find its PV.
b.The higher the WACC used to calculate the NPV, the lower the calculated NPV will
be.
c. If a project's NPV is greater than zero, then its IRR must be less than the WACC.
d.If a project's NPV is greater than zero, then its IRR must be less than zero.
e. The NPVs of relatively risky projects should be found using relatively low WACCs.
ANSWER:
b
POINTS:
1

DIFFICULTY:
MODERATE
REFERENCES:
11-2 Net Present Value (NPV)
LEARNING OBJECTIV FOFM.BRIG.16.11.02 - Net Present Value (NPV)
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
NPV
KEYWORDS:
Bloom's: Analysis
OTHER:
Multiple Choice: Conceptual
46. Which of the following statements is CORRECT?
a. For a project to have more than one IRR, then both IRRs must be greater than the
WACC.
b.If two projects are mutually exclusive, then they are likely to have multiple IRRs.
c. If a project is independent, then it cannot have multiple IRRs.
d.Multiple IRRs can only occur if the signs of the cash flows change more than once.
e. If a project has two IRRs, then the smaller one is the one that is most relevant, and it
should be accepted and relied upon.
ANSWER:
d
POINTS:
1
DIFFICULTY:
MODERATE

REFERENCES:
11-4 Multiple Internal Rates of Return
LEARNING OBJECTIV FOFM.BRIG.16.11.04 - Multiple Internal Rates of Return
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
Multiple IRRs
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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
KEYWORDS:
OTHER:

Bloom's: Analysis
Multiple Choice: Conceptual

47. Which of the following statements is CORRECT?
a. The NPV method assumes that cash flows will be reinvested at the WACC, while the
IRR method assumes reinvestment at the IRR.
b.The NPV method assumes that cash flows will be reinvested at the risk-free rate, while
the IRR method assumes reinvestment at the IRR.
c. The NPV method assumes that cash flows will be reinvested at the WACC, while the
IRR method assumes reinvestment at the risk-free rate.
d.The NPV method does not consider all relevant cash flows, particularly cash flows

beyond the payback period.
e. The IRR method does not consider all relevant cash flows, particularly cash flows
beyond the payback period.
ANSWER:
a
POINTS:
1
DIFFICULTY:
MODERATE
REFERENCES:
11-5 Reinvestment Rate Assumptions
LEARNING OBJECTIV FOFM.BRIG.16.11.05 - Reinvestment Rate Assumptions
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
NPV and IRR
KEYWORDS:
Bloom's: Comprehension
OTHER:
Multiple Choice: Conceptual
48. Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows,
with one outflow followed by a series of inflows.
a. If Project A has a higher IRR than Project B, then Project A must have the lower NPV.
b.If Project A has a higher IRR than Project B, then Project A must also have a higher
NPV.
c. The IRR calculation implicitly assumes that all cash flows are reinvested at the
WACC.

d.The IRR calculation implicitly assumes that cash flows are withdrawn from the
business rather than being reinvested in the business.
e. If a project has normal cash flows and its IRR exceeds its WACC, then the project's
NPV must be positive.
ANSWER:
e
POINTS:
1
DIFFICULTY:
MODERATE
REFERENCES:
11-5 Reinvestment Rate Assumptions
LEARNING OBJECTIV FOFM.BRIG.16.11.05 - Reinvestment Rate Assumptions
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills
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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
DS:
STATE STANDARDS:
TOPICS:
KEYWORDS:
OTHER:

United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
NPV and IRR

Bloom's: Analysis
Multiple Choice: Conceptual

49. Assume that the economy is in a mild recession, and as a result interest rates and money costs generally are relatively
low. The WACC for two mutually exclusive projects that are being considered is 8%. Project S has an IRR of 20% while
Project L's IRR is 15%. The projects have the same NPV at the 8% current WACC. However, you believe that the
economy is about to recover, and money costs and thus your WACC will also increase. You also think that the projects
will not be funded until the WACC has increased, and their cash flows will not be affected by the change in economic
conditions. Under these conditions, which of the following statements is CORRECT?
a. You should reject both projects because they will both have negative NPVs under the
new conditions.
b.You should delay a decision until you have more information on the projects, even if
this means that a competitor might come in and capture this market.
c. You should recommend Project L, because at the new WACC it will have the higher
NPV.
d.You should recommend Project S, because at the new WACC it will have the higher
NPV.
e. You should recommend Project L because it will have the higher IRR at the new
WACC.
ANSWER:
d
POINTS:
1
DIFFICULTY:
MODERATE
REFERENCES:
11-5 Reinvestment Rate Assumptions
LEARNING OBJECTIV FOFM.BRIG.16.11.05 - Reinvestment Rate Assumptions
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills

DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
NPV and IRR
KEYWORDS:
Bloom's: Application
OTHER:
Multiple Choice: Conceptual
50. Assume that the economy is enjoying a strong boom, and as a result interest rates and money costs generally are
relatively high. The WACC for two mutually exclusive projects that are being considered is 12%. Project S has an IRR of
20% while Project L's IRR is 15%. The projects have the same NPV at the 12% current WACC. However, you believe that
the economy will soon fall into a mild recession, and money costs and thus your WACC will soon decline. You also think
that the projects will not be funded until the WACC has decreased, and their cash flows will not be affected by the change
in economic conditions. Under these conditions, which of the following statements is CORRECT?
a. You should reject both projects because they will both have negative NPVs under the
new conditions.
b.You should delay a decision until you have more information on the projects, even if
this means that a competitor might come in and capture this market.
c. You should recommend Project L, because at the new WACC it will have the higher
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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
NPV.
d.You should recommend Project S, because at the new WACC it will have the higher
NPV.
e. You should recommend Project L because it will have both a higher IRR and a higher

NPV under the new conditions.
ANSWER:
c
POINTS:
1
DIFFICULTY:
MODERATE
REFERENCES:
11-5 Reinvestment Rate Assumptions
LEARNING OBJECTIV FOFM.BRIG.16.11.05 - Reinvestment Rate Assumptions
ES:
NATIONAL STANDAR United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills
DS:
STATE STANDARDS: United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and
cost of capital
TOPICS:
NPV and IRR
KEYWORDS:
Bloom's: Application
OTHER:
Multiple Choice: Conceptual
51. Which of the following statements is CORRECT?
a. The NPV method was once the favorite of academics and business executives, but
today most authorities regard the MIRR as being the best indicator of a project's
profitability.
b.If the cost of capital declines, this lowers a project's NPV.
c. The NPV method is regarded by most academics as being the best indicator of a
project's profitability, hence most academics recommend that firms use only this one
method and disregard other methods.
d.A project's NPV depends on the total amount of cash flows the project produces, but

because the cash flows are discounted at the WACC, it does not matter if the cash
flows occur early or late in the project's life.
e. The NPV and IRR methods may give different recommendations regarding which of
two mutually exclusive projects should be accepted, but they always give the same
recommendation regarding the acceptability of a normal, independent project.
ANSWER:
e
RATIONALE: Statement e is correct. The others are all false. If you draw an NPV profile for one
project, you will see that if the WACC is less than the IRR, the NPV will be
positive.

POINTS:
DIFFICULTY:
REFERENCES
:
LEARNING O
BJECTIVES:
NATIONAL ST
ANDARDS:
STATE STAND
ARDS:

1
MODERATE
11-5 Reinvestment Rate Assumptions
FOFM.BRIG.16.11.05 - Reinvestment Rate Assumptions
United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills
United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and cost of
capital


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CHAPTER 11—THE BASICS OF CAPITAL BUDGETING
TOPICS:
NPV and IRR
KEYWORDS: Bloom's: Comprehension
OTHER:
Multiple Choice: Conceptual
52. Projects A and B have identical expected lives and identical initial cash outflows (costs). However, most of one
project's cash flows come in the early years, while most of the other project's cash flows occur in the later years. The two
NPV profiles are given below:

Which of the following statements is CORRECT?
a. More of Project A's cash flows occur in the later years.
b.More of Project B's cash flows occur in the later years.
c. We must have information on the cost of capital in order to determine which project
has the larger early cash flows.
d.The NPV profile graph is inconsistent with the statement made in the problem.
e. The crossover rate, i.e., the rate at which Projects A and B have the same NPV, is
greater than either project's IRR.
ANSWER:
a
RATIONALE: Statement a is true and the other statements are false. Distant cash flows are

more severely penalized by high discount rates, so if the NPV profile line has a
steep slope, this indicates that cash flows occur relatively late.


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1
MODERATE
11-7 NPV Profiles
FOFM.BRIG.16.11.07 - NPV Profiles
United States - BUSPROG.FOFM.BRIG.16.03 - Analytic skills
United States - OH - DISC.FOFM.BRIG.16.03 - Capital budgeting and cost of
capital
NPV profiles
Bloom's: Application
Multiple Choice: Conceptual

53. Projects S and L both have an initial cost of $10,000, followed by a series of positive cash inflows. Project S's
undiscounted net cash flows total $20,000, while L's total undiscounted flows are $30,000. At a WACC of 10%, the two
projects have identical NPVs. Which project's NPV is more sensitive to changes in the WACC?
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