D362 Corporate Finance - Set 4 - Part 1

Test your knowledge of technical writing concepts with these practice questions. Each question includes detailed explanations to help you understand the correct answers.

Question 1: What is the main disadvantage of the payback method?

It ignores the risk of the project.

It ignores the time value of money.

It requires complex calculations.

It overestimates the project’s value.

Question 2: Which method best determines a project's profitability by discounting its cash flows?

Internal rate of return (IRR)

Payback period

Net present value (NPV)

Profitability index (PI)

Question 3: Which of the following is a limitation of using the profitability index (PI)?

It does not consider the project’s scale.

It cannot handle cash flow changes.

It is difficult to calculate.

It overestimates the project’s payback period.

Question 4: The internal rate of return (IRR) is used to determine:

The discount rate that makes the NPV zero.

The payback period of the project.

The project’s overall cash flows.

The time it takes to recover the initial investment.

Question 5: What is one key advantage of the discounted payback period method over the regular payback period?

It does not require cash flow estimates.

It considers the time value of money.

It is easier to calculate.

It ignores future cash flows.

Question 6: Which of the following is a feature of a contingent project?

It has higher initial costs than other projects.

Its acceptance depends on the acceptance of another project.

It generates higher cash inflows than other projects.

It has lower financial risk than independent projects.

Question 7: What does the term “capital rationing” refer to?

Limiting the number of projects a firm undertakes due to budget constraints.

Issuing more equity to finance projects.

Borrowing more funds to finance all available projects.

Reducing the cost of capital for each project.

Question 8: Which of the following describes a project with mutually exclusive alternatives?

One project’s acceptance means the other must be rejected.

Both projects can be accepted independently.

One project’s cash flows depend on the other project.

Both projects can be delayed for future consideration.

Question 9: What is the key purpose of using the weighted average cost of capital (WACC) in capital budgeting?

To determine the highest discount rate available.

To account for the firm’s cost of debt and equity in evaluating projects.

To predict the maximum potential cash flows of a project.

To estimate the payback period of a project.

Question 10: What is the crossover rate between two projects?

The rate at which the IRR of both projects becomes negative.

The discount rate at which both projects have the same NPV.

The time it takes for both projects to break even.

The payback period where both projects recover their initial investments.

Question 11: What does it mean if a project has a net present value (NPV) of zero?

The project is highly profitable.

The project’s cash inflows exactly equal the initial investment in today’s terms.

The project should be rejected.

The project’s IRR is less than the required return.

Question 12: Which of the following is an incremental cash flow?

Sunk costs related to the project.

Interest expenses.

Cash inflows directly resulting from the project.

Fixed costs unrelated to the project.

Question 13: A project has a conventional cash flow pattern if:

It has an initial outflow followed by positive inflows.

It has cash inflows that increase every year.

It has more than one change in the sign of the cash flows.

It requires continuous reinvestment throughout the project.

Question 14: What is a key disadvantage of the internal rate of return (IRR) method?

It ignores the time value of money.

It can lead to multiple IRRs for non-conventional projects.

It requires extensive cash flow data.

It always gives the same result as NPV.

Question 15: What is the main purpose of scenario analysis in project evaluation?

To calculate the exact NPV of a project.

To identify the best and worst possible outcomes for the project.

To determine the project’s payback period.

To estimate the profitability index of a project.

Question 16: Which of the following best describes a project with positive NPV?

The project generates more cash inflows than the initial investment in present value terms.

The project has a payback period longer than its life.

The project’s IRR is below the cost of capital.

The project recovers its investment within the first year.

Question 17: Which of the following is a weakness of the profitability index (PI) method?

It requires the use of complex financial models.

It does not account for the time value of money.

It does not compare the absolute size of different projects.

It ignores cash inflows occurring after the payback period.

Question 18: In capital budgeting, an independent project is best described as one that:

Competes with other projects for the same resources.

Can be evaluated without regard to other projects.

Has no financial risk.

Has only one IRR.

Question 19: Which method is preferred for analyzing a project with multiple rates of return?

Payback period

Net present value (NPV)

Internal rate of return (IRR)

Profitability index (PI)

Question 20: The modified internal rate of return (MIRR) adjusts for:

Changes in the initial investment.

Variations in the firm’s WACC.

Multiple IRRs by reinvesting at the firm’s cost of capital.

Fluctuations in cash inflows during the project’s life.

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