Principles of Corporate Finance (Mcgraw-hill/Irwin Series in Finance, Insurance, and Real Estate)
12th Edition
ISBN: 9781259144387
Author: Richard A Brealey, Stewart C Myers, Franklin Allen
Publisher: McGraw-Hill Education
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Textbook Question
Chapter 19, Problem 5PS
APV True or false? The APV method
- a. Starts with a base-case value for the project.
- b. Calculates the base-case value by discounting project cash flows,
forecasted assuming all-equity financing, at the WACC for the project. - c. Is especially useful when debt is to be paid down on a fixed schedule.
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1. Which of the following is not true? Group of answer choices The method in which we calculate a project’s Internal Rate of Return (IRR) is called the Discounted Cash Flow approach. The Payback period can be calculated using the discounted (present) values of future cash inflows. The Payback period calculated using this method is what's called the Discounted Payback Period. The Net Present Value is calculated using the present value of the investments and future cash inflows. None of the above (all of the above are correct)
A project's internal rate of return (IRR) is the that forces the PV of its inflows to equal its cost. The IRR is an estimate of the project's rate of return, and it is comparable to the on a bond. The equation for calculating the IRR is:
CFt is the expected cash flow in Period t and cash outflows are treated as negative cash flows. There must be a change in cash flow signs to calculate the IRR. The IRR equation is simply the NPV equation solved for the particular discount rate that causes NPV to equal .
The IRR calculation assumes that cash flows are reinvested at the . If the IRR is than the project's risk-adjusted cost of capital, then the project should be accepted; however, if the IRR is less than the project's risk-adjusted cost of capital, then the project should be . Because of the IRR reinvestment rate assumption, when projects are evaluated the IRR approach can lead to conflicting results from the NPV method. Two basic conditions can lead to conflicts between NPV and…
The net present value (NPV) of a project is positive when the discount rate used is:
Group of answer choices
equal to the project's internal rate of return (IRR).
greater than the project's internal rate of return (IRR).
equal to the yield to maturity of the bonds issued to finance the project.
Less than the project's internal rate of return (IRR).
Chapter 19 Solutions
Principles of Corporate Finance (Mcgraw-hill/Irwin Series in Finance, Insurance, and Real Estate)
Ch. 19.A - The U.S. government has settled a dispute with...Ch. 19.A - Prob. 2QCh. 19 - Prob. 1PSCh. 19 - Prob. 2PSCh. 19 - WACC True or false? Use of the WACC formula...Ch. 19 - Flow-to-equity valuation What is meant by the...Ch. 19 - APV True or false? The APV method a. Starts with a...Ch. 19 - APV A project costs 1 million and has a base-case...Ch. 19 - Prob. 7PSCh. 19 - APV Consider a project lasting one year only. The...
Ch. 19 - WACC The WACC formula seems to imply that debt is...Ch. 19 - Prob. 10PSCh. 19 - Prob. 11PSCh. 19 - WACC Table 19.4 shows a simplified balance sheet...Ch. 19 - WACC How will Rensselaer Felts WACC and cost of...Ch. 19 - APV Digital Organics (DO) has the opportunity to...Ch. 19 - APV Consider another perpetual project like the...Ch. 19 - Prob. 18PSCh. 19 - Prob. 19PSCh. 19 - Prob. 22PSCh. 19 - Company valuation Chiara Companys management has...Ch. 19 - Prob. 25PSCh. 19 - Prob. 26PS
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- Define each of the following terms: Project cash flow; accounting income Incremental cash flow; sunk cost; opportunity cost; externality; cannibalization; expansion project; replacement project Net operating working capital changes; salvage value Stand-alone risk; corporate (within-firm) risk; market (beta) risk Sensitivity analysis; scenario analysis; Monte Carlo simulation analysis Risk-adjusted discount rate; project cost of capital Decision tree; staged decision tree; decision node; branch Real options; managerial options; strategic options; embedded options Investment timing option; growth option; abandonment option; flexibility optionarrow_forwardCalculate the cash flows for each year. Based on these cash flows and the average project cost of capital, what are the projects NPV, IRR, MIRR, PI, payback, and discounted payback? Do these indicators suggest that the project should be undertaken?arrow_forwardIn considering the payback period, ____. a. it considers the time value of money in determining the maximum allowable time period b. it is based on cash flows both during and after the payback period c. it gives some indication of a project’s desirability from a liquidity viewpoint d. the maximum period allowed by a firm is a specific time period based on objective criteriaarrow_forward
- Which of the following statements is true about the internal rate of return? a. It is the interest rate that sets a project's net present value at zero. b. It is the minimal acceptable interest rate on an investment. c. It is the difference between the present value of the cash inflows and outflows associated with a project. d. It is the difference between the present value of a cash outflow and the depreciation associated with an asset.arrow_forwardThe Basics of Capital Budgeting: Evaluating Cash Flows: IRR A project's internal rate of return (IRR) is the that forces the PV of the expected future cash flows to equal the initial cash flow. The IRR is an estimate of the project's rate of return, and it is comparable to the on a bond. The equation for calculating the IRR is: CFt is the expected cash flow in Period t and cash outflows are treated as negative cash flows. There must be a change in cash flow signs to calculate the IRR. The IRR equation is simply the NPV equation solved for the particular discount rate that causes NPV to equal .The IRR calculation assumes that cash flows are reinvested at the . If the IRR is than the project's cost of capital, then the project should be accepted; however, if the IRR is less than the project's cost of capital, then the project should be . Because of the IRR reinvestment rate assumption, when projects are evaluated the IRR approach can lead to conflicting results from the NPV method.…arrow_forwardWhich 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 NPV of a relatively low-risk project should be found using a relatively high WACC. c. If a project's NPV is less than zero, then its IRR must be less than the WACC. d. The lower the WACC used to calculate it, the lower the calculated NPV will be. e. If a project's NPV is greater than zero, then its IRR must be less than zero.arrow_forward
- 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 WACCsarrow_forwardWhich 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. Provide explanation for choicearrow_forwardTo calculate net present value of a project with normal cash flows, find the present value of the expected cash flows, and subtract A) retained earnings. B) the cost of the investment. C) the factor loading. D) the payback period.arrow_forward
- What is the 'golden rule' for finding the Internal Rate of Return (IRR) of an investment project cash flow? a)Vary the discount rate until the net present value of the cash flow equals zero. b)Vary the discount rate until the net present value of the cash flow is positive c)Vary the discount rate to the point of maximum increase in the net present value d)Vary the discount rate until the net present value of the cash is negativearrow_forwardWolff Enterprises must consider one investment project using the capital asset pricing model (CAPM). Relevant information is presented in the following table. Item Rate of return Beta, b Risk-free asset 9% 0.00 Market portfolio 14% 1.00 Project 1.74 a. Calculate the required rate of return for the project, given its level of nondiversifiable risk. b. Calculate the risk premium for the project, given its level of nondiverisifiable risk.arrow_forward
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