Payback Period | how long does it take to get the initial cost back in a nominal sense? |

Payback Advantages | easy to understand an compute, adjusts for uncertainty or later cash flows, biased toward liquidity |

Payback Disadvantages | ignores the time value of money, requires an arbitrary cutoff point, ignores the cash flows beyond the cutoff point, biased against long-term projects |

Discounted Payback Period | how long does it take to get the initial cost back after you bring all the cash flows to the present value |

Discounted Payback Advantages | includes the time value of money, easy to understand, biased toward liquidity |

Discounted Payback Disadvantages | requires an arbitrary cutoff point, ignores the cash flows beyond the cutoff point, biased against long-term projects |

Net Present Value | the difference between a market value of a project and its cost |

A positive NPV means | that the project is expected to add value to the firm and will therefore increase the wealth of the owners |

NPV is a direct measure of | how this project will meet our goals |

NPV > 0 | we accept the project |

NPV < 0 | we reject the project |

Net Present Value Advantages | considers all the cash flows in the computation, uses the time value of money, provides the answer in dollar terms which is easy to understand, usually provides a similar answer to the IRR computation |

Net Present Value Disadvantages | requires the use of time value of money which makes harder to compute, projects that differ by orders of magnitude in cost are not obvious in the NPV final figure |

Profitability Index | measure the benefit per unit cost of a project, based on the time value of money |

PI > 1 | means the firms is increasing in value |

Which one of the following increases the net present value of a project | an increase in the aftertax salvage value of the fixed assets |

Which one of the following will decrease the net present value of a project? | increasing the project’s initial cost at time zero |

Net present value: | is the best method of analyzing mutually exclusive projects. |

A project’s average net income divided by its average book value is referred to as the project’s average | accounting return |

Why is payback often used as the sole method of analyzing a proposed small project | It is the only method where the benefits of the analysis outweigh the costs of the analysis. |

The length of time a firm must wait to recoup the money is has invested in a project is called the | payback period |

The length of time a firm must wait to recoup, in present value terms, the money it has invested in a project is referred to as the | discounted payback period |

Which one of the following methods of project analysis is defined as computing the value of a project based upon the present value of the project’s anticipated cash flows | discounted cash flow valuation |

If a firm accepts Project A it will not be feasible to also accept Project B because both projects would require the simultaneous and exclusive use of the same piece of machinery. These projects are considered to be: | mutually exclusive |

You are viewing a graph that plots the NPVs of a project to various discount rates that could be applied to the project’s cash flows. What is the name given to this graph? | NPV profile |

Which one of the following increases the net present value of a project? | an increase in the aftertax salvage value of the fixed assets |

Rossiter Restaurants is analyzing a project that requires $180,000 of fixed assets. When the project ends, those assets are expected to have an aftertax salvage value of $45,000. How is the $45,000 salvage value handled when computing the net present value of the project? | cash inflow in the final year of the project |

If a project has a net present value equal to zero, then: | the project earns a return exactly equal to the discount rate |

The internal rate of return is defined as the: | discount rate which causes the net present value of a project to equal zero Correct |

There are two distinct discount rates at which a particular project will have a zero net present value. In this situation, the project is said to: | have multiple rates of return |

Using NPV: An investment should be accepted if | the NPV is positive and rejected if it is negative |

Based on the payback rule an investment is acceptable if | its calculated payback period if less than some prespecified number of years |

Payback period ignores | time value of money |

Payback period is biased toward ______ therefore ______ | short term projects, it is biased toward liquidity |

What kind of measure is payback? | breakeven |

Biggest issue with payback period | doesn’t answer the right question- the relevant issue is the impact an investment will have on the value of the stock, not how long it takes to recover the initial investment |

AAR | average net income divided by average book value |

As long as we use straight line depreciation | the average investment will always be one-half of the initial investment |

Based on the average accounting return rule, a project is acceptable if | its average accounting return exceeds a target average accounting return |

Biggest drawback with AAR | it is not a rate of return in any meaningful economic sense. It is not comparable to the returns offered |

One of the reasons AAR is not a true rate of return is that | it ignores time value of money |

There is no ______ involved when calculating AAR | discounting |

Second problem with AAR is | the lack of an objective cutoff period |

Worst flaw with AAR is | instead of cash flow and market value it uses, book value and net income |

Most important alternative to NPV is | IRR (internal rate of return) |

With IRR | we try to find a single rate of return that summarizes the merits of a project |

Based on the IRR rule, | an investment is acceptable if the IRR exceeds the required return. it should be rejected otherwise |

We are indifferent to project when | NPV is just equal to zero |

The IRR on an investment is the | required return that results in a zero NPV when it is used as the discount rate |

Which rules are most similar? | IRR and NPV |

Net present value profile | a graphical representation of the relationship between an investment’s NPVs and various discounts ( NPVs on y-axis, discount rate of x-axis) |

IRR and NPV lead to identical decisions when | cash flows are conventional (first cashflow is negative all the rest are positive) the project must be independent (doesn’t accept or reject another decision) |

Multiple rates of return | the possibility that more than one discount rate will make the NPV of an investment ) |

mutually exclusive investment decisions | a situation in which taking one investment prevents the taking of another |

IRR is preferred because people seem to | prefer talking about rates of return rather than dollar values |

We can’t estimate the NPV unless we know the appropriate discount rate, but | we can still estimate the IRR |

Profitiability index is also considered th | benefit-cost ratio (bang for buck) |

If a project has a positive NPV | then the present value of the future cash flows must be bigger than the initial investment |

We can on ______ | NPV |

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