Given a project's expected cash flows, it is easy to calculate its NPV, IRR, MIRR, payback, and discounted payback. Cash flows are estimated based on information from various sources. There is uncertainty in a project's forecasted cash flows, and some projects are more uncertain and thus riskier than others. In this chapter, we illustrate how project cash flows are estimated, discuss techniques for measuring risk, and discuss how to choose between projects that have significantly different lives, are mutually exclusive, and can be repeated.
The most critical step in capital budgeting analysis is cash flow estimation.
The key is to focus on only
a. relevant
b. net income
c. incremental accounting income or
d. incremental cash flows.
Factors that complicate the analysis are sunk costs, opportunity costs, externalities, changes in net operating working capital, and salvage values. Adjustments to the analysis must be made for
a. inflation
b. interest
c. dividends
We concentrate on expansion project analyses here but there are similarities when analyzing replacement projects.
Give the correct response to each of the following questions.
Which of the following items should be included in the capital budgeting analysis?
a. Sunk costs
b. Interest payments
c. Dividend payments
d. Opportunity costs
An outlay that was incurred in the past and cannot be recovered in the future regardless of whether the project under consideration is accepted is known as
a. Opportunity cost
b. Externality
c. Sunk cost
d. Cannibalization
Which of the following is an example of an opportunity cost?
a. A publisher introduces a new textbook which reduces sales of one of their existing textbooks.
b. A firm has land that can be used in building a new store. If the new store is not built, the firm could sell the land for $2 million (net of taxes).
c. Apple's investment in the iTunes music store boosted sales of its iPod.
d. The cost of a report done 2 years ago to investigate the potential of a new plant and the permits required to build it.
e. Statements a and d are both examples of opportunity costs.
The correct response is -Select-statement astatement bstatement cstatement dstatement eItem 6 .
Which of the following is an example of cannibalization?
a. A publisher introduces a new textbook which reduces sales of one of their existing textbooks.
b. A firm has land that can be used in building a new store. If the new store is not built, the firm could sell the land for $2 million (net of taxes).
c. Apple's investment in the iTunes music store boosted sales of its iPod.
d. The cost of a report done 2 years ago to investigate the potential of a new plant and the permits required to build it.
e. Statements c and d are both examples of cannibalization.
The correct response is -Select-statement astatement bstatement cstatement dstatement eItem 7 .
