7. Although NPV is the best capital budgeting technique, most executives prefer
ID: 2802291 • Letter: 7
Question
7. Although NPV is the best capital budgeting technique, most executives prefer to use
a)payback because the calculations are easy
b)profitability index because they are familiar with ratios
c)IRR because people are more comfortable with rates of return than with the somewhat abstract notion of a present valued dollar
d)NPV adjusted for inflation because it overcomes the difficulties they have with the method
8. Which of the following capital budgeting techniques does NOT take into account the cost of capital?
a)Payback Period
b)Net Present Value
c)Internal Rate of Return
d)Profitability Index
e)All of the above take into account the cost of capital
9. The internal rate of return method assumes that the cash flows over the life of the project are reinvested at
a)the risk-free rate
b)the firm's cost of capital
c)the computed internal rate of return
d)the market capitalization rate
10. Which of the following best describes the appropriate way to evaluate mutually exclusive projects with unequal lives?
a)NPV is the appropriate method because NPV is always the method of choice
b)IRR is the appropriate method because IRR adjusts for the fact that the projects are not of the same length
c)Replacement chain is the appropriate method because it equalizes the length of the unequal projects
d)Equivalent annual annuity is the appropriate method because it adjusts for the fact that the projects are not of the same length
e)Both c. and d. are correct
Explanation / Answer
7)
Net present value is most useful when comaparing different projects, in a single project analysis, analysts use IRR to know the accurate of rate of return earned on investment considering reinvestment assumption under IRR.
Hence, correct option is c) IRR because people are more comfortable with rates of return than with the somewhat abstract notion of a present valued dollar.
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