FINC 3610 Final Exam GUARANTEED PASS !!
What is the Net Present Value method? - (ANSWER)A measure of how much value is created or
added today by undertaking an investment (the difference between the investment's market value
and cost).
How is the Net Present Value method calculated? - (ANSWER)By estimating future cash flows.
Calculate present value of cash flows minus the initial cost.
What's the rule of the Net Present Value method? - (ANSWER)An investment should be
accepted if the NPV is positive & rejected if it is negative.
What are the pros of the Net Present Value method? - (ANSWER)- Uses all cash flows
- Adjusts for the time value of money
What are the cons of the Net Present Value method? - (ANSWER)- Need appropriate discount
rate.
- Relatively more difficult to communicate
If the NPV is equal to 0, what do you do? - (ANSWER)Indifferent to project.
What is the Internal Rate of Return method? - (ANSWER)The discount rate that makes the net
present value of a project equal to zero.
How is the Internal Rate of Return calculated? - (ANSWER)Set NPV equal to zero and solve for
'r'. It's identical to calculating the yield to maturity in bonds.
What is the rule for the Internal Rate of Return method? - (ANSWER)An investment is
acceptable if the IRR exceeds the required rate of return. Otherwise should be rejected.
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, What are the pros of the IRR method? - (ANSWER)- Closely related to the NPV rule
- Relatively easier to communicate
What are the cons of the IRR method? - (ANSWER)- May result in multiple in answers (more
than one IRR)
- May result in incorrect decisions (mutually exclusive investments)
What is the Profitability Index method? - (ANSWER)The present value of an investment's future
cash flows divided by its initial cost (absolute value).
What's another name for the Profitability Index? - (ANSWER)Benefit-cost ratio
How is the Profitability Index method calculated? - (ANSWER)Calculate the present value of
future cash flows and divide by initial cost.
What is the rule of the PI method? - (ANSWER)Only accept projects with a PI greater than 1,
and invest in projects with the largest PI's first.
What are the pros of the PI method? - (ANSWER)- Closely related to the NPV rule
- May be useful when investment funds are limited
What cons of the PI method? - (ANSWER)- May result in incorrect decisions (mutually
exclusive investments)
What is the Payback Rule method? - (ANSWER)The length of time it takes to recover the initial
investment.
How is the Payback Rule calculated? - (ANSWER)Assume cash flows are received uniformly
throughout the year. Calculate the number of years it will take for the future cash flows to match
the initial cash outflow.
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What is the Net Present Value method? - (ANSWER)A measure of how much value is created or
added today by undertaking an investment (the difference between the investment's market value
and cost).
How is the Net Present Value method calculated? - (ANSWER)By estimating future cash flows.
Calculate present value of cash flows minus the initial cost.
What's the rule of the Net Present Value method? - (ANSWER)An investment should be
accepted if the NPV is positive & rejected if it is negative.
What are the pros of the Net Present Value method? - (ANSWER)- Uses all cash flows
- Adjusts for the time value of money
What are the cons of the Net Present Value method? - (ANSWER)- Need appropriate discount
rate.
- Relatively more difficult to communicate
If the NPV is equal to 0, what do you do? - (ANSWER)Indifferent to project.
What is the Internal Rate of Return method? - (ANSWER)The discount rate that makes the net
present value of a project equal to zero.
How is the Internal Rate of Return calculated? - (ANSWER)Set NPV equal to zero and solve for
'r'. It's identical to calculating the yield to maturity in bonds.
What is the rule for the Internal Rate of Return method? - (ANSWER)An investment is
acceptable if the IRR exceeds the required rate of return. Otherwise should be rejected.
Page 1 of 10
, What are the pros of the IRR method? - (ANSWER)- Closely related to the NPV rule
- Relatively easier to communicate
What are the cons of the IRR method? - (ANSWER)- May result in multiple in answers (more
than one IRR)
- May result in incorrect decisions (mutually exclusive investments)
What is the Profitability Index method? - (ANSWER)The present value of an investment's future
cash flows divided by its initial cost (absolute value).
What's another name for the Profitability Index? - (ANSWER)Benefit-cost ratio
How is the Profitability Index method calculated? - (ANSWER)Calculate the present value of
future cash flows and divide by initial cost.
What is the rule of the PI method? - (ANSWER)Only accept projects with a PI greater than 1,
and invest in projects with the largest PI's first.
What are the pros of the PI method? - (ANSWER)- Closely related to the NPV rule
- May be useful when investment funds are limited
What cons of the PI method? - (ANSWER)- May result in incorrect decisions (mutually
exclusive investments)
What is the Payback Rule method? - (ANSWER)The length of time it takes to recover the initial
investment.
How is the Payback Rule calculated? - (ANSWER)Assume cash flows are received uniformly
throughout the year. Calculate the number of years it will take for the future cash flows to match
the initial cash outflow.
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