FINC 3610 exam 3 Questions and Answers Already Passed Latest Update 2025-2026
Net Present Value (NPV) - Answers PV is a measure of how much value is created or added
today by undertaking an investment (the difference between the investment's market value and
its cost).
NPV = - Answers Estimate future cash flows. Calculate the present value of those cash flows
minus the initial cost.
NPV example: You plan to buy a machine that will cost $2,000 today and produce cash flows of
$1,500 in each of the next two years. The salvage value will be zero. The cost of capital is 15
percent. Should you buy the machine? - Answers |----------------|----------------|-------------->
-2000 1500 1500
1500/ .15 = 6,666.67
1500 / (.15)^2 = 1,134.22
N= 2 , Int = 15, PV = ? , PMT = 1500 , FV= 0
= $2,438.56
2,438 > 2,000
NPV rule: - Answers An investment should be accepted if the net present value is _positive_and
rejected if it is _negative_.
*Assumes cash flows are reinvested at _cost of capital_
Pros NPV: - Answers -uses all cash flows
- adjusts for time value of money
Cons NPV: - Answers - need appropriate discount rate
- relatively more difficult to communicate
Internal rate of return - Answers The internal rate of return is the discount rate that makes the
net present value of a project equal to zero.
How to find initial rate of return - Answers Set NPV equal to zero and solve for "r". Calculating
IRR is identical to calculating the yield to maturity on bonds.
IRR example: You plan to buy a machine that will cost $2,000 today and produce cash flows of
,$1,500 in each of the next two years. The salvage value will be zero. The cost of capital is 15
percent. Should you buy the machine? - Answers N = 2 , int = ? , PV = -2000, PMT = 1500, FV = 0
INT= 31.8729
The rule of IRR: - Answers An investment is acceptable if the IRR exceeds the _required rate of
return or cost of capital_. It should be rejected otherwise.
-*Assumes cash flows are reinvested at _the IRR_.
Pros IRR: - Answers -Closely related to the NPV rule
-Relatively easier to communicate
Cons IRR: - Answers - may result in multiple answers (non conventional cash flows)
- may result in incorrect decisions (mutually exclusive investments)
The better method of estimating return is - Answers NPV
Independent projects - Answers only looking at one project and deciding to invest or not
If you have a choice between two projects, - Answers use the NPV bc IRR doesnt always tell you
everything you need to know
Net present value profile - Answers a graph showing the relationship between a project's NPV
and various discount rates
Information a NPV profile provides: - Answers 1. Discount rates where NPV is positive - accept
2. Discount rates where NPV is negative - reject
3. Discount rates where NPV is zero - IRR
4. Sensitivity of NRV to our discount rate (ex: slope)
Non conventional cash flow example: Assume you are considering a project with the following
cash flows:
Year Cash Flows
0 -$ 252
1 $1,431
2 -$3,035
, 3 $2,850
4 -$1,000 - Answers calculate the NPV:
-at 25.00%: NPV = _0_
-at 33.33%: NPV = _0_
-at 42.86%: NPV = _0_
-at 66.67%: NPV = _0_
the max # you can have for IRR is the same as - Answers the number of sign changes you have
Example: Assume you are considering two mutually exclusive investments with the following
cash flows:
-Which project should we choose based on the IRR?
-Should we always choose that project?
-What is the crossover rate?
Year Project A Project B
0 -350 -250
1 50 125
2 100 100
3 150 75
4 200 50 - Answers Project A: IRR= 12.9082
Project B: IRR= 17.8047
-If asked based on IRR you would choose B
-No , sometimes NRV for A may be higher than B
- 8.0683%
Crossover Rate= - Answers difference between A-B
-enter those cashflows in calc
Net Present Value (NPV) - Answers PV is a measure of how much value is created or added
today by undertaking an investment (the difference between the investment's market value and
its cost).
NPV = - Answers Estimate future cash flows. Calculate the present value of those cash flows
minus the initial cost.
NPV example: You plan to buy a machine that will cost $2,000 today and produce cash flows of
$1,500 in each of the next two years. The salvage value will be zero. The cost of capital is 15
percent. Should you buy the machine? - Answers |----------------|----------------|-------------->
-2000 1500 1500
1500/ .15 = 6,666.67
1500 / (.15)^2 = 1,134.22
N= 2 , Int = 15, PV = ? , PMT = 1500 , FV= 0
= $2,438.56
2,438 > 2,000
NPV rule: - Answers An investment should be accepted if the net present value is _positive_and
rejected if it is _negative_.
*Assumes cash flows are reinvested at _cost of capital_
Pros NPV: - Answers -uses all cash flows
- adjusts for time value of money
Cons NPV: - Answers - need appropriate discount rate
- relatively more difficult to communicate
Internal rate of return - Answers The internal rate of return is the discount rate that makes the
net present value of a project equal to zero.
How to find initial rate of return - Answers Set NPV equal to zero and solve for "r". Calculating
IRR is identical to calculating the yield to maturity on bonds.
IRR example: You plan to buy a machine that will cost $2,000 today and produce cash flows of
,$1,500 in each of the next two years. The salvage value will be zero. The cost of capital is 15
percent. Should you buy the machine? - Answers N = 2 , int = ? , PV = -2000, PMT = 1500, FV = 0
INT= 31.8729
The rule of IRR: - Answers An investment is acceptable if the IRR exceeds the _required rate of
return or cost of capital_. It should be rejected otherwise.
-*Assumes cash flows are reinvested at _the IRR_.
Pros IRR: - Answers -Closely related to the NPV rule
-Relatively easier to communicate
Cons IRR: - Answers - may result in multiple answers (non conventional cash flows)
- may result in incorrect decisions (mutually exclusive investments)
The better method of estimating return is - Answers NPV
Independent projects - Answers only looking at one project and deciding to invest or not
If you have a choice between two projects, - Answers use the NPV bc IRR doesnt always tell you
everything you need to know
Net present value profile - Answers a graph showing the relationship between a project's NPV
and various discount rates
Information a NPV profile provides: - Answers 1. Discount rates where NPV is positive - accept
2. Discount rates where NPV is negative - reject
3. Discount rates where NPV is zero - IRR
4. Sensitivity of NRV to our discount rate (ex: slope)
Non conventional cash flow example: Assume you are considering a project with the following
cash flows:
Year Cash Flows
0 -$ 252
1 $1,431
2 -$3,035
, 3 $2,850
4 -$1,000 - Answers calculate the NPV:
-at 25.00%: NPV = _0_
-at 33.33%: NPV = _0_
-at 42.86%: NPV = _0_
-at 66.67%: NPV = _0_
the max # you can have for IRR is the same as - Answers the number of sign changes you have
Example: Assume you are considering two mutually exclusive investments with the following
cash flows:
-Which project should we choose based on the IRR?
-Should we always choose that project?
-What is the crossover rate?
Year Project A Project B
0 -350 -250
1 50 125
2 100 100
3 150 75
4 200 50 - Answers Project A: IRR= 12.9082
Project B: IRR= 17.8047
-If asked based on IRR you would choose B
-No , sometimes NRV for A may be higher than B
- 8.0683%
Crossover Rate= - Answers difference between A-B
-enter those cashflows in calc
