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FINC 3610 exam 3 Questions with Detailed Verified
Answers
Net Present Value (NPV) Ans: ✓ ✓ ✓ 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 = Ans: ✓ ✓ ✓ 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? Ans: ✓ ✓ ✓ |----------------|----------------|-------------->
-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: Ans: ✓ ✓ ✓ 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: Ans: ✓ ✓ ✓ -uses all cash flows
- adjusts for time value of money
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Cons NPV: Ans: ✓ ✓ ✓ - need appropriate discount rate
- relatively more difficult to communicate
Internal rate of return Ans: ✓ ✓ ✓ 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 Ans: ✓ ✓ ✓ 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? Ans: ✓ ✓ ✓ N = 2 , int = ? , PV = -2000, PMT = 1500, FV = 0
INT= 31.8729
The rule of IRR: Ans: ✓ ✓ ✓ 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: Ans: ✓ ✓ ✓ -Closely related to the NPV rule
-Relatively easier to communicate
Cons IRR: Ans: ✓ ✓ ✓ - may result in multiple answers (non conventional cash flows)
- may result in incorrect decisions (mutually exclusive investments)
The better method of estimating return is Ans: ✓ ✓ ✓ NPV
Independent projects Ans: ✓ ✓ ✓ only looking at one project and deciding to invest or not
If you have a choice between two projects, Ans: ✓ ✓ ✓ use the NPV bc IRR doesnt always tell you
everything you need to know
Net present value profile Ans: ✓ ✓ ✓ a graph showing the relationship between a project's NPV
and various discount rates
Information a NPV profile provides: Ans: ✓ ✓ ✓ 1. Discount rates where NPV is positive - accept
© Get it right 2025 Getaway - Stuvia US All rights reserved
FINC 3610 exam 3 Questions with Detailed Verified
Answers
Net Present Value (NPV) Ans: ✓ ✓ ✓ 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 = Ans: ✓ ✓ ✓ 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? Ans: ✓ ✓ ✓ |----------------|----------------|-------------->
-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: Ans: ✓ ✓ ✓ 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: Ans: ✓ ✓ ✓ -uses all cash flows
- adjusts for time value of money
© Get it right 2025 Getaway - Stuvia US All rights reserved
, Click here for more: Scholars nexus
Cons NPV: Ans: ✓ ✓ ✓ - need appropriate discount rate
- relatively more difficult to communicate
Internal rate of return Ans: ✓ ✓ ✓ 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 Ans: ✓ ✓ ✓ 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? Ans: ✓ ✓ ✓ N = 2 , int = ? , PV = -2000, PMT = 1500, FV = 0
INT= 31.8729
The rule of IRR: Ans: ✓ ✓ ✓ 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: Ans: ✓ ✓ ✓ -Closely related to the NPV rule
-Relatively easier to communicate
Cons IRR: Ans: ✓ ✓ ✓ - may result in multiple answers (non conventional cash flows)
- may result in incorrect decisions (mutually exclusive investments)
The better method of estimating return is Ans: ✓ ✓ ✓ NPV
Independent projects Ans: ✓ ✓ ✓ only looking at one project and deciding to invest or not
If you have a choice between two projects, Ans: ✓ ✓ ✓ use the NPV bc IRR doesnt always tell you
everything you need to know
Net present value profile Ans: ✓ ✓ ✓ a graph showing the relationship between a project's NPV
and various discount rates
Information a NPV profile provides: Ans: ✓ ✓ ✓ 1. Discount rates where NPV is positive - accept
© Get it right 2025 Getaway - Stuvia US All rights reserved
