Corporate Finance, 2e
(Berk/DeMarzo)
Chapter 6
Investment Decision Rules
6.1 NPV and StandAlone Projects
1) Which of the
following statements is false?
A) About 75% of
firms surveyed used the NPV rule for making investment decisions.
B) If you are unsure
of your cost of capital estimate, it is important to determine how sensitive
your analysis is to errors in this estimate.
C) To decide
whether to invest using the NPV rule, we need to know the cost of capital.
D) NPV is
positive only for discount rates greater than the internal rate of return.
Use the
following information to answer the question(s) below.
Sarah Palin
reportedly was paid a $11 million advance to write her book Going Rogue.
The book took one year to write. In the time she spent writing, Palin could
have been paid to give speeches and appear on TV news as a political
commentator. Given her popularity, assume that she could have earned $8 million
over the year (paid at the end of the year) she spent writing the book. Assume that she was able to write the book
while simultaneously fulfilling her media commitments of appearing on TV news
as a political commentator and give speeches.
2) Assume that
once her book is finished, it is expected to generate royalties of $5 million
in the first year (paid at the end of the year) and these royalties are
expected to decrease by 40% per year in perpetuity. Assuming that Palin's cost
of capital is 10% and given these royalties payments, the NPV of Palin's book
deal is closest to:
A) $3.75 million
B) $12.20
million
C) $13.00
million
D) $13.75
million
3) Which of the
following statements is false?
A) In general,
the difference between the cost of capital and the IRR is the maximum amount of
estimation error in the cost of capital estimate that can exist without
altering the original decision.
B) The IRR can
provide information on how sensitive your analysis is to errors in the estimate
of your cost of capital.
C) If you are
unsure of your cost of capital estimate, it is important to determine how sensitive
your analysis is to errors in this estimate.
D) If the cost
of capital estimate is more than the IRR, the NPV will be positive.
Use the
following information to answer the question(s) below.
You are
considering investing in a start up project at a cost of $100,000. You expect
the project to return $500,000 to you in seven years. Given the risk of this
project, your cost of capital is 20%.
4) The NPV for
this project is closest to:
A) $29,200
B) $39,500
C) $129,200
D) $139,500
5) The IRR for
this project is closest to:
A) 15.60%
B) 18.95%
C) 20.00%
D) 25.85%
6) The decision
you should take regarding this project is
A) reject the
project since the NPV is negative.
B) reject the
project since the NPV is positive.
C) accept the
project since the IRR < 20%.
D) accept the
project since the IRR > 20%.
Use the
following information to answer the question(s) below.
Sarah Palin
reportedly was paid a $11 million advance to write her book Going Rogue.
The book took one year to write. In the time she spent writing, Palin could
have been paid to give speeches and appear on TV news as a political
commentator. Given her popularity, assume that she could have earned $8 million
over the year (paid at the end of the year) she spent writing the book. Assume that she was able to write the book
while simultaneously fulfilling her media commitments of appearing on TV news
as a political commentator and give speeches.
7) Assuming that
Palin's cost of capital is 10%, then the NPV of her book deal is closest to:
A) $2.00 million
B) $2.20 million
C) $3.00 million
D) $3.75 million
8) The IRR of
Palin's book deal is closest to:
A) 27.25%
B) 37.50%
C) 27.25%
D) 37.50%
Use the table
for the question(s) below.
Consider a
project with the following cash flows:
Year

Cash
Flow

0

10,000

1

4,000

2

4,000

3

4,000

4

4,000

9) If the
appropriate discount rate for this project is 15%, then the NPV is closest to:
A) $6,000
B) $867
C) $1,420
D) $867
10) The NPV of
project A is closest to:
A) 12.0
B) 12.6
C) 15.0
D) 42.9
11) The NPV of
project B is closest to:
A) 12.6
B) 23.3
C) 12.0
D) 15.0
12) The NPV for
this project is closest to:
A) $176,270
B) $123,420
C) $450,000
D) $179,590
.0pt">Use the table
for the question(s) below.
Consider the
following two projects:
Project

Year
0
C/F

Year
1
C/F

Year
2
C/F

Year
3
C/F

Year
4
C/F

Year
5
C/F

Year
6
C/F

Year
7
C/F

Discount
Rate

Alpha

79

20

25

30

35

40

N/A

N/A

15%

Beta

80

25

25

25

25

25

25

25

16%

13) The NPV for
project alpha is closest to:
A) $20.96
B) $16.92
C) $24.01
D) $14.41
14) The NPV for
project beta is closest to:
A) $24.01
B) $16.92
C) $20.96
D) $14.41
:
15) The NPV of
Larry's three movie Larry Boy offer is closest to:
A) 3.5 million
B) 1.6 million Answer
C) 1.6 million
D) 1.0 million
16) The NPV for
Boulderado's snowboard project is closest to:
A) $228,900
B) $46,900
C) $51,600
D) $23,800
17) The NPV
profile graphs
A) the project's
NPV over a range of discount rates.
B) the project's
IRR over a range of discount rates.
C) the project's
cash flows over a range of NPVs.
D) the project's
IRR over a range of NPVs.
18) The NPV
profile
A) shows the
payback period  the point at which NPV is positive.
B) shows the
internal rate of return  the point at which NPV is zero.
C) shows the NPV
over a range of discount rates.
D) B and C are
correct.