Corporate Finance MCQ - Corporate Finance Section 1

41 Two mutually exclusive projects have the following cash flows ($) and internal rates of return

Project	IRR	Year 0	Year 1	Year 2	Year 3	Year 4
X	26.36%	-2,340	240	729	505	3,680
Y	26.68%	-2,340	240	729	990	3,115

Assuming a discount rate of 10% annually for both projects, the firm
should most likely accept:

Compute the NPV of both the projects at 10% discount rate. Using the financial calculator, enter CF for Years 0 – 4.
Project X: CF0 = -2340, CF1 = 240, CF2 = 729, CF3 = 505, CF4 = 3680,
I = 10, CPT NPV. NPV = $1,373.56.
Project Y: CF0 = -2340, CF1 = 240, CF2 = 729, CF3 = 990, CF4 = 3115, I = 10, CPT NPV. NPV = $1,352.05.
B is correct because Project X has a higher NPV and the projects are mutually exclusive, only Project X should be accepted.

42 A firm is analyzing different new projects for investment but cannot choose
more than an outlay of $30 million. This is most likely due to:

Capital rationing involves limited budget for investment.

43 Consider the following two mutually exclusive projects:

Project	Year 0	Year 1	Year 2	Year 3
Project A	- 3518	2500	1450	500
Project B	- 3846	900	1500	2500

At an annual discount rate of 10% for both projects, the firm should most
likely accept:

Plug in the relevant cash flows into the financial calculator for both the projects and compute the NPVs.
Project A: CF0 = -3518, CF1 = 2500, CF2 = 1450, CF3 = 500, I = 10%, CPT NPV NPVA = $328.73
Project B: CF0 = -3846, CF1 = 900, CF2 = 1500, CF3 = 2500, I = 10%, CPT NPV NPVB = $90.14
Since both projects are mutually exclusive i.e. the firm can only accept one, it would choose the one with the higher NPV which is A.

44 Mutually exclusive capital budgeting projects A and B have similar outlays,but different pattern of future cash flows. The required rate of return for both projects is 12 percent, at which the NPV and IRR turn out to be as follows:

	Cash Flows
Year	0	1	2	3	4	NPV	IRR (%)
Project A	-100	0	0	0	200	24.20	18.92
Project B	-100	40	40	40	40	19.19	21.86

The appropriate investment decision in this case is to:

When valuing mutually exclusive projects, the decision should be made with the NPV method because this method uses the most realistic discount rate, namely the opportunity cost of funds. In the example, the reinvestment rate for the NPV project (here 12 percent) is more realistic than the reinvestment rate for the IRR method (here 18.92 percent or 21.86 percent).

45 A project has the following cash flows (£):

Year 0	Year 1	Year 2	Year 3	Year 4
–3,250	1,505	550	955	1,820

Assuming a discount rate of 7% annually, the discounted payback period
(in years) is closest to: