CPFM Capital Budgeting Decisions 3

Question 1

An asset costs $80,000 and is depreciated straight-line over 4 years to zero. The annual depreciation tax shield at a 25% tax rate is:

Accepted Answer

$5,000

Answer

Depreciation = $20,000/year; tax shield = $20,000 x 0.25 = $5,000.

Question 2

In computing incremental cash flow, an increase in net working capital is treated as:

Accepted Answer

A cash outflow at the start

Answer

Increased working capital ties up cash, so it is an outflow at project initiation.

Question 3

The discount rate that makes a project's NPV equal to zero is the:

Accepted Answer

Internal rate of return

Answer

By definition, the IRR is the rate at which NPV equals zero.

Question 4

Projects with non-conventional cash flows (sign changes more than once) may have:

Accepted Answer

Multiple IRRs

Answer

Multiple sign changes in cash flows can produce more than one IRR solution.

Question 5

Terminal (salvage) value received at the end of a project should be:

Accepted Answer

Added as an after-tax inflow in the final year

Answer

Salvage proceeds, net of tax effects, are an inflow in the final year of analysis.

CPFM Practice Test