Finance for Non-Finance Managers Capital Budgeting 3

Question 1

In capital budgeting, which of the following is considered an incremental cash flow?

Accepted Answer

Additional revenue generated by the new project

Answer

Incremental cash flows are those that arise specifically because of the project, such as additional revenues it generates.

Question 2

A company uses a 10% discount rate. Project A has an NPV of $50,000 and Project B has an NPV of $30,000. If they are mutually exclusive, which should be chosen?

Accepted Answer

Project A, because it has the higher NPV

Answer

For mutually exclusive projects, the one with the higher positive NPV creates more value for the firm and should be selected.

Question 3

What is the primary limitation of using the payback period as a sole capital budgeting criterion?

Accepted Answer

It ignores cash flows occurring after the payback cutoff

Answer

The payback period ignores all cash flows beyond the recovery date, potentially rejecting projects with large long-term benefits.

Question 4

Which scenario demonstrates the 'multiple IRR problem'?

Accepted Answer

A project whose cash flows change sign more than once

Answer

When a project's cash flows change from negative to positive to negative again, the IRR equation can produce multiple mathematical solutions.

Question 5

Net Working Capital (NWC) changes in capital budgeting are treated as:

Accepted Answer

Cash outflows at project start and inflows at project end

Answer

Increases in NWC represent cash tied up in operations (an outflow) at inception, which is typically recovered (an inflow) when the project ends.

Finance for Non-Finance Managers Practice Test

Finance for Non-Finance Managers Practice Test

Finance for Non-Finance Managers Capital Budgeting 3