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诚邀您6月7日上午10:00参加金融高端论坛第七期 中国人民大学汉青经济与金融高级研究院 很爱下雪天 2013-6-6 10 2182 悠悠仔 2023-2-28 13:23:30
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相关日志

分享 Mortgage Pass-Throughs
accumulation 2017-6-10 02:18
Calculation of total rates of return (TRRs) of investment in Treasuries and mortgage pass-throughs under the following assumptions: 1. The investment period begins on January 10, 2016, and ends on May 30, 2017. 2. The total investment is $4,000,000 to purchase two Treasuries and two residential mortgage pass-throughs. 3. During the investment horizon, these securities are to experience two dramatically different patterns of interest rate changes with specific purchasing and selling yields. 4. The table below lists the two Treasuries and mortgage pass-throughs and the two interest rate scenarios. The investment plan is to allocate $1,000,000 on each security with possible cash left for short-term investment. All cash flows are to be reinvested in a high investment grade, money market instruments with an annualized yield of 0.5% for both rising and declining interest rate scenarios. All trades are settled on the beginning and ending dates of the investment period (ignore the settlement dates specified by SIFMA for mortgage securities). 5. Calculate actual and annualized total rates of return of the four securities and comment on all the reasons why the four securities performed differently in the two different interest rate environments. The reasons discussed in the commentary carry a significant weight in scoring a higher mark for the group investment project.
个人分类: 金融学|0 个评论
分享 英语作文万能句—段首
accumulation 2015-3-29 16:12
   九、段首万能句子    1. 关于……人们有不同的观点。一些人认为……    There are different opinions among people as to ____ .Some people suggest that ____.    2. 俗话说(常言道)……,它是我们前辈的经历,但是,即使在今天,它在许多场合仍然适用。    There is an old saying______.It “ s the experience of our forefathers , however , it is correct in many cases even today.    3. 现在,……,它们给我们的日常生活带来了许多危害。首先,……;其次,……更为糟糕的是……    Today, ____, which have brought a lot of harms in our daily life.First, ____ Second,____.What makes things worse is that______.    4. 现在,……很普遍,许多人喜欢……,因为……,另外(而且)……    Nowadays , it is common to ______.Many people like ______ because ______.Besides , ______.    5. 任何事物都是有两面性,……也不例外。 ( www.lz13.cn ) 它既有有利的一面,也有不利的一面。    Everything has two sides and ______ is not an exception , it has both advantages and disadvantages.    6. 关于……人们的观点各不相同,一些人认为(说)……,在他们看来,……    People's opinions about ______ vary from person to person.Some people say that ______.To them,_____.    7. 人类正面临着一个严重的问题……,这个问题变得越来越严重。    Man is now facing a big problem ______ which is becoming more and more serious.    8. ……已成为人的关注的热门话题,特别是在年青人当中,将引发激烈的辩论。    ______ has become a hot topic among people , especially among the young and heated debates are right on their way.    9. ……在我们的日常生活中起着越来越重要的作用,它给我们带来了许多好处,但同时也引发一些严重的问题。    ______ has been playing an increasingly important role in our day-to-day life.it has brought us a lot of benefits but has created some serious problems as well.    10. 根据图表 / 数字 / 统计数字 / 表格中的百分比 / 图表 / 条形图 / 成形图可以看出……很显然……,但是为什么呢?    According to the figure/number/statistics/percentages in the /chart/bar graph/line/graph , it can be seen that______ while.Obviously , ______ , but why?
个人分类: Reading|0 个评论
分享 英语作文万能句—引言
accumulation 2015-3-29 16:05
   五、常用于引言段的句型    1.Some people think that … 有些人认为… To be frank, I can not agree with their opinion for the reasons below. 坦率地说,我不能同意他们的意见,理由如下。    2.For years, … has been seen as …, but things are quite different now. 多年来,……一直被视为……,但今天的情况有很大的不同。    3.I believe the title statement is valid because … 我认为这个论点是正确的,因为…    4.I cannot entirely agree with the idea that …我无法完全同意这一观点的… I believe …    5.My argument for this view goes as follows. 我对这个问题的看法如下。    6.Along with the development of …, more and more …随着……的发展,越来越多…    7.There is a long-running debate as to whether …有一个长期运行的辩论,是否…    8.It is commonly/generally/widely/ believed /held/accepted/recognized that …它通常是认为…    9.As far as I am concerned, I completely agree with the former/ the latter. 就我而言,我完全同意前者 / 后者。    10.Before giving my opinion, I think it is essential to look at the argument of both sides. 在给出我的观点之前,我想有必要看看双方的论据。
个人分类: Reading|0 个评论
分享 Introductory Econometrics for Finance
accumulation 2015-3-11 01:36
Is financial econometrics different from ‘economic econometrics’? As previously stated, the tools commonly used in financial applications are fundamentally the same as those used in economic applications, although the emphasis and the sets of problems that are likely to be encountered when analysing the two sets of data are somewhat different. Financial data often differ from macroeconomic data in terms of their frequency, accuracy, seasonality and other properties. In economics, a serious problem is often a lack of data at hand for testing the theory or hypothesis of interest -- this is often called a ‘small samples problem’. It might be, for example, that data are required on government budget deficits, or population figures, which are measured only on an annual basis. If the methods used to measure these quantities changed a quarter of a century ago, then only at most twenty-five of these annual observations are usefully available. Two other problems that are often encountered in conducting applied econometric work in the arena of economics are those of measurement error and data revisions. These difficulties are simply that the data may be estimated, or measured with error, and will often be subject to several vintages of subsequent revisions. For example, a researcher may estimate an economic model of the effect on national output of investment in computer technology using a set of published data, only to find that the data for the last two years have been revised substantially in the next, updated publication. These issues are rarely of concern in finance. Financial data come in many shapes and forms, but in general the prices and other entities that are recorded are those at which trades actually took place, or which were quoted on the screens of information providers. There exists, of course, the possibility for typos and possibility for the data measurement method to change (for example, owing to stock index re-balancing or re-basing). But in general the measurement error and revisions problems are far less serious in the financial context. Similarly, some sets of financial data are observed at much higher frequencies than macroeconomic data. Asset prices or yields are often available at daily, hourly, or minute-by-minute frequencies. Thus the number of observations available for analysis can potentially be very large -- perhaps thousands or even millions, making financial data the envy of macroeconometricians! The implication is that more powerful techniques can often be applied to financial than economic data, and that researchers may also have more confidence in the results. Furthermore, the analysis of financial data also brings with it a number of new problems. While the difficulties associated with handling and processing such a large amount of data are not usually an issue given recent and continuing advances in computer power, financial data often have a number of additional characteristics. For example, financial data are often considered very ‘noisy’, which means that it is more difficult to separate underlying trends or patterns from random and uninteresting features. Financial data are also almost always not normally distributed in spite of the fact that most techniques in econometrics assume that they are. High frequency data often contain additional ‘patterns’ which are the result of the way that the market works, or the way that prices are recorded. These features need to be considered in the model-building process, even if they are not directly of interest to the researcher.
个人分类: 金融学|0 个评论
分享 Introductory Econometrics for Finance
accumulation 2015-3-11 00:43
1 Introduction 1 1.1 What is econometrics? 1 1.2 Is financial econometrics different from ‘economic econometrics’? 2 1.3 Types of data 3 1.4 Returns in financial modelling 7 1.5 Steps involved in formulating an econometric model 9 1.6 Points to consider when reading articles in empirical finance 10 1.7 Econometric packages for modelling financial data 11 1.8 Outline of the remainder of this book 22 1.9 Further reading 25 Appendix: Econometric software package suppliers 26
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分享 Energy Traps in Atomic Nuclei
accumulation 2015-3-10 10:30
Figure 1: Excitation energy as a function of various nuclear variables. The secondary energy minima are responsible for the different kinds of isomers: a, shape isomers; b, spin traps; c, K-traps. In each case, the relevant nuclear shapes are illustrated; where appropriate, angular momentum vectors are shown as arrows. For both the spin trap and the K-trap, the angular momentum comes from a small number of orbiting nucleons (two are illustrated in red in each case).
个人分类: 原子核物理|0 个评论
分享 Fun With Fibonacci Flashbacks
insight 2013-5-9 09:16
Fun With Fibonacci Flashbacks Submitted by Tyler Durden on 05/08/2013 20:15 -0400 Digital Dickweed Fibonacci Reality When a 'blog' puts the words Fibonacci, Gold, and Stocks in the same post, it well and truly earns its 'tin-foil-hat'-wearing "digital dickweed" honors. And so, we present, for the edification of all those who believe in gold as the only sound numeraire for judging value; for those who believe it's never different this time; and for those who believe in dead-cat-bounces; the Dow in Gold in the 30s, 70s, and Now... The crash in nominal 'price' is followed by a Fib 23.6% retracement rally as hope triumphs over adversity... only for reality to rapidly re-emerge... Charts: Bloomberg
个人分类: market|18 次阅读|0 个评论
分享 chapetr7
jane19828 2012-11-21 23:31
Chapter 7 Fundamentals of Capital Budgeting 7.1 Forecasting Earnings 1) Which of the following statements is false? A) A capital budget lists the projects and investments that c company plans to undertake during the coming year. B) Income Tax = EBIT × (1 - τc). C) When sales of a new product displace sales of an existing product, the situation is often referred to as cannibalization. D) Overhead expenses are often allocated to the different business activities for accounting purposes. Answer: B Diff: 1 Skill: Conceptual 2) Which of the following statements is false? A) Sales will ultimately decline as the product nears obsolescence or faces increased competition. B) Managers sometimes continue to invest in a project that has a negative NPV because they have already invested a large amount in the project and feel that by not continuing it, the prior investment will wasted. C) With straight-line depreciation the asset’s cost is divided equally over its life. D) A projects unlevered net income is equal to its incremental revenues less costs and depreciation, evaluated on an pre-tax basis. Answer: D Diff: 1 Skill: Conceptual 3) Which of the following statements is false? A) We begin the capital budgeting process by determining the incremental earnings of a project. B) The marginal corporate tax rate is the tax rate the firm will pay on an incremental dollar of pre-tax income. C) Investments in plant, property, and equipment are directly listed as expense when calculating earnings. D) The opportunity cost of using a resource is the value it could have provided in its best alternative use. Answer: C Diff: 1 Skill: Conceptual Chapter 7 Fundamentals of Capital Budgeting 145 4) Which of the following statements is false? A) When evaluating a capital budgeting decision, the correct tax rate to use is the firm’s average corporate tax rate. B) To determine the capital budget, firms analyze alternative projects and decide which ones to accept through a process called capital budgeting. C) A new product typically has lower sales initially, as customers gradually become aware of the product. D) Sunk costs have been or will be paid regardless of the decision whether or not to proceed with the project. Answer: A Diff: 2 Skill: Conceptual 5) Which of the following statements is false? A) Because value is lost when a resource is used by another project, we should include the opportunity cost as an incremental cost of the project. B) Sunk costs are incremental with respect to the current decision regarding the project and should be included in its analysis. C) Overhead expenses are associated with activities that are not directly attributable to a single business activity but instead affect many different areas of the corporation. D) When computing the incremental earnings of an investment decision, we should include all changes between the firm’s earnings with the project versus without the project. Answer: B Diff: 2 Skill: Conceptual 6) Which of the following statements is false? A) The firm deducts a fraction of the investments in plant, property, and equipment each year as depreciation. B) If securities are fairly priced, the net present value of a fixed set of cash flows is independent of how those cash flows are financed. C) Sunk cost fallacy is a term used to describe the tendency of people to ignore sunk costs in capital budgeting analysis. D) A good rule to remember is that if our decision does not affect a cash flow then the cash flow should not affect our decision. Answer: C Diff: 2 Skill: Conceptual 146 Berk/DeMarzo · Corporate Finance 7) Which of the following statements is false? A) The ultimate goal in capital budgeting is to determine the effect of the decision to take a particular project on the firmʹs cash flows. B) To the extent that overhead costs are fixed and will be incurred in any case, they are incremental to the project and should be included in the capital budgeting analysis. C) Unlevered Net Income = (Revenue - Costs - Depreciation) × (1 - τc). D) Earnings are not cash flows. Answer: B Diff: 2 Skill: Conceptual 8) Which of the following statements is false? A) Project externalities are direct effects of the project that may increase of decrease the profits of other business activities of the firm. B) Incremental earnings are the amount by which the firmʹs earnings are expected to change as a result of the investment decision. C) The average selling price of a product and its cost of production will generally change over time. D) Any money that has already been spent is a sunk cost and therefore irrelevant in the capital budgeting process. Answer: A Diff: 3 Skill: Conceptual 9) Which of the following statements is false? A) Many projects use a resource that the company already owns. B) When evaluating a capital budgeting decision, we generally include interest expense. C) Only include as incremental expenses in your capital budgeting analysis the additional overhead expenses that arise because of the decision to take on the project. D) As a practical matter, to derive the forecasted cash flows of a project, financial managers often begin by forecasting earnings. Answer: B Diff: 2 Skill: Conceptual Chapter 7 Fundamentals of Capital Budgeting 147 10) Which of the following statements is false? A) The simplest method used to calculate depreciation is the straight-line method. B) A sunk cost is any unrecoverable cost for which the firm is already liable. C) Unlevered Net Income = EBIT × τc. D) The decision to continue or abandon should be based only on the incremental costs and benefits of the project going forward. Answer: C Diff: 1 Skill: Conceptual 11) Which of the following costs would you consider when making a capital budgeting decision? A) Sunk cost B) Opportunity cost C) Interest expense D) Fixed overhead cost Answer: B Diff: 1 Skill: Conceptual 12) A decrease in the sales of a current project because of the launching of a new project is A) cannibalization. B) a sunk cost. C) an overhead expense. D) irrelevant to the investment decision. Answer: A Diff: 1 Skill: Definition 13) Money that has been or will be paid regardless of the decision whether or not to proceed with the project is A) cannibalization. B) considered as part of the initial investment in the project. C) an opportunity cost. D) a sunk cost. Answer: D Diff: 1 Skill: Definition 148 Berk/DeMarzo · Corporate Finance 14) The value of currently unused warehouse space that will be used as part of a new capital budgeting project is A) an opportunity cost. B) irrelevant to the investment decision. C) an overhead expense. D) a sunk cost. Answer: A Diff: 1 Skill: Definition Use the information for the question(s) below. Ford Motor Company is considering launching a new line of hybrid Diesel-Electric SUVs. The heavy advertising expenses associated with the new SUV launch would generate operating losses of $35 million next year. Without the new SUV, Ford expects to earn pre-tax income of $80 million from operations next year. Ford pays a 30% tax rate on its pre-tax income. 15) The amount that Ford Motor Company owe in taxes next year without the launch of the new SUV is closest to: A) $24.0 million B) $56.0 million C) $31.5 million D) $13.5 million Answer: A Explanation: A) = $80 × .30 = $24 million Diff: 1 Skill: Analytical 16) The amount that Ford Motor Company owe in taxes next year with the launch of the new SUV is closest to: A) $13.5 million B) $31.5 million C) $56.0 million D) $24.0 million Answer: A Explanation: A) = (80 - 35) × .30 = 13.5 million Diff: 1 Skill: Analytical Chapter 7 Fundamentals of Capital Budgeting 149 Use the information for the question(s) below. Food For Less (FFL), a grocery store, is considering offering one hour photo developing in their store. The firm expects that sales from the new one hour machine will be $150,000 per year. FFL currently offers overnight film processing with annual sales of $100,000. While many of the one hour photo sales will be to new customers, FFL estimates that 60% of their current overnight photo customers will switch and use the one hour service. 17) The level of incremental sales associated with introducing the new one hour photo service is closest to: A) $90,000 B) $150,000 C) $60,000 D) $120,000 Answer: A Explanation: A) = $150,000 - (cannibalized sales) = 150000 - .60 × 100,000 = $90,000 Diff: 2 Skill: Analytical 18) Suppose that of the 60% of FFLʹs current overnight photo customers, half would start taking their film to a competitor that offers one hour photo processing if FFL fails to offer the one hour service. The level of incremental sales in this case is closest to: A) $60,000 B) $150,000 C) $90,000 D) $120,000 Answer: D Explanation: D) = $150,000 - (cannibalized sales) = 150000 - (.60 × .50) × 100,000 = $120,000 Note that the rate of cannibalization is only 30% (.60 × .50) since the other 30% would have taken their film elsewhere. Diff: 2 Skill: Analytical 150 Berk/DeMarzo · Corporate Finance Use the information for the question(s) below. Glucose Scan Incorporated (GSI) currently sells its latest glucose monitor, the Glucoscan 3000, to diabetic patients for $129. GSI plans on lowering their price next year to $99 per unit. The cost of goods sold for each Glucoscan unit is $50, and GSI expects to sell 100,000 units over the next year. 19) Suppose that if GSI drops the price on the Glucoscan 3000 immediately, it can increase sales over the next year by 30% to 130,000 units. The incremental impact of this price drop on the firms EBIT is closest to: A) a decline of 1.5 million B) an increase of 1.5 million C) a decline of 2.4 million D) an increase of 2.4 million Answer: A Explanation: A) Without price cut = 100,000 units × ($129 - 50) = $7,900,000 With price cut = 130,000 units × ($99 - 50) = $6,370,000 So, incremental = 6,370,000 - 7,900,000 = -1,530,000 Diff: 2 Skill: Analytical 20) Suppose that if GSI drops the price on the Glucoscan 3000 immediately, it can increase sales over the next year by 30% to 130,000 units. Also suppose that for each Glucoscan monitor sold, GSI expects additional sales of $100 per year on glucose testing strips and these strips have a gross profit margin of 75%. Considering the increase in the sale of testing strips, the incremental impact of this price drop on the firms EBIT is closest to: A) A decline of 1.5 million B) Adecline of 0.7 million C) An increase of 0.7 million D) An increase of 1.5 million Answer: C Explanation: C) Without Price Cut Monitor sales = 100,000 × ($129 - $50) = $7,900,000 Strip sales = 100,000 × ($100 - $25) = $7,500,000 Total EBIT = 7,900,000 + 7,500,000 = 15,400,000 With Price Cut Monitor sales = 130,000 × ($99 - $50) = $6,370.000 Strip sales = 130,000 × ($100 - $25) = $9,750,000 Total EBIT = 6,370,000 + 9,750,000 = 16,120,000 Incremental = 16,120,000 - 15,400,000 = 720,000 Diff: 3 Skill: Analytical Chapter 7 Fundamentals of Capital Budgeting 151 Use the information for the question(s) below. The Sisyphean Corporation is considering investing in a new cane manufacturing machine that has an estimated life of three years. The cost of the machine is $30,000 and the machine will be depreciated straight line over its three-year life to a residual value of $0. The cane manufacturing machine will result in sales of 2,000 canes in year 1. Sales are estimated to grow by 10% per year each year through year three. The price per cane that Sisyphean will charge its customers is $18 each and is to remain constant. The canes have a cost per unit to manufacture of $9 each. Installation of the machine and the resulting increase in manufacturing capacity will require an increase in various net working capital accounts. It is estimated that the Sisyphean Corporation needs to hold 2% of its annual sales in cash, 4% of its annual sales in accounts receivable, 9% of its annual sales in inventory, and 6% of its annual sales in accounts payable. The firm is in the 35% tax bracket, and has a cost of capital of 10%. 21) The incremental EBIT in the first year for the Sisyphean Corporationʹs project is closest to: A) $18,000 B) $8,000 C) $11,700 D) $5,200 Answer: B Explanation: B) Incremental Earnings Forecast Year 1 2 3 Units 2,000 2,200 2,420 Sales (units × $18) 36,000 39,600 43,560 Cost of Good Sold (units × $9) 18,000 19,800 21,780 Gross Profit 18,000 19,800 21,780 Depreciation ($30,000 / 3) 10,000 10,000 10,000 EBIT 8,000 9,800 11,780 Income tax at 35% 2,800 3,430 4,123 Unlevered net income 5,200 6,370 7,657 Diff: 3 Skill: Analytical 152 Berk/DeMarzo · Corporate Finance 22) The incremental unlevered net income in the first year for the Sisyphean Corporationʹs project is closest to: A) $8,000 B) $18,000 C) $5,200 D) $11,700 Answer: C Explanation: C) Incremental Earnings Forecast Year 1 2 3 Units 2,000 2,200 2,420 Sales (units × $18) 36,000 39,600 43,560 Cost of Good Sold (units × $9) 18,000 19,800 21,780 Gross Profit 18,000 19,800 21,780 Depreciation ($30,000 / 3) 10,000 10,000 10,000 EBIT 8,000 9,800 11,780 Income tax at 35% 2,800 3,430 4,123 Unlevered net income 5,200 6,370 7,657 Diff: 3 Skill: Analytical 23) The depreciation tax shield for the Sisyphean Corporationʹs project in the first year is closest to: A) $8,000 B) $3,500 C) $2,800 D) $5,200 Answer: B Explanation: B) Depreciation tax shield = depreciation × τc = (30000/3) × .35 = $3,500 Diff: 2 Skill: Analytical Chapter 7 Fundamentals of Capital Budgeting 153 24) The amount of incremental income taxes that the Sisyphean Company will pay in the first year on this new project is closest to: A) $6,300 B) $5,200 C) $3,500 D) $2,800 Answer: D Explanation: D) Incremental Earnings Forecast Year 1 2 3 Units 2,000 2,200 2,420 Sales (units × $18) 36,000 39,600 43,560 Cost of Good Sold (units × $9) 18,000 19,800 21,780 Gross Profit 18,000 19,800 21,780 Depreciation ($30,000 / 3) 10,000 10,000 10,000 EBIT 8,000 9,800 11,780 Income tax at 35% 2,800 3,430 4,123 Unlevered net income 5,200 6,370 7,657 Diff: 2 Skill: Analytical 25) What is a sunk cost? Should it be included in the incremental cash flows for a project? Why or why not? Answer: A sunk cost is any unrecoverable cost for which the firm is already liable. Sunk costs will have to be paid regardless of the decision whether or not to proceed with the project. Therefore, sunk costs are not incremental with respect to the current decision regarding the project and should not be included in its analysis. Diff: 2 Skill: Conceptual 26) What is an opportunity cost? Should it be included in the incremental cash flows for a project? Why or why not? Answer: Many projects use resources that the company already owns. An opportunity cost is the cost of using a resource that otherwise could have provided value to the firm. The opportunity cost of using a resource is the value it could have provided in its best alternative use. Because this value is lost when a resource is used by another project, we should always include the opportunity cost as an incremental cost of the project. Diff: 2 Skill: Conceptual 154 Berk/DeMarzo · Corporate Finance Use the information for the question(s) below. The Sisyphean Corporation is considering investing in a new cane manufacturing machine that has an estimated life of three years. The cost of the machine is $30,000 and the machine will be depreciated straight line over its three-year life to a residual value of $0. The cane manufacturing machine will result in sales of 2,000 canes in year 1. Sales are estimated to grow by 10% per year each year through year three. The price per cane that Sisyphean will charge its customers is $18 each and is to remain constant. The canes have a cost per unit to manufacture of $9 each. Installation of the machine and the resulting increase in manufacturing capacity will require an increase in various net working capital accounts. It is estimated that the Sisyphean Corporation needs to hold 2% of its annual sales in cash, 4% of its annual sales in accounts receivable, 9% of its annual sales in inventory, and 6% of its annual sales in accounts payable. The firm is in the 35% tax bracket, and has a cost of capital of 10%. 27) Construct a simple income statement showing the incremental EBIT and the incremental unlevered net income for all three years of the Sisyphean Companies project. Answer: Incremental Earnings Forecast Year 1 2 3 Units 2,000 2,200 2,420 Sales (units × $18) 36,000 39,600 43,560 Cost of Good Sold (units × $9) 18,000 19,800 21,780 Gross Profit 18,000 19,800 21,780 Depreciation ($30,000 / 3) 10,000 10,000 10,000 EBIT 8,000 9,800 11,780 Income tax at 35% 2,800 3,430 4,123 Unlevered net income 5,200 6,370 7,657 Diff: 3 Skill: Analytical 7.2 Determining Free Cash Flow and NPV 1) Which of the following statements is false? A) Depreciation is not a cash expense paid by the firm. B) Net Working Capital = Cash + Inventory + Payables - Receivables. C) Since 1997, companies can ʺcarry backʺ losses for two years and ʺcarry forwardʺ losses for 20 years. D) Earnings do not represent real profits. Answer: B Diff: 2 Skill: Conceptual Chapter 7 Fundamentals of Capital Budgeting 155 2) Which of the following questions is false? A) Net Working Capital = Current Assets - Current Liabilities. B) Because depreciation is not a cash flow, we do not include it in the cash flow forecast. C) Tax loss carry backs allow corporations to take losses during the current year and use them to offset income in future years. D) Earnings are an accounting measure of firm performance. Answer: C Diff: 1 Skill: Conceptual 3) Which of the following statements is false? A) Depreciation is a method used for accounting and tax purposes to allocate the original purchase cost of the asset over its life. B) Sometimes the firm explicitly forecast free cash flow over a shorter horizon than the full horizon of the project or investment. C) Earnings include the cost of capital investments, but do not include non-cash charges, such as depreciation. D) Firms often report a different depreciation expense for accounting and for tax purposes. Answer: C Diff: 1 Skill: Conceptual 4) Which of the following statements is false? A) Most projects will require the firm to invest in net working capital. B) The main components of net working capital are cash, inventory, receivables, and property, plant and equipment. C) ΔNWCt = NWCt - NWCt - 1. D) In the final year of a project, the firm ultimately recovers the investment in net working capital. Answer: B Diff: 1 Skill: Conceptual 5) Which of the following statements is false? A) Depreciation expenses have a positive impact on free cash flow. B) Free Cash Flow = (Revenues - Costs - Depreciation) × (1 - τc) - Capital Expenditures - ΔNWC + τc × Depreciation. C) The firm cannot use its earnings to buy goods, pay employees, fund new investments, or pay dividends to shareholders. D) The depreciation tax shield is the tax savings that results from the ability to deduct depreciation. Answer: B Diff: 2 Skill: Conceptual 156 Berk/DeMarzo · Corporate Finance 6) Which of the following statements is false? A) Because only the tax consequences of depreciation are relevant for free cash flow, we should use the depreciation expense that the firm will use for tax purposed in our free cash flow forecasts. B) A firm generally identifies its marginal tax rate by determining the tax bracket that it falls into based on its overall level of pre-tax income. C) Free Cash Flow = (Revenues - Costs) × (1 - τc) - Capital Expenditures - ΔNWC + τc × Depreciation. D) Net working capital is the difference between current liabilities and current assets. Answer: D Diff: 2 Skill: Conceptual 7) Which of the following statements is false? A) The terminal of continuation value of the project represents the market value (as of the last forecast period) of the free cash flow from the project at all future dates. B) The incremental effect of a project on the firm’s available cash is the projectʹs free cash flow. C) (1 - τc) × Depreciation is called the depreciation tax shield. D) To evaluate a capital budgeting decision, we must determine its consequences for the firmʹs available cash. Answer: C Diff: 2 Skill: Conceptual 8) Which of the following cash flows are relevant incremental cash flows for a project that you are currently considering investing in? A) The tax savings brought about by the projects depreciation expense. B) The cost of a marketing survey you conducted to determine demand for the proposed project. C) Interest payments on debt used to finance the project. D) Research and Development expenditures you have made. Answer: A Diff: 2 Skill: Conceptual Chapter 7 Fundamentals of Capital Budgeting 157 9) Your firm is considering building a new office complex. Your firm already owns land suitable for the new complex. The current book value of the land is $100,000, however a commercial real estate again has informed you that an outside buyer is interested in purchasing this land and would be willing to pay $650,000 for it. When calculating the NPV of your new office complex, ignoring taxes, the appropriate incremental cash flow for the use of this land is: A) $650,000 B) $0 C) $100,000 D) $750,000 Answer: A Explanation: A) It is appropriate to use the market value. If taxes are include, the value would be the after-tax value of the land. Diff: 2 Skill: Definition 10) You are considering adding a micro brewery on to one of your firmʹs existing restaurants. This will entail an increase in inventory of $8,000, an increase in accounts payables of $2,500, and an increase in property, plant, and equipment of $40,000. All other accounts will remain unchanged. The change in net working capital resulting from the addition of the micro brewery is: A) $45,500 B) $10,500 C) $6,500 D) $5,500 Answer: D Explanation: D) NWC = CA - CL = $8000 - $2500 = $5500 Diff: 1 Skill: Analytical 11) You are considering adding a micro brewery on to one of your firmʹs existing restaurants. This will entail an investment of $40,000 in new equipment. This equipment will be depreciated straight line over five years. If your firmʹs marginal corporate tax rate is 35%, then what is the value of the micro breweryʹs depreciation tax shield in the first year of operation? A) $2,800 B) $14,000 C) $5,200 D) $26,000 Answer: A Explanation: A) First figure out the straight line depreciation. $40,000 / 5 years = $8000 depreciation per year. Then .35 × $8000 = $2,800 depreciation tax shield per year. Diff: 2 Skill: Analytical 158 Berk/DeMarzo · Corporate Finance 12) The Sisyphean Company is considering a new project that will have an annual depreciation expense of $2.5 million. If Sisypheanʹs marginal corporate tax rate is 40% and their average corporate tax rate is 30%, then what is the value of the depreciation tax shield on their new project? A) $750,000 B) $1,000,000 C) $1,500,000 D) $1,750,000 Answer: B Explanation: B) Here we need to use the marginal tax rate. So depreciation tax shield = $2,500,000 × .40 = $1 million Diff: 2 Skill: Analytical Use the information for the question(s) below. The Sisyphean Corporation is considering investing in a new cane manufacturing machine that has an estimated life of three years. The cost of the machine is $30,000 and the machine will be depreciated straight line over its three-year life to a residual value of $0. The cane manufacturing machine will result in sales of 2,000 canes in year 1. Sales are estimated to grow by 10% per year each year through year three. The price per cane that Sisyphean will charge its customers is $18 each and is to remain constant. The canes have a cost per unit to manufacture of $9 each. Installation of the machine and the resulting increase in manufacturing capacity will require an increase in various net working capital accounts. It is estimated that the Sisyphean Corporation needs to hold 2% of its annual sales in cash, 4% of its annual sales in accounts receivable, 9% of its annual sales in inventory, and 6% of its annual sales in accounts payable. The firm is in the 35% tax bracket, and has a cost of capital of 10%. 13) The required net working capital in the first year for the Sisyphean Corporationʹs project is closest to: A) $3,600 B) $3,960 C) $2,880 D) $5,400 Answer: A Explanation: A) Networking Capital Forecast Year 1 2 3 Units 2,000 2,200 2,420 Sales (units × $18) 36,000 39,600 43,560 Cash (2% of sales) 720 792 871.2 Accounts Receivable (4% of sales) 1440 1584 1742.4 Inventory (9% of sales) 3240 3564 3920.4 Accounts Payable (5% of sales) 1800 1980 2178 NWC (Cash + Inventory+ AR - AP) 3600 3960 4356 Diff: 3 Skill: Analytical Chapter 7 Fundamentals of Capital Budgeting 159 14) The required net working capital in the second year for the Sisyphean Corporationʹs project is closest to: A) $3,960 B) $4,360 C) $3.190 D) $5,940 Answer: A Explanation: A) Networking Capital Forecast Year 1 2 3 Units 2,000 2,200 2,420 Sales (units × $18) 36,000 39,600 43,560 Cash (2% of sales) 720 792 871.2 Accounts Receivable (4% of sales) 1440 1584 1742.4 Inventory (9% of sales) 3240 3564 3920.4 Accounts Payable (5% of sales) 1800 1980 2178 NWC (Cash + Inventory+ AR - AP) 3600 3960 4356 Diff: 3 Skill: Analytical 15) The change in Net working capital from year one to year two is closest to: A) A decrease of $360 B) An increase of $360 C) An increase of $396 D) A decrease of $396 Answer: B Explanation: B) Networking Capital Forecast Year 1 2 3 Units 2,000 2,200 2,420 Sales (units × $18) 36,000 39,600 43,560 Cash (2% of sales) 720 792 871.2 Accounts Receivable (4% of sales) 1440 1584 1742.4 Inventory (9% of sales) 3240 3564 3920.4 Accounts Payable (5% of sales) 1800 1980 2178 NWC (Cash + Inventory+ AR - AP) 3600 3960 4356 Change = 3960 - 3600 = 360 Diff: 3 Skill: Analytical 160 Berk/DeMarzo · Corporate Finance 16) Bubba Ho-Tep Company reported net income of $300 million for the most recent fiscal year. The firm had depreciation expenses of $125 million and capital expenditures of $150 million. Although they had no interest expense, the firm did have an increase in net working capital of $20 million. What is Bubba Ho-Tepʹs free cash flow? A) $170 million B) $255 million C) $150 million D) $5 million Answer: B Explanation: B) FCF = NI + Dep - Capital Ex - chg NWC = 300 + 125 - 150 - 20 = 255 Diff: 2 Skill: Analytical Use the information for the question(s) below. Temporary Housing Services Incorporated (THSI) is considering a project that involves setting up a temporary housing facility in an area recently damaged by a hurricane. THSI will lease space in this facility to various agencies and groups providing relief services to the area. THSI estimates that this project will initially cost $5 million to setup and will generate $20 million in revenues during its first and only year in operation (paid in one year). Operating expenses are expected to total $12 million during this year and depreciation expense will be another $3 million. THSI will require no working capital for this investment. THSIʹs marginal tax rate is 35%. 17) Ignoring the original investment of $5 million, what is THSIʹs free cash flow for the first and only year of operation? A) $5.0 million B) $3.75 million C) $8.0 million D) $6.25 million Answer: D Explanation: D) FCF = (revenues - expenses - depreciation) × (1 - tax rate) + depreciation FCF = (20 - 12 - 3) × (1 - .35) + 3 =6.25 Diff: 2 Skill: Analytical Chapter 7 Fundamentals of Capital Budgeting 161 18) Assume that THSIʹs cost of capital for this project is 15%. The NPV of this temporary housing project is closest to: A) $435,000 B) -$650,000 C) $1,960,000 D) -$435,000 Answer: A Explanation: A) FCF = (20 - 12 - 3) × (1 - .35) + 3 =6.25 So, NPV = -5.0 + 6.25 / 1.15 = .434782 or $434,782 Diff: 2 Skill: Analytical Use the information for the question(s) below. Shepard Industries is evaluating a proposal to expand its current distribution facilities. Management has projected the project will produce the following cash flows for the first two years (in millions). Year 1 2 Revenues 1200 1400 Operating Expense 450 525 Depreciation 240 280 Increase in working capital 60 70 Capital expenditures 300 350 Marginal corporate tax rate 30% 30% 19) The incremental EBIT for Shepard Industries in year one is closest to: A) $360 B) $750 C) $595 D) $510 Answer: D Explanation: D) Revenues 1200 1400 - Expenses 450 525 - Depreciation 240 280 = EBIT 510 595 Diff: 2 Skill: Analytical 162 Berk/DeMarzo · Corporate Finance 20) The incremental EBIT for Shepard Industries in year two is closest to: A) $415 B) $875 C) $595 D) $510 Answer: C Explanation: C) Revenues 1200 1400 - Expenses 450 525 - Depreciation 240 280 = EBIT 510 595 Diff: 2 Skill: Analytical 21) The incremental unlevered net income Shepard Industries in year one is closest to: A) $510 B) $415 C) $600 D) $355 Answer: D Explanation: D) Revenues 1200 1400 - Expenses 450 525 - Depreciation 240 280 = EBIT 510 595 - Taxes (30%) 153 178.5 Incremental Net Income 357 416.5 Diff: 2 Skill: Analytical Chapter 7 Fundamentals of Capital Budgeting 163 22) The incremental unlevered net income Shepard Industries in year two is closest to: A) $355 B) $415 C) $600 D) $510 Answer: B Explanation: B) Revenues 1200 1400 - Expenses 450 525 - Depreciation 240 280 = EBIT 510 595 - Taxes (30%) 153 178.5 Incremental Net Income 357 416.5 Diff: 2 Skill: Analytical 23) The depreciation tax shield for Shepard Industries project in year one is closest to: A) $84 B) $168 C) $96 D) $72 Answer: D Explanation: D) $240 × .30 = $72 Diff: 1 Skill: Analytical 24) The depreciation tax shield for Shepard Industries project in year two is closest to: A) $84 B) $196 C) $72 D) $96 Answer: A Explanation: A) $280 × .30 = $84 Diff: 1 Skill: Analytical 164 Berk/DeMarzo · Corporate Finance 25) The free cash flow from Shepard Industries project in year one is closest to: A) $240 B) $300 C) -$5 D) $390 Answer: A Explanation: A) Free Cash Flow Revenues 1200 1400 - Expenses 450 525 - Depreciation 240 280 = EBIT 510 595 - Taxes (30%) 153 178.5 Incremental Net Income 357 416.5 + Depreciation 240 280 - Capital expenditures 300 350 - Change in NWC 60 70 Free Cash Flow 237 276.5 Diff: 2 Skill: Analytical 26) The free cash flow from Shepard Industries project in year two is closest to: A) $345 B) $455 C) $275 D) -$5 Answer: C Explanation: C) Free Cash Flow Revenues 1200 1400 - Expenses 450 525 - Depreciation 240 280 = EBIT 510 595 - Taxes (30%) 153 178.5 Incremental Net Income 357 416.5 + Depreciation 240 280 - Capital expenditures 300 350 - Change in NWC 60 70 Free Cash Flow 237 276.5 Diff: 2 Skill: Analytical Chapter 7 Fundamentals of Capital Budgeting 165 Use the information for the question(s) below. Epiphany Industries is considering a new capital budgeting project that will last for three years. Epiphany plans on using a cost of capital of 12% to evaluate this project. Based on extensive research, it has prepared the following incremental cash flow projects: Year 0 1 2 3 Sales (Revenues) 100,000 100,000 100,000 - Cost of Goods Sold (50% of Sales) 50,000 50,000 50,000 - Depreciation 30,000 30,000 30,000 = EBIT 20,000 20,000 20,000 - Taxes (35%) 7000 7000 7000 = unlevered net income 13,000 13,000 13,000 + Depreciation 30,000 30,000 30,000 + changes to working capital -5,000 -5,000 10,000 - capital expenditures -90,000 27) The free cash flow for the first year of Epiphanyʹs project is closest to: A) $43,000 B) $25,000 C) $38,000 D) $45,000 Answer: C Explanation: C) Year 0 1 2 3 Sales (Revenues) 100,000 100,000 100,000 - Cost of Goods Sold (50% of Sales) 50,000 50,000 50,000 - Depreciation 30,000 30,000 30,000 = EBIT 20,000 20,000 20,000 - Taxes (35%) 7000 7000 7000 = unlevered net income 13,000 13,000 13,000 + Depreciation 30,000 30,000 30,000 + changes to working capital -5,000 -5,000 10,000 - capital expenditures -90,000 = Free Cash Flow -90,000 38,000 38,000 53,000 PV of FCF (FCF / (1 + I)n -90,000 33,929 30,293 37,724 discount rate 0.12 NPV = 11,946 IRR = 19.14% Diff: 2 Skill: Analytical 166 Berk/DeMarzo · Corporate Finance 28) The free cash flow for the last year of Epiphanyʹs project is closest to: A) $53,000 B) $38,000 C) $35,000 D) $43,000 Answer: A Explanation: A) Year 0 1 2 3 Sales (Revenues) 100,000 100,000 100,000 - Cost of Goods Sold (50% of Sales) 50,000 50,000 50,000 - Depreciation 30,000 30,000 30,000 = EBIT 20,000 20,000 20,000 - Taxes (35%) 7000 7000 7000 = unlevered net income 13,000 13,000 13,000 + Depreciation 30,000 30,000 30,000 + changes to working capital -5,000 -5,000 10,000 - capital expenditures -90,000 = Free Cash Flow -90,000 38,000 38,000 53,000 PV of FCF (FCF / (1 + I)n -90,000 33,929 30,293 37,724 discount rate 0.12 NPV = 11,946 IRR = 19.14% Diff: 2 Skill: Analytical Chapter 7 Fundamentals of Capital Budgeting 167 29) The NPV for Epiphanyʹs Project is closest to: A) $4,825 B) $39,000 C) $11,946 D) $20,400 Answer: C Explanation: C) Year 0 1 2 3 Sales (Revenues) 100,000 100,000 100,000 - Cost of Goods Sold (50% of Sales) 50,000 50,000 50,000 - Depreciation 30,000 30,000 30,000 = EBIT 20,000 20,000 20,000 - Taxes (35%) 7000 7000 7000 = unlevered net income 13,000 13,000 13,000 + Depreciation 30,000 30,000 30,000 + changes to working capital -5,000 -5,000 10,000 - capital expenditures -90,000 = Free Cash Flow -90,000 38,000 38,000 53,000 PV of FCF (FCF / (1 + I)n -90,000 33,929 30,293 37,724 discount rate 0.12 NPV = 11,946 IRR = 19.14% Diff: 3 Skill: Analytical 30) Luther Industries has outstanding tax loss carryforwards of $70 million from losses over the past four years. If Luther earns $15 million per year in pre-tax income from now on, Luther first pay taxes in? A) 7 years. B) 2 years. C) 4 years. D) 5 years. Answer: D Explanation: D) The number of years the tax loss carryforwards will last ban be calculated as the tax loss carry forward dividend by the annual pre-tax income or: Years with no tax = $70 million $15 million = 4.67 years, so Luther wonʹt have to pay taxes for the next four years, but will have to start paying some taxes 5 years from now. Diff: 1 Skill: Analytical 168 Berk/DeMarzo · Corporate Finance 31) You are considering investing $600,000 in a new automated inventory system that will provide and after-tax cost savings of $50,000 next year. These cost savings are expected to grow at the same rate as sales. If sales are expected to grow at 5% per year and your cost of capital is 10%, then what is the NPV of the automated inventory system? A) $400,000 B) $500,000 C) -$100,000 D) $1,000,000 Answer: A Explanation: A) NPV = $50,000 .10 - .05 - $600,000 = $400,000 Diff: 2 Skill: Analytical Chapter 7 Fundamentals of Capital Budgeting 169 Use the information for the question(s) below. The Sisyphean Corporation is considering investing in a new cane manufacturing machine that has an estimated life of three years. The cost of the machine is $30,000 and the machine will be depreciated straight line over its three-year life to a residual value of $0. The cane manufacturing machine will result in sales of 2,000 canes in year 1. Sales are estimated to grow by 10% per year each year through year three. The price per cane that Sisyphean will charge its customers is $18 each and is to remain constant. The canes have a cost per unit to manufacture of $9 each. Installation of the machine and the resulting increase in manufacturing capacity will require an increase in various net working capital accounts. It is estimated that the Sisyphean Corporation needs to hold 2% of its annual sales in cash, 4% of its annual sales in accounts receivable, 9% of its annual sales in inventory, and 6% of its annual sales in accounts payable. The firm is in the 35% tax bracket, and has a cost of capital of 10%. 32) Calculate the total Free Cash Flows for each of the three years for the Sisyphean Corporationʹs new project. Answer: Incremental Earnings Forecast Year 1 2 3 Units 2,000 2,200 2,420 Sales (units × $18) 36,000 39,600 43,560 Cost of Good Sold (units × $9) 18,000 19,800 21,780 Gross Profit 18,000 19,800 21,780 Depreciation ($30,000 / 3) 10,000 10,000 10,000 EBIT 8,000 9,800 11,780 Income tax at 35% 2,800 3,430 4,123 Unlevered net income Add back Depreciation 5,200 10,000 6,370 10,000 7,657 10,000 Cash Flows from Operations 15,200 16,370 17,657 Networking Capital Forecast Year 1 2 3 Sales (units × $18) 36,000 39,600 43,560 Cash (2% of sales) 720 792 871.2 Accounts Receivable (4% of sales) 1440 1584 1742.4 Inventory (9% of sales) 3240 3564 3920.4 Accounts Payable (5% of sales) 1800 1980 2178 NWC (Cash + Inventory+ AR - AP) 3600 3960 4356 Change (investment) in NWC -3600 -360 -396 4356 Investment in machine -30,000 Total Free Cash Flows -33,600 14,840 15,974 22,013 Diff: 3 Skill: Analytical 170 Berk/DeMarzo · Corporate Finance Use the information for the question(s) below. Kinston Industries is considering investing in a machine that will cost $125,000 and will last for three years. The machine will generate revenues of $120,000 each year and the cost of goods sold will be 50% of sales. At the end of year three the machine will be sold for $15,000. The appropriate cost of capital is 10% and Kinston is in the 35% tax bracket. 33) Assume that Kinstonʹs new machine will be depreciated straight line to a salvage value of $5,000 at the end of year three. What is the after-tax salvage value of this project? Answer: If the machine is depreciated straight line to a book value of $5,000. So $15,000 - $5,000 = $10,000 gain on the sale which is taxable. So the after tax salvage value = $15,000 - $10,000 × .35 (tax rate) = $11,500. Diff: 2 Skill: Analytical 34) Assume that Kinstonʹs new machine will be depreciated straight line to a salvage value of $5,000 at the end of year three. What is the NPV for this project? Answer: Year 0 1 2 3 Sales (revenues) 120,000 120,000 120,000 Cost of Goods Sold 60,000 60,000 60,000 - Depreciation 40,000 40,000 40,000 EBIT 20,000 20,000 20,000 -Taxes(35%) 7,000 7,000 7,000 = unlevered net income 13,000 13,000 13,000 + Depreciation 40,000 40,000 40,000 + capital expenditures -125,000 + Liquidation cash flows 11,500 Free Cash Flow -125,000 53,000 53,000 64,500 PV of FCF (I = 10%) -125,000 48,182 43,802 48,46 NPV = 15,443 Liquidation/Salvage Value Calculation: If the machine is depreciated straight line to a book value of $5,000. So $15,000 - $5,000 = $10,000 gain on the sale which is taxable. So, the after tax salvage value = $15,000 - $10,000 × .35 (tax rate) = $11,500. Diff: 3 Skill: Analytical Chapter 7 Fundamentals of Capital Budgeting 171 35) Assume that Kinstonʹs new machine will be depreciated using MACRS according to the following schedule: Year 3 Years 1 33.33% 2 44.45% 3 14.81% 4 7.41% What is the NPV of this project? Answer: Year 0 1 2 3 Sales (revenues) 120,000 120,000 120,000 Cost of Goods Sold 60,000 60,000 60,000 - Depreciation 41,663 55,563 18,513 EBIT 18,338 4,438 41,488 -Taxes(35%) 6,418 1,553 14,521 = unlevered net income 11,919 2,884 26,967 + Depreciation 41,663 55,563 18,513 + capital expenditures -125,000 + Liquidation cash flows 12,992 Free Cash Flow -125,000 53,582 58,447 58,471 PV of FCF (I = 10%) -125,000 48,711 48,303 43,930 NPV = 15,944 Liquidation/Salvage Value Calculation: If the machine is depreciated straight line to a book value of 7.41% × 125,000 = $9,263. So $15,000 - $9,263 = $5,737 gain on the sale which is taxable. So the after tax salvage value = $15,000 - $7,737 × .35 (tax rate) = $12,992. Diff: 2 Skill: Analytical 7.3 Analyzing the Project 1) Which of the following statements is false? A) The break-even level of an input is the level for which the investment has an IRR of zero. B) The most difficult part of capital budgeting is deciding how to estimate the cash flows and the cost of capital. C) When evaluating a capital budgeting project, financial managers should make the decision that maximizes NPV. D) Sensitivity analysis reveals which aspects of the project are most critical when we are actually managing the project. Answer: A Diff: 1 Skill: Conceptual 172 Berk/DeMarzo · Corporate Finance 2) Which of the following statements is false? A) Sensitivity analysis allows us to explore the effects of errors in our estimated inputs in our NPV analysis for the project. B) To compute the NPV for a project, you need to estimate the incremental cash flows and choose a discount rate. C) Estimates of the cash flows and cost of capital are often subject to significant uncertainty. D) When we are certain regarding the input to a capital budgeting decision, it is often useful to determine the break-even level of that input. Answer: D Diff: 2 Skill: Conceptual 3) Which of the following statements is false? A) We can use scenario analysis to evaluate alternative pricing strategies for our project. B) Scenario analysis considers the effect on NPV of changing multiple project parameters. C) The difference between the IRR of a project and the cost of capital tells you how much error in the cost of capital it would take to change the investment decision. D) Scenario analysis breaks the NPV calculation into its component assumptions and show how the NPV varies as each one of the underlying assumptions change. Answer: D Diff: 2 Skill: Conceptual 4) The difference between scenario analysis and sensitivity analysis is: A) Scenario analysis is based upon the IRR and sensitivity analysis is based upon NPV. B) Only sensitivity analysis allows us to change our estimated inputs of our NPV analysis. C) Scenario analysis considers the effect on NPV of changing multiple project parameters. D) Only Scenaripo analysis breaks the NPV calculation into its component assumptions. Answer: C Diff: 2 Skill: Definition 5) An exploration of the effect on NPV of changing multiple project parameters is called A) scenario analysis. B) IRR analysis. C) accounting break-even analysis. D) sensitivity analysis. Answer: A Diff: 1 Skill: Definition Chapter 7 Fundamentals of Capital Budgeting 173 6) An analysis that breaks the NPV calculation into its component assumptions and shows how the NPV varies as one of the underlying assumptions is changed is called A) scenario analysis. B) IRR analysis. C) accounting break-even analysis. D) sensitivity analysis. Answer: D Diff: 1 Skill: Definition 7) What is sensitivity analysis? Answer: Sensitivity analysis breaks the NPV calculation into its component assumptions and shows how the NPV varies as each of the underlying assumptions change. Sensitivity analysis allows us to explore the effects of errors in your estimated inputs to our NPV calculations and reveals which aspects of the project are most critical when we are actually managing the project. Diff: 2 Skill: Conceptual 8) How does scenario analysis differ from sensitivity analysis? Answer: Where sensitivity analysis considers the change in NPV for individual parameter changes, scenario analysis considers the effect on NPV of change multiple project parameters simultaneously. Diff: 2 Skill: Conceptual 174 Berk/DeMarzo · Corporate Finance Use the information for the question(s) below. Epiphany Industries is considering a new capital budgeting project that will last for three years. Epiphany plans on using a cost of capital of 12% to evaluate this project. Based on extensive research, it has prepared the following incremental cash flow projects: Year 0 1 2 3 Sales (Revenues) 100,000 100,000 100,000 - Cost of Goods Sold (50% of Sales) 50,000 50,000 50,000 - Depreciation 30,000 30,000 30,000 = EBIT 20,000 20,000 20,000 - Taxes (35%) 7000 7000 7000 = unlevered net income 13,000 13,000 13,000 + Depreciation 30,000 30,000 30,000 + changes to working capital -5,000 -5,000 10,000 - capital expenditures -90,000 9) What is the NPV of the Epiphanyʹs project? Answer: Year 0 1 2 3 Sales (Revenues) 100,000 100,000 100,000 - Cost of Goods Sold (50% of Sales) 50,000 50,000 50,000 - Depreciation 30,000 30,000 30,000 = EBIT 20,000 20,000 20,000 - Taxes (35%) 7000 7000 7000 = unlevered net income 13,000 13,000 13,000 + Depreciation 30,000 30,000 30,000 + changes to working capital -5,000 -5,000 10,000 - capital expenditures -90,000 = Free Cash Flow -90,000 38,000 38,000 53,000 PV of FCF (FCF/(1 + I)n) -90,000 33,929 30,293 37,724 discount rate 0.12 NPV = 11,946 Diff: 2 Skill: Analytical Chapter 7 Fundamentals of Capital Budgeting 175 10) Epiphany would like to know how sensitive the projectʹs NPV is to changes in the discount rate. How much can the discount rate vary before the NPV reaches zero? Answer: Year 0 1 2 3 Sales (Revenues) 100,000 100,000 100,000 - Cost of Goods Sold (50% of Sales) 50,000 50,000 50,000 - Depreciation 30,000 30,000 30,000 = EBIT 20,000 20,000 20,000 - Taxes (35%) 7000 7000 7000 = unlevered net income 13,000 13,000 13,000 + Depreciation 30,000 30,000 30,000 + changes to working capital -5,000 -5,000 10,000 - capital expenditures -90,000 = Free Cash Flow -90,000 38,000 38,000 53,000 PV of FCF (FCF/(1 + I)n) -90,000 33,929 30,293 37,724 discount rate 0.12 NPV = 11,946 IRR = 19.14% So the discount rate can vary by 12% - 19.14% = 7.14% Diff: 3 Skill: Analytical 11) Epiphany is worried about the reliability of the sales forecast. How sensitive is the projectʹs NPV to a 10% change in sales. Answer: Base Case Year 0 1 2 3 Sales (Revenues) 100,000 100,000 100,000 - Cost of Goods Sold (50% of Sales) 50,000 50,000 50,000 - Depreciation 30,000 30,000 30,000 = EBIT 20,000 20,000 20,000 - Taxes (35%) 7000 7000 7000 = unlevered net income 13,000 13,000 13,000 + Depreciation 30,000 30,000 30,000 + changes to working capital -5,000 -5,000 10,000 - capital expenditures -90,000 = Free Cash Flow -90,000 38,000 38,000 53,000 PV of FCF (FCF/(1 + I)n) -90,000 33,929 30,293 37,724 discount rate 0.12 NPV = 11,946 IRR = 19 176 Berk/DeMarzo · Corporate Finance 10% Decrease in Sales Year 0 1 2 3 Sales (Revenues) 90,000 90,000 90,000 - Cost of Goods Sold (50% of Sales) 45,000 45,000 45,000 - Depreciation 30,000 30,000 30,000 = EBIT 15,000 15,000 15,000 - Taxes (35%) 5250 5250 5250 = unlevered net income 9,750 9,750 9,750 + Depreciation 30,000 30,000 30,000 + changes to working capital -5,000 -5,000 10,000 - capital expenditures -90,000 = Free Cash Flow -90,000 34,750 34,750 49,750 PV of FCF (FCF/(1 + I)n) -90,000 31,027 27,702 35,411 discount rate 0.12 NPV = 4,140 10% Increase in Sales Year 0 1 2 3 Sales (Revenues) 110,000 110,000 110,000 - Cost of Goods Sold (50% of Sales) 55,000 55,000 55,000 - Depreciation 30,000 30,000 30,000 = EBIT 25,000 25,000 25,000 - Taxes (35%) 8750 8750 8750 = unlevered net income 16,250 16,250 16,250 + Depreciation 30,000 30,000 30,000 + changes to working capital -5,000 -5,000 10,000 - capital expenditures -90,000 = Free Cash Flow -90,000 41,250 41,250 56,250 PV of FCF (FCF/(1+I)n) -90,000 36,830 32,884 40,038 discount rate 0.12 NPV = 19,752 So a + or - 10% change in sales will cause the NPV to vary between 4,140 and 19,752. Diff: 3 Skill: Analytical
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