B3 - Financial Modeling and Analysis

Question 1

Net Present Value (NPV) Calc

Answer 1

Net Present Value (NPV) = Present Value (PV) of Cash inflows - Original Cost of the asset.

Question 2

What is the hurdle rate?

Answer 2

Targeted Rate of Return

Question 3

When the risks of the individual components of a project’s cash flows are different, an acceptable procedure to evaluate these cash flows is to:

Answer 3

Discount each cash flow using a discount rate that reflects the degree of risk.

Question 4

An advantage of the net present value method over the internal rate of return model in discounted cash flow analysis is that the net present value method:

Answer 4

Can be used when there is no constant rate of return required for each year of the project.

Question 5

The profitability index is a variation of which capital budgeting models?

Answer 5

Net Present Value

Question 6

How is the cash flow from net income computed?

Answer 6

By adding back non-cash expenses like depreciation and amortization.

Question 7

What is a depreciation tax shield?

Answer 7

A reduction in income taxes

Question 8

Net present value as used in investment decision-making is stated in terms of what?

Answer 8

Cash Flow

Question 9

What limitation is common to the calculations of payback period, discounted cash flow, internal rate of return, and net present value?

Answer 9

They rely on the forecasting of future data

Question 10

What decision-making model equates the initial investment with the present value of the future cash inflows?

Answer 10

Internal rate of return

Question 11

What is an internal rate of return?

Answer 11

A time-adjusted rate of return from an investment

Question 12

Hows is the internal rate of return computed?

Answer 12

Investment/Cash Flows = Present Value Factor

The higher the present value factor, the lower the computed rate (internal rate of return).

Question 13

Why is the calculation of depreciation used in the determination of the net present value of an investment?

Answer 13

Because depreciation increases cash flow by reducing income taxes.

Question 14

Which method of valuation to develop the fair value of common shares is considered the most rigorous and objective?

Answer 14

Discounted Cash Flow (DCF) methods

Question 15

Profitability Index Formula

Answer 15

Present Value of net future cash flows/Present Value of net initial investment = Profitability Index

Question 16

What metric equates the net present value of a project’s expected cash inflows to the present value of the project’s cash outflows?

Answer 16

Internal Rate of Return

Question 17

What is the difference between an ordinary annuity, and an ordinary annuity due?

Answer 17

Ordinary annuity = the payment is received at the END of the year.
Ordinary annuity due = the payment is received at the BEGINNING of the year.

Question 18

What method should be used if capital rationing needs to be considered when comparing capital projects?

Answer 18

Profitability Index