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Flashcards in Deck 7 Deck (20):
1

What capital budgeting method is used for Capital Rationing?

Profitability index

2

Discounted cash flow methods include:

NPV, IRR, and profitability index

3

After tax cash flows =

Annual cash inflows after tax plus depreciation tax shield

4

Internal rate of return method

Computes rate of return where NPV equals zero (focuses on discount rate instead of dollars)

5

The higher the present value factor, the lower the

Internal rate of return

6

Present value factor =

Investment / Cash flows

7

Annual Operating Cash flow (After-tax CF) =

Pretax CF x (1 - tax rate) + (Depreciation x tax rate)

8

The amount of dollars saved =

Depreciation x tax rate

9

Discounted Cash flow =

PV of cash outflow - PV of cash inflow

10

What happens to NPV when the discount rate is increased?

Lower NPV

11

Major advantage of NPV over IRR

NPV allows for differing rates; IRR - can only use a single rate

12

Profitability Index (PI) =

PVFCF / initial investment (cost); PI > 1 = positive NPV

13

What happens to discount rate when risk increases?

Increase the discount rate

14

Financial leverage increases when:

Debt to equity ratio increases

15

Operating leverage

Use of fixed operating costs rather than variable operating costs

16

Financial leverage

Firm uses debt rather than equity to finance the company

17

Cost of debt is most frequently measured as:

Actual interest rate minus tax savings

18

What is the least expensive component of a company's capital structure?

Debt

19

Does a company want a low or high WACC?

Lowest possible WACC

20

WACC =

(Cost of equity x percentage equity in capital structure) + (after tax cost of debt x percentage of debt in capital structure)