Evaluation Tools

Question 1

Methods used to compare investments?

Answer 1

Payback, Net Present Value, Net Future Value, and Capitalized Equivalent

Question 2

Difference between independent and mutually exclusive projects.

Answer 2

Independent- unrelated investment opportunities available

Mutually means choosing one project but rejecting other projects.

Question 3

what is conventional payback period?

Answer 3

Length of time it takes to recover initial investment.

Question 4

Disadvantages to payback rule?

Answer 4

1. It ignores the time value of money
2. Ignores project specific risk
3. Cutoff point is arbitrary
4. Ignores cash flows beyond the payback period
5. Biased towards short term projects

Question 5

Advantages of payback rule?

Answer 5

1. Easy to use and understand
2. Biased towards liquidity
3. Adjusts for uncertainty of later cash flows…by completely ignoring them!

Question 6

Discounted payback rule is?

Answer 6

• Considersthetimevalueofmoney
• Calculateandsumthepresentworthofeachoftheyearly
cashflows
• Thediscountedpaybackperiodisthenumberofyearsto
recovertheinvestmentfromthediscountedcashflows

Question 7

what does NPV measure?

Answer 7

NPV is a measure of the value created or

lost.

Question 8

What does MARR stand for and what is it?

Answer 8

Minimum Acceptable Rate of Return (lowest interest rate allowed by company)
It is the discount rate used in the calculation of NPV

Question 9

When to accept a project based on NPV?

Answer 9

When NPV is greater than zero.
Reject when lower than zero
Remain indifferent when NPV is equal to zero.

Question 10

When is the capitalized equivalent method used?

Answer 10

When project life is very long(>40 years) or project is perpetual.

Question 11

What is Annual equivalent worth analysis used for?

Answer 11

Measure the worth of an investment.

Determines equal payments or earnings.

Question 12

When is AE accepted?

Answer 12

when AE>0 accepted
AE<0 reject
AE=0 indifferent

Question 13

Comparing mutually exclusive projects what are some restrictions

Answer 13

Compared in equal time spans

Analysis period must be taken to consideration.

Question 14

What is capital recovery cost?

Answer 14

Whenaprojectisbeinganalyzed,andonlythecoststo
implementtheprojectarebeingconsidered
Costscanconsistofrecurringoperatingcostsandcapitalcostresulting from purchasing equipment

Question 15

What is IRR?

Answer 15

internalrateofreturn(IRR)ofaninvestmentisthe
discountrateatwhichtheNPVofcosts(negativecash
flows)oftheinvestmentequalstheNPVofbenefits
(positivecashflows)oftheinvestment
also used to measure efficiency of investment.

Question 16

Higher a projects IRR is?

Answer 16

The more desirable it is to undertake project.

Question 17

a) IRR>MARR then?
b) IRR=MARR then?
c) IRR

Answer 17

a) accept
b) indifferent
c) reject

Question 18

IRR vs NPV

Answer 18

IRR measures efficiency

NPV measures wealth

Question 19

Advantages of IRR?

Answer 19

Easily understood
Widely used
Favours efficient investments

Question 20

Disadvantages of IRR?

Answer 20

• Cannotcomparemutually
exclusiveprojects
• Requiresfuturecashflow
estimates
• Requiresidenticalproject
durations
• Mayproduce multiplevalues

Question 21

Methods to calculate IRR?

Answer 21

– DirectSolution
– Trial‐and‐error
– Computersolution

Question 22

What is direct solution method?

Answer 22

one inflow and outflow

Question 23

Modified internal rate of return is?

Answer 23

method to address problems that arise with IRR by:
–AllnegativeandpositivecashflowsaregroupedinordertoeliminatethepossibilityofmultipleIRRs
AssumesallrevenuesarereinvestedattheMARR,ratherthantheIRRofaproject,whichpreventsoverestimationoftheIRR

Question 24

What happens when equal project lives > analysis period

Answer 24

When alternatives have equal project lives but last longer than analysis period. In this case a salvage value is used

Question 25

What happens when equal project lives < analysis period

Answer 25

Two options

1. project is replaced with repeated identical projects until the end of the analysis period
2. Leasing is used to cover the remainder of analysis period.