Exam 4

Question 1

Cash flows that will occur if a capital budgeting project is accepted, but that will not occur if the investment is rejected.

Answer 1

Incremental Cash Flows

Question 2

Purchase price of asset, installation and delivery costs, and any investment for needed additions to net working capital tied to the project.

Answer 2

Initial Investment Cash Flow

Question 3

Revenues and expenses, taxes (including CFs due to tax-deductible depreciation expense), opportunity costs and externalities.

Answer 3

Operating Cash Flows

Question 4

After-tax salvage value and reduction in net working capital.

Answer 4

Shut Down Cash Flows

Question 5

When an asset is sold for more than its purchase price, how is it taxed?

Answer 5

The difference is taxed at the capital gains rate.

Also, the purchase price minus the depreciation book value is ordinary income and taxed at the ordinary rate.

Question 6

When an asset is sold for less than its purchase price but for more than its depreciation book value, how is it taxed?

Answer 6

The sales price minus the depreciation book value is ordinary income and is taxed at the ordinary income rate.

Question 7

When an asset is sold for its depreciation book value, how is it taxed?

Answer 7

There is no tax effect.

Question 8

When an asset is sold for less than its depreciation book value, how is it taxed?

Answer 8

The depreciation book value minus the sales price is an ordinary loss and reduces the firm’s tax liability by that amount times the ordinary income tax rate.

Question 9

Depreciable basis = Purchase price + shipping and installation

Answer 9

Calculation of depreciation

Question 10

Difficult estimations of incremental cash flow analysis that have positive or negative effects on existing projects.

Answer 10

Externalities

Question 11

If a new machine requires an increase in current assets from $50,000 to $60,000 and current liabilities from $30,000 to $50,000, the dollar change in net working capital is (positive, negative or no change):

Answer 11

Negative

Question 12

(True or False) Shut-down cash flows are an incremental cash flow.

Answer 12

True

Question 13

(True or False) Existing overhead expenses are an incremental cash flow.

Answer 13

False

Question 14

(True or False) Operating cash flows are an incremental cash flow.

Answer 14

True

Question 15

(True or False) Initial investment cash flows are an incremental cash flow.

Answer 15

True

Question 16

With respect to changes in net working capital, which of the following could likely happen as sales increase?

• Decrease in payables
• Increases in cash and gross fixed equipment
• Increase in long-term debt
• Increase in accounts receivables

Answer 16

Increase in accounts receivables

Question 17

Depreciation associated with a project will cause incremental:

Answer 17

operating cash flows to increase

Question 18

When the used asset is eventually sold for less than its depreciated book value:

Answer 18

The firm’s tax liability is reduced by the amount of the loss times the ordinary income tax rate

Question 19

The relevant cash flows in capital budgeting can best be described as:

Answer 19

Incremental cash flows

Question 20

Variable costs per unit is the cost of:

Answer 20

total costs and variable costs

Question 21

The break-even point represents the:

Answer 21

level of sales necessary to cover operating (not financial) costs.

Question 22

In the long run all costs are ______.

Answer 22

Variable

Question 23

Commissions, materials, and labor are all examples of _____ costs in a short term period of time.

Answer 23

Variable

Question 24

Salaries, depreciation, and rent are all examples of _____ costs in a short term period of time.

Answer 24

Fixed

Question 25

Price per unit represents the slope of the:

Answer 25

total revenue line

Question 26

Variable cost per unit represents the slope of the:

Answer 26

total cost line

Question 27

While measuring operating leverage, a firm has operating leverage if the:

Answer 27

Degree of Operating Leverage (DOL) > 1

Question 28

A firm has financial leverage when:

Answer 28

Degree of Financial Leverage (DFL) > 1

Question 29

(True or False) Leverage can only help a firm.

Answer 29

False.

Question 30

(True or False) Leverage can either help or hurt a firm.

Answer 30

True.

Question 31

The sales break-even point is defined as:

Answer 31

the level of sales that a firm must reach to cover total operating costs

Question 32

Firms with high fixed operating costs:

Answer 32

tend to have low variable costs

Question 33

Firms with relatively low fixed operating costs and high variable operating costs can best be described as:

Answer 33

having a low degree of operating leverage

Question 34

Degree of operating leverage can best be defined as:

Answer 34

DOL = % change EBIT / % change in Sales

Question 35

Whenever fixed costs are greater than zero, DOL is:

Answer 35

greater than 1

Question 36

(True or False) Working capital includes accounts payable.

Answer 36

False

Question 37

(True or False) Working capital includes accounts receivable.

Answer 37

True

Question 38

(True or False) Working capital includes marketable securities.

Answer 38

True

Question 39

(True or False) Working capital includes prepaid expenses.

Answer 39

True

Question 40

The level of net working capital is affected by all but which of the following: - notes receivable - cash - retained earnings - marketable securities

Answer 40

Retained Earnings

Question 41

Current Assets - Current Liabilities =

Answer 41

Net Working Capital

Question 42

Cash and Near-Cash Assets =

Answer 42

Working Capital

Question 43

A base level of inventory, cash, marketable securities, prepaid expenses, and accounts receivable is best described as:

Answer 43

Permanent Current Assets

Question 44

The trade off of holding cash versus a high returning fixed asset is called:

Answer 44

liquidity versus profitability trade off

Question 45

A firm that uses more short-term financing to finance most of its assets, all else equal, is what type of approach?

Answer 45

An aggressive approach

Question 46

Which of the following financing approaches is the most aggressive financing approach? - financing temporary current assets, permanent current assets, and some long-term fixed assets with short-term debt - financing temporary current assets with short-term debt, all other assets with long-term debt and/or equity - financing temporary current assets, permanent current assets, and long-term fixed assets with long-term debt and/or equity - financing all assets with equity

Answer 46

financing temporary current assets, permanent current assets, and some long-term fixed assets with short-term debt

Question 47

financing all current assets and some fixed assets with short-term debt results in _____ net working capital.

Answer 47

Negative

Question 48

Assets are financed from a source having a matching maturity best describes the:

Answer 48

Matching principle

Question 49

Assume the exchange rate is $1.59 U.S. per British pound. If the exchange rate changes to $1.42 U.S. per British pound, what has happened to the dollar?

Answer 49

The U.S. dollar has strengthened relative to the British pound.

Question 50

Assume the exchange rate is $1.29 U.S. per British pound. If the exchange rate changes to $1.47 U.S. per British pound, what has happened to the dollar?

Answer 50

The U.S. dollar has weakened relative to the British pound.

Question 51

If the exchange rate is 120.00 yen per U.S. dollar, how many yen does one receive for exchanging one dollar?

Answer 51

120 yen

Question 52

Each country should concentrate on producing that product which it does well. This is called the law of:

Answer 52

Comparative Advantage

Question 53

An exchange rate specifies:

Answer 53

how many units of one country's currency can be exchanged for one unit of the other country's currency

Question 54

If the value of one currency goes down in value relative to that of a second currency, the second currency is:

Answer 54

appreciating

Question 55

If a given country's currency is weakening; importers from other countries will _____ _____of that country's goods.

Answer 55

buy more

Question 56

The Greek drachma has strengthened against the U.S.$. Other things equal, Greek people will buy:

Answer 56

more U.S goods

Question 57

An exchange rate between two currencies which is calculated by using a common third currency is known as a(n):

Answer 57

Cross Rate

Question 58

Problems associated with repatriating profits earned in another country include which of the following? - the foreign economy gets stronger - repatriating is only done with dividends, not cash - the home currency strengthens - the exchange rate holds steady

Answer 58

The home currency strengthens