A consultant commented that “too often the numbers look good but feel bad.” This comment often stems from estimation error common to capital budgeting proposals that relate to future cash flows. Three reasons for this error often exist. First, reliably predicting cash flows several years into the future is very difficult. Second, the present value of cash flows many years into the future (say, beyond 10 years) is often very small. Third, personal biases and expectations can influence present value computations. 1. Compute the present value of $100 to be received in 10 years assuming a 12% discount rate. 2. Why is understanding the three reasons mentioned for estimation error important when evaluating investment projects? Link this response to your answer for part 1.

A consultant commented that “too often the numbers look good but feel bad.” This comment often stems from estimation error common to capital budgeting proposals that relate to future cash flows. Three reasons for this error often exist. First, reliably predicting cash flows several years into the future is very difficult. Second, the present value of cash flows many years into the future (say, beyond 10 years) is often very small. Third, personal biases and expectations can influence present value computations. 1. Compute the present value of $100 to be received in 10 years assuming a 12% discount rate. 2. Why is understanding the three reasons mentioned for estimation error important when evaluating investment projects? Link this response to your answer for part 1.

Cornerstones of Cost Management (Cornerstones Series)

4th Edition

ISBN:9781305970663

Author:Don R. Hansen, Maryanne M. Mowen

Publisher:Don R. Hansen, Maryanne M. Mowen

Chapter19: Capital Investment

Section: Chapter Questions

Problem 20E

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A consultant commentated that "too often the numbers look good but feel bad." This comment often stems from estimation error common to capital budgeting proposals that relate to future cash flows. Three reasons for this error often exist. First, reliably predicting cash flows several years into the future is very difficult. Second, the present value of cash flows many years into the future (say, beyond 10 years) is often very small. Third, personal biases and expectations can influence present value computations. 1. Compute the present value of $100 to be received in 10 years assuming a 12% discount rate. 2. Why is understanding the three reasons mentioned for estimation error important when evaluating investments projects? Link your responses to your answer in part 1.
A consultant commented that “too often the numbers look good but feel bad.” This comment often stems from estimation error common to capital budgeting proposals that relate to future cash flows. Three reasons for this error often exist. First, reliably predicting cash flows several years into the future is very difficult. Second, the present value of cash flows many years into the future (say, beyond 10 years) is often very small. Third, personal biases and expectations can influence present value computations. Required 1. Compute the present value of $100 to be received in 10 years assuming a 12% discount rate. 2. Why is understanding the three reasons mentioned for estimation error important when evaluating investment projects? Link this response to your answer for part 1.
Which of the following are significant flaws with the Payback Period Method? (Select all that apply) A. Biased against long-term projects B. Uses an arbitrary benchmark C. Very rarely used in practice D. Uses accounting profits rather than cash flows E. Ignores Time Value of Money
Which of the following is a disadvantage of the IRR project evaluation method? Select one: a. It does not take into account the time value of money. b. If there are negative cash flows after positive cash flows, there may be zero or multiple internal rates of return. c. It does not make adequate allowance for risk. d. It focuses on accounting profit rather than cash flow as the source of value.
Which are problems of the payback criterion? Check all that apply: It ignores cash flows after the cutoff date. It ignores the time value of money. It doesn't show the value created by a project. It doesn't fully reflect the risk of a project. It uses an arbitrary cutoff value. It is difficult to calculate.
Sophisticated capital budgeting techniques do not A. examine the size of the initial outlay. B. use net profits as a measure of return. C. explicitly consider the time value of money. D. take into account an unconventional cash flow pattern.
How will a decrease in time preferences affect the loanable funds market? A. There will be an increase in the supply of loanable funds. B. There will be a decrease in the supply of loanable funds. C. There will be an increase in the demand of loanable funds. D. There will be a decrease in the demand of loanable funds.
What information does the payback period provide? Payback period essentially provides the number of years it would take for a project to recover the initial investment from its operating cash flows. As the model was criticized, the model evolved incorporating time value of money to create the discounted payback method. The models still reflected faulty ranking criteria but they provided important information about liquidity and risk. Cash flows expected in the distant future are ____________ risky than cash flows received in the near-term—which suggests that the payback period can also serve as an indicator of project risk. (more or less) Suppose Praxis Corporation’s CFO is evaluating a project with the following cash inflows. She does not know the project’s initial cost; however, she does know that the project’s regular payback period is 2.5 years. Year Cash Flow Year 1 $350,000 Year 2 425,000 Year 3 425,000 Year 4 450,000 If the project’s…
Which of the following is a disadvantage of the IRR project evaluation method? Question 5Select one: a. It does not take into account the time value of money. b. If there are negative cash flows after positive cash flows, there may be zero or multiple internal rates of return. c. It does not make adequate allowance for risk. d. It focuses on accounting profit rather than cash flow as the source of value.
Which of the following statements is CORRECT? a. One defect of the IRR method versus the NPV is that the IRR does not take account of the time value of money. b. One defect of the IRR method versus the NPV is that the IRR does not take account of the cost of capital. c. One defect of the IRR method versus the NPV is that the IRR values a dollar received today the same as a dollar that will not be received until sometime in the future. d. One defect of the IRR method versus the NPV is that the IRR does not take proper account of differences in the sizes of projects. e. One defect of the IRR method versus the NPV is that the IRR does not take account of cash flows over a project's full life.
Forecasting risk can be defined as the possibility that _____ will lead to incorrect decisions. a. the inclusion of opportunity costs b. erosion c. errors in projected cash flows d. the exclusion of sunk costs e. net working capital costs
An analysis of a proposal by the net present value method indicated that the present value of future cash inflows exceeded the amount to be invested. Which of the following statements best describes the results of this analysis? A)The proposal is undesirable, and the rate of return expected from the proposal is less than the minimum rate used for the analysis. B)The proposal is desirable, and the rate of return expected from the proposal exceeds the minimum rate used for the analysis. C)The proposal is undesirable, and the rate of return expected from the proposal exceeds the minimum rate used for the analysis. D)The proposal is desirable, and the rate of return expected from the proposal is less than the minimum rate used for the analysis.