If a project with conventional cash flows has a payback period less than its life, can you definitely state the algebraic sign of the NPV? Why or why not? No you cannot because you don’t know wether there is a cutoff time or how long it will take to pay off the amount. Just because it will pay itself back does not mean it will be a positive investment to take in. Suppose a project has conventional cash flows and a positive NPV. What do you know about its payback? Its profitability index. Its IRR? If a project has a positive NPV it means it will cover the initial investment so there will be an eventual payback period and some type of IRR. Concerning payback:
a) Describe how the payback period is calculated and describe the information this measure provides about a sequence of cash flows. What is the payback criterion decision rule? The payback period is calculated by an investment that is acceptable based on the calculation period that is less than prespecified on a number of years. The measure of the sequence of cash flows gives us some insight into what our numbers will look like for the following years and we can make a decision based on these predictions. b)What are the problems associated with using the payback period as a means of evaluating cash flows? It ignores the cash flows beyond the cutoff date. c)What are the advantages of using the rule to evaluate cash flows? Are there any circumstances under which using payback might be appropriate? The advantage of the rule with cash flows is that it adjusts for uncertainty of later cash flows. Using the payback method may be appropriate if you just want an idea on how long it will take to get your bait back. Concerning AAR:
a) Describe how the average accounting return is usually calculated and describe the information it provides about a sequence of cash flows. What is AAR criterion decision rule? The AAR method is calculated by an investment’s average net income divided by its average book value. It does not provide any information on cash flows because it uses net and book value instead.
b) What are the problems associated with using the AAR as a means of evaluating a project’s cash flows? What underlying feature of AAR is most troubling to your from a financial perspective? Does the AAR have any redeeming qualities? AAR is not efficient for evaluating a projects cash flow because we are not looking at the same things. The most troubling factor of this from a financial perspective is that AAR does not tell us what the effect on share price will be from taking an investment, so it doesn’t tell us what we need to know. The redeeming quality of AAR is that it almost always can be computed.
Chapter 8 Questions and Problems:
3.Offshore Drilling Products Inc. imposes a payback cutoff of three years for its international investment projects. If the company has the following two projects available, should it accept either of them? It should reject project A because it does not meet the 2 year rule. Even though project B does not follow the 2 year rule in year 4 they will have a cash flow of 250,000 so I would advise them to take it.
5.A firm evaluates all of its projects by applying the IRR rule. If the required return is 13% should the firm accept the following project? No I would not take the project because after calculations it comes out to 16%.
9. For the cash flows in the previous problem, what is the NPV at a discount rate of 0%? What is the discounted rate is 10%? If its 20%? 30%? 0%:
Chapter 9: CTACR
9.7 In evaluating the Cayenne, would you consider the possible damage to Porsche’s reputation? I remember when the Cayenne came out and the reactions people had. I think it did not damage the reputation, if anything it stayed the same or gotten a little bit better. Now, people who wanted a Porsche but had kids and could not get one, now do. It is still at a different luxury level than the other SUV’s and the cherry on top was the engineering and speediness to it.
9.9 In evaluating the Cayenne, what do you think Porsche needs to assume regarding the substantial profit margins that exist in this market? Is it likely they will be maintained as the market becomes more competitive, or will Porsche be able to maintain the profit margin because of its image and the performance of the Cayenne? I think Porsche needed to assume that not only is their car more expensive than the other luxury SUV’s but that not everyone who can afford it will jump into it because a fast SUV is not necessarily family friendly. I believe that the Porsche will remain somewhat neutral in the market, they have not had a huge impact on the car market and no new versions of SUV’s have came out from Porsche.
Questions & Problems:
Winnebagel Corp. currently sells 28,000 motor homes per year at $73,000 each and 7,000 luxury motor coaches per year at $115,000 each. The company wants to introduce a new portable camper to fill out its product line. It hope to sell 23,000 of these campers per year at $19,000 each. An independent consultant has determined that if Winnebagel introduces the new campers, it should boost the sales of its existing motor homes by 2,600 units per year and reduce the sales of its motor coaches by 850 units per year.
What is the amount to use as the annual sales figure when evaluating this project? Why? The annual sales figure they should for this project is an increase of profits by $529,050,000. This number is used because it is the estimate of the units sold of the new camper and the additional 2,600 motor homes that would sell. The depreciation of the motor coaches (almost $98 million) has already been subtracted from the $529 billion.
After calculating, the IRR of this project is: 18.47%
Chapter 10 CTACR
10.5 A stock market analysis is able to identify mispriced stocks by comparing the average price for the last 10 days to the average price for the last 60 days. If this is true, what do you know about the market? The market is on in a equilibrium.
10.7 What are the implications of the efficient markets hypothesis for investors who buy and sell stocks in an attempt to “beat the market”? They are probably not going to be as successful as they want because the market has been very efficient and there is so much competition for these mistakes that it is difficult to find since they are now more than ever avoided.
Questions & Problems:
Suppose you bought a 7% coupon bond one year ago for $893. The bond sells for $918 today. a. Assuming a $1,000 face value, what was your total dollar return on this investment over the past year? 1.75 per dollar. b. What was your total nominal rate of return on this investment over the past year? 6.25% c. If the inflation rate last year was 4%, what was your total rate of return on this investment?
7. Using the following returns, calculate the average returns, the variances, and the standard deviations for X and Y