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D076 REVIEW Q&A RATED A+
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A company called Bobby's Books is considering purchasing a new bookbinding machine. The company calculates the hurdle rate of the project to be 9% and the IRR to be 11%. Should the company purchase the bookbinding machine? No, because the old bookbinding machine still works. Yes, because the IR...

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  • February 3, 2024
  • 83
  • 2023/2024
  • Exam (elaborations)
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D076 REVIEW Q&A RATED A+
A company called Bobby's Books is considering purchasing a new bookbinding machine. The company
calculates the hurdle rate of the project to be 9% and the IRR to be 11%. Should the company purchase
the bookbinding machine?

No, because the old bookbinding machine still works.

Yes, because the IRR exceeds the cost of capital.

Yes, because newer models of equipment are always profitable investments.

No, because the hurdle rate is lower than the IRR. - ✔✔Yes, because the IRR exceeds the cost of capital.



A company currently has a ratio of 1.5 but hopes to improve the ratio to 2 to align more with the
industry benchmark. To achieve this goal, costs were cut in production through an investment in
efficient equipment, and the company achieved a higher profit margin. If this continues, you are certain
that the firm will achieve its goal in two years. What is this an example of?

Flexibility

Trend analysis

Cross-sectional analysis

Progress measurement - ✔✔Progress measurement



A company is considering five projects that are not mutually exclusive. However, the company does not
have enough money to do all of them. In order to prioritize projects that fit within the company's
budget, which capital budgeting method should be used?

Internal rate of return (IRR)

Net present value (NPR)

Comparing the initial outlay to start with the biggest project

Profitability index (PI) - ✔✔Profitability index (PI)



A company is trying to decide which of four projects to invest in.

Project 1 has an IRR of 14% and an NPV of $54,000.

,Project 2 has an IRR of 11% and an NPV of $67,000.

Project 3 has an IRR of 9% and an NPV of $60,000.

Project 4 has an IRR of 13% and an NPV of $47,000.

If the company can do only one project, which project should it choose to add the greatest value to the
firm?

Project 3

Project 4

Project 2

Project 1 - ✔✔Project 2



A company is trying to finance a project with a mortgage loan from a bank. The company's assessment
of the project indicates that the company may experience several years of loss until the project becomes
profitable. This means that the company might lose its ability to pay back the loan and the interest on
the mortgage. What action might the bank take to protect its interest?

A)Let the company manipulate accounting procedures.

B)Push the company to pay dividends to the shareholders.

C)Set a strict covenant that the company cannot easily achieve.

D)Let the company take the mortgage loan because of its long partnership with the bank. - ✔✔C)Set a
strict covenant that the company cannot easily achieve.



A company that produces soap, shampoo, lotion, and other personal care products has recently taken a
hit due to a competitor's new product line. The company decides to reduce wages for its labor force to
save money while the company focuses on building up its reputation again, but the company's labor
force goes on strike to protest the pay cuts. What type of risk does the strike represent?

Systematic risk

Idiosyncratic risk

Non-diversifiable risk

Market risk - ✔✔Idiosyncratic risk

,A company's officers and board of directors are selling their stocks in the firm at higher prices due to
false accounting reports that made the stock seem more valuable than it truly was. Which ethical issue is
occurring in this situation?

Agency problem due to conflicting interests

Maximizing shareholder value

Pursuing individual interest over client interests

Conflict between work and personal affairs - ✔✔Agency problem due to conflicting interests



A financial analyst for the company Bobby's Books has been asked to evaluate a potential investment
using a method that considers the time value of money. Is there more than one way to do this?

No, there are no valuation methods that take into account the time value of money.

Yes, the analyst could use the current ratio and could compare cost of capital rates.

Yes, the analyst could use both the NPV and the IRR. - ✔✔Yes, the analyst could use both the NPV and
the IRR.

(Correct! Both NPV and IRR take into account the time value of money.)



A firm had sales of $100,000 this month. However, the firm received only $90,000 in cash from sales.
Why would the firm receive $10,000 less cash than its monthly sales?

Because the firm did not make all sales on cash

Because the firm purchased inventory on credit this month

Because the firm paid down $10,000 on a loan

Because the firm paid cash for inventory purchased - ✔✔Because the firm did not make all sales on
cash



A firm has paid off its short-term loans more quickly in the past couple of years. What might this trend
indicate about the firm's financial ratios?

Its profitability ratio is decreasing.

, Its liquidity ratio is increasing.

Its activity ratio is increasing.

Its leverage ratio is decreasing. - ✔✔Its liquidity ratio is increasing.



A large corporation is looking to merge with another large corporation. Which financial institution can
help them do this?

Investment bank

Pension fund

Private equity institution

Central bank - ✔✔Investment bank



A local start-up company just hit its five-year anniversary and is planning an initial public offering
sometime this year. In order to issue public stock, which market will the company use?

Futures and options market

Secondary market

Dealer market

Primary market - ✔✔Primary market



A potential project to expand the size of an apartment complex will cost $100,000. Its calculated net
present value is $5,000. Given this information, which statement is correct?

The project should be rejected because it has a negative IRR.

The project should be accepted because it has a positive IRR.

The project should be rejected because it has a negative NPV.

The project should be accepted because it has a positive NPV. - ✔✔The project should be accepted
because it has a positive NPV.

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