Which of the following represents a SHORTCOMING of the net present value rule of
ID: 2782801 • Letter: W
Question
Which of the following represents a SHORTCOMING of the net present value rule of capital budgeting?
It fails to consider new information once the project is underway
It cannot be used in a sensitivity analysis
It fails to consider the impacts of depreciation on cash flows
It fails to measure the change in wealth from undertaking a project
It fails to incorporate time value of money
a.It fails to consider new information once the project is underway
b.It cannot be used in a sensitivity analysis
c.It fails to consider the impacts of depreciation on cash flows
d.It fails to measure the change in wealth from undertaking a project
e.It fails to incorporate time value of money
Explanation / Answer
It fails to consider the impact of depreciation on cash flows.
Depreciation of assets occur but since they are not actual cash outflows and actually a noncash expenditure. Depreciation can be accounted for by subtracting it from the cash flows for that particular period.
When there is new information in the project those new assumptions can be incorprated in the figures presented to get a change in NPV Value.
For sensitivity examination different discount rates can be taken to see the effect on NPV.
The objective of NPV is to determine the nett benefit of the project after subtracting the costs. The positive NPV Value is said to add to to stock price and shareholder wealth as it is a direct measure of expecteded change in value of the firm by undertaking a capital project.
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