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Chapter 9 Homework solutions

Chapter 9 Homework solutions - CHAPTER 9 Capital Budgeting...

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CHAPTER 9 Capital Budgeting Decision Criteria ANSWERS TO END-OF-CHAPTER QUESTIONS 9-1. Capital budgeting decisions involve investments requiring rather large cash outlays at the beginning of the life of the project and commit the firm to a particular course of action over a relatively long time horizon. As such, they are costly and difficult to reverse, both because of: (1) their large cost and (2) the fact that they involve fixed assets, which cannot be liquidated easily. 9-2. The criticisms of using the payback period as a capital budgeting technique are: (1) It ignores the timing of the free cash flows that occur during the payback period. (2) It ignores all free cash flows occurring after the payback period. (3) The selection of the maximum acceptable payback period is arbitrary. The advantages associated with the payback period are: (1) It deals with cash flows rather than accounting profits, and therefore focuses on the true timing of the project's benefits and costs. (2) It is easy to calculate and understand. (3) It can be used as a rough screening device, eliminating projects whose returns do not materialize until later years.
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