Chapter 12 Discussion Questions 12-1 What are the important administrative considerations in the capital budgeting Important administrative considerations relate to the search for and discovery of investment opportunities, the collection of data, the evaluation of projects d the reevaluation of prior d 12-2 Why does capital bud geting rely on analysis of cash flows rather than on net income? Cash flow rather than net income is used in capital budgeting analysis becaus the primary concern is with the amount of actual dollars generated For example, depreciation is subtracted out in arriving at net income, but this noncash deduction should be ad ded back in to determine cash flow or actual dollars generated What are the weaknesses of the pay back method? The weaknesses of the payback method are b. The concept fails to consider the time value of money od a. There is no consideration of inflows after the cutoff per 12-4 What is normally used as the d iscount rate in the net present value method? The cost of capital as determined in Chapter 11 12-5 What does the term mutually exclusive investments mean? The selection of one investment precludes the selection of other alternative Investments 12-6 How does the modified internal rate of return include concepts from both the trad itional internal rate and the net present value methods? The mod ified internal ratio of return calls for the determination of the interest rate that equates future inflows to the investment as does the trad itional internal rate or return. However, it incorporates the reinvestment rate assumption of the net present value method. That is that inflows are reinvested at the cost ofChapter 12 Discussion Questions 12-1. What are the important administrative considerations in the capital budgeting process? Important administrative considerations relate to: the search for and discovery of investment opportunities, the collection of data, the evaluation of projects, and the reevaluation of prior decisions. 12-2. Why does capital budgeting rely on analysis of cash flows rather than on net income? Cash flow rather than net income is used in capital budgeting analysis because the primary concern is with the amount of actual dollars generated. For example, depreciation is subtracted out in arriving at net income, but this noncash deduction should be added back in to determine cash flow or actual dollars generated. 12-3. What are the weaknesses of the payback method? The weaknesses of the payback method are: a. There is no consideration of inflows after the cutoff period. b. The concept fails to consider the time value of money. 12-4. What is normally used as the discount rate in the net present value method? The cost of capital as determined in Chapter 11. 12-5. What does the term mutually exclusive investments mean? The selection of one investment precludes the selection of other alternative investments. 12-6. How does the modified internal rate of return include concepts from both the traditional internal rate and the net present value methods? The modified internal ratio of return calls for the determination of the interest rate that equates future inflows to the investment as does the traditional internal rate or return. However, it incorporates the reinvestment rate assumption of the net present value method. That is that inflows are reinvested at the cost of capital