To Increase Productive Capacity, a Company Is Considering a Proposed

question 46

Multiple Choice

To increase productive capacity, a company is considering a proposed new plant.Which of the following statements is CORRECT?

• A) Since depreciation is a non-cash expense, the firm does not need to deal with depreciation when calculating the operating cash flows.
• B) When estimating the project's operating cash flows, it is important to include both opportunity costs and sunk costs, but the firm should ignore the cash flow effects of externalities since they are accounted for in the discounting process.
• C) Capital budgeting decisions should be based on before-tax cash flows.
• D) The cost of capital used to discount cash flows in a capital budgeting analysis should be calculated on a before-tax basis.
• E) In calculating the project's operating cash flows, the firm should not deduct financing costs such as interest expense, because financing costs are accounted for by discounting at the cost of capital.If interest were deducted when estimating cash flows, this would, in effect, "double count" it.

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Definitions:

Bonds Before Maturity

The buying or selling of bonds in the financial markets before they have reached their specified maturity date.

Extraordinary Item

A term used in accounting to describe events and transactions that are both unusual and infrequent in nature, significantly affecting a company's financial position.

Loss On Bond Redemption

The financial loss incurred when bonds are redeemed before their maturity date at a higher value than their purchase price.

Straight-Line Amortization

A technique for distributing the cost of an asset uniformly throughout its period of use.