The Flow-To-Equity Approach to Capital Budgeting Is a Three Step

question 22

Multiple Choice

The flow-to-equity approach to capital budgeting is a three step process of:

• A) calculating the levered cash flow, the cost of equity capital for a levered firm, then adding the interest expense when the cash flows are discounted.
• B) calculating the unlevered cash flow, the cost of equity capital for a levered firm, and then discounting the unlevered cash flows.
• C) calculating the levered cash flow after interest expense and taxes, the cost of equity capital for a levered firm, and then discounting the levered cash flows by the cost of equity capital.
• D) calculating the levered cash flow after interest expense and taxes, the cost of equity capital for a levered firm, and then discounting the levered cash flows at the risk free rate.
• E) None of these.

---

Definitions:

NPV

NPV, or Net Present Value, is a financial metric that calculates the difference between the present value of cash inflows and outflows over a period of time, used in capital budgeting to gauge the profitability of an investment.

Discount Rates

The rate of interest applied in discounted cash flow (DCF) analysis to calculate the current value of future cash flows.

NPV

NPV - Net Present Value, a financial metric used to evaluate the profitability of an investment or project, calculating the difference between the present value of cash inflows and outflows.

Option

A financial derivative that gives the holder the right, but not the obligation, to buy or sell an underlying asset at a specified price on or before a certain date.