Question

If the NPV of an independent project is higher than zero, this means that:

Select one:

a. The project should be accepted.

b. Not accepting the project decreases the value of the firm.

c. The cash flows of the project provide a lower return than the required.

d. The project is not acceptable on a risk adjusted basis.

e. The firm’s stock price and consequently the wealth of its shareholders will decrease.

Answer 1

a. The Project Should be accepted.

In net Present value, we have to discount the future cash inflows at a desired discount rate, then we get the future cash inflows in the present terms and subtract intial investment amount

NPV = PV of the future cassh flows - Intial Outlay.

If NPV is positive we can accept the Project. If NPV turns down negitive we can reject the project.

Since in the Question it is given that NPV is higher than 0, So the Project should be accepted.So Option a is the Correct answer.

b. Not accepting the project decreases the value of the firm.

Since the NPV is higher than 0, we can accept the Project. It increases the value of the firm. Hence the given option b is not correct.

c. The cash flows of the project provide a lower return than the required.

Since in the NPV we have discounted the values at the desired rate of return. If NPV is higher than 0, then we get the desired return. If NPV is lower than 0,then we are getting the lower return. Hence the givven option is wrong. So C is not the Correct answer.

d.The project is not acceptable on a risk adjusted basis.

If NPV is higher than 0, then we should accept the Project. The Project is giving more than desired return. Hence option d is not the correct answer.

e.The firm’s stock price and consequently the wealth of its shareholders will decrease.

If NPV is higher than 0, then the Project is giving the higher return more than we desired. So it increases the value to the firm. Consequently results in higher profits and indeed the Shareholders wealth increses. Hence option e is not the correct answer.