Question \( 9 \quad \) [ 5 marks] Evaluate each of the following statements (Irue or False). a) Suppose that a profitable firm has undertaken a new project If the new project' EBIT was negative in a certain year, tax shields may be created for the firm in that year. Answer: b) When a project's working capital requirement increases, its effect on the project's cash flow is positive. Answer: c) The payback decision rule is biased toward long-term profits. Answer: d) Using a modified internal rate of return (MIRR), one can resolve the problem associated with differences in the scale of investments across projects. Answer:

Let's evaluate each statement one by one: ### a) Suppose that a profitable firm has undertaken a new project. If the new project's EBIT was negative in a certain year, tax shields may be created for the firm in that year. **Answer: False.** - Explanation: A tax shield is created when a firm can deduct expenses from its taxable income. If the EBIT (Earnings Before Interest and Taxes) of a project is negative, it means that the project is not generating income, and thus, there would be no taxable income to shield. Therefore, tax shields cannot be created in that year. ### b) When a project's working capital requirement increases, its effect on the project's cash flow is positive. **Answer: False.** - Explanation: An increase in working capital requirements means that more cash is tied up in the project (e.g., in inventory or receivables), which reduces the cash available for other uses. This typically has a negative effect on the project's cash flow, as it represents an outflow of cash that is not immediately recoverable. ### c) The payback decision rule is biased toward long-term profits. **Answer: False.** - Explanation: The payback decision rule focuses on how quickly an investment can return its initial cost, without considering the time value of money or cash flows that occur after the payback period. This makes it biased toward short-term recovery rather than long-term profitability, as it may favor projects that pay back quickly but do not necessarily yield the highest overall profits. ### d) Using a modified internal rate of return (MIRR), one can resolve the problem associated with differences in the scale of investments across projects. **Answer: True.** - Explanation: The modified internal rate of return (MIRR) addresses some limitations of the traditional internal rate of return (IRR) by assuming reinvestment at the project's cost of capital rather than the IRR itself. This makes MIRR a more reliable measure for comparing projects of different scales, as it provides a clearer picture of the profitability and efficiency of investments. ### Summary of Answers: a) False b) False c) False d) True