Question
Why should capital budgeting decisions be based on incremental after-tax cash flows rather than accounting earnings?
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Answer
Because only incremental cash flows determine value added.
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Question
How do real options affect a project's value in capital budgeting?
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Answer
They increase value by preserving upside or limiting downside.
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Question
A power plant can switch between coal and natural gas as input prices change. What real option is this?
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Answer
A flexibility option.
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Question
A company can shut down and sell equipment if a project performs poorly. What type of real option is this?
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Answer
An abandonment option.
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