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Chapter 04 - Discounted Cash Flow Valuation

Chapter 04 Discounted Cash Flow Valuation Answer Key

Multiple Choice Questions

1. An annuity stream of cash flow payments is a set of:

A. level cash flows occurring each time period for a fixed length of time. B. level cash flows occurring each time period forever.

C. increasing cash flows occurring each time period for a fixed length of time. D. increasing cash flows occurring each time period forever.

E. arbitrary cash flows occurring each time period for no more than 10 years.

Difficulty level: Easy Topic: ANNUITY Type: DEFINITIONS

2. Annuities where the payments occur at the end of each time period are called _____, whereas _____ refer to annuity streams with payments occurring at the beginning of each time period. A. ordinary annuities; early annuities B. late annuities; straight annuities C. straight annuities; late annuities D. annuities due; ordinary annuities E. ordinary annuities; annuities due

Difficulty level: Easy Topic: ANNUITIES DUE Type: DEFINITIONS

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Chapter 04 - Discounted Cash Flow Valuation

3. An annuity stream where the payments occur forever is called a(n): A. annuity due. B. indemnity. C. perpetuity.

D. amortized cash flow stream. E. amortization table.

Difficulty level: Easy Topic: PERPETUITY Type: DEFINITIONS

4. The interest rate expressed in terms of the interest payment made each period is called the _____ rate.

A. stated annual interest B. compound annual interest C. effective annual interest D. periodic interest E. daily interest

Difficulty level: Easy

Topic: STATED INTEREST RATES Type: DEFINITIONS

5. The interest rate expressed as if it were compounded once per year is called the _____ rate. A. stated interest B. compound interest C. effective annual D. periodic interest E. daily interest

Difficulty level: Easy

Topic: EFFECTIVE ANNUAL RATE Type: DEFINITIONS

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Chapter 04 - Discounted Cash Flow Valuation

6. The interest rate charged per period multiplied by the number of periods per year is called the _____ rate.

A. effective annual B. annual percentage C. periodic interest D. compound interest E. daily interest

Difficulty level: Easy

Topic: ANNUAL PERCENTAGE RATE Type: DEFINITIONS

7. Paying off long-term debt by making installment payments is called: A. foreclosing on the debt. B. amortizing the debt. C. funding the debt. D. calling the debt. E. None of the above.

Difficulty level: Easy Topic: AMORTIZATION Type: DEFINITIONS

8. You are comparing two annuities which offer monthly payments for ten years. Both annuities are identical with the exception of the payment dates. Annuity A pays on the first of each month while annuity B pays on the last day of each month. Which one of the following statements is correct concerning these two annuities? A. Both annuities are of equal value today. B. Annuity B is an annuity due.

C. Annuity A has a higher future value than annuity B. D. Annuity B has a higher present value than annuity A.

E. Both annuities have the same future value as of ten years from today.

Difficulty level: Medium

Topic: ORDINARY ANNUITY VERSUS ANNUITY DUE Type: CONCEPTS

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Chapter 04 - Discounted Cash Flow Valuation

9. You are comparing two investment options. The cost to invest in either option is the same today. Both options will provide you with $20,000 of income. Option A pays five annual

payments starting with $8,000 the first year followed by four annual payments of $3,000 each. Option B pays five annual payments of $4,000 each. Which one of the following statements is correct given these two investment options?

A. Both options are of equal value given that they both provide $20,000 of income. B. Option A is the better choice of the two given any positive rate of return.

C. Option B has a higher present value than option A given a positive rate of return. D. Option B has a lower future value at year 5 than option A given a zero rate of return. E. Option A is preferable because it is an annuity due.

Difficulty level: Medium

Topic: UNEVEN CASH FLOWS AND PRESENT VALUE Type: CONCEPTS

10. You are considering two projects with the following cash flows:

Which of the following statements are true concerning these two projects?

I. Both projects have the same future value at the end of year 4, given a positive rate of return. II. Both projects have the same future value given a zero rate of return.

III. Both projects have the same future value at any point in time, given a positive rate of return. IV. Project A has a higher future value than project B, given a positive rate of return. A. II only B. IV only

C. I and III only D. II and IV only E. I, II, and III only

Difficulty level: Medium

Topic: UNEVEN CASH FLOWS AND FUTURE VALUE Type: CONCEPTS

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Chapter 04 - Discounted Cash Flow Valuation

11. A perpetuity differs from an annuity because: A. perpetuity payments vary with the rate of inflation.

B. perpetuity payments vary with the market rate of interest.

C. perpetuity payments are variable while annuity payments are constant. D. perpetuity payments never cease. E. annuity payments never cease.

Difficulty level: Easy

Topic: PERPETUITY VERSUS ANNUITY Type: CONCEPTS

12. Which one of the following statements concerning the annual percentage rate is correct? A. The annual percentage rate considers interest on interest.

B. The rate of interest you actually pay on a loan is called the annual percentage rate.

C. The effective annual rate is lower than the annual percentage rate when an interest rate is compounded quarterly.

D. When firms advertise the annual percentage rate they are violating U.S. truth-in-lending laws.

E. The annual percentage rate equals the effective annual rate when the rate on an account is designated as simple interest.

Difficulty level: Medium

Topic: ANNUAL PERCENTAGE RATE Type: CONCEPTS

13. Which one of the following statements concerning interest rates is correct? A. The stated rate is the same as the effective annual rate.

B. An effective annual rate is the rate that applies if interest were charged annually. C. The annual percentage rate increases as the number of compounding periods per year increases.

D. Banks prefer more frequent compounding on their savings accounts.

E. For any positive rate of interest, the effective annual rate will always exceed the annual percentage rate.

Difficulty level: Medium Topic: INTEREST RATES Type: CONCEPTS

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Chapter 04 - Discounted Cash Flow Valuation

14. Which of the following statements concerning the effective annual rate are correct? I. When making financial decisions, you should compare effective annual rates rather than annual percentage rates.

II. The more frequently interest is compounded, the higher the effective annual rate.

III. A quoted rate of 6% compounded continuously has a higher effective annual rate than if the rate were compounded daily.

IV. When borrowing and choosing which loan to accept, you should select the offer with the highest effective annual rate. A. I and II only B. I and IV only C. I, II, and III only D. II, III, and IV only E. I, II, III, and IV

Difficulty level: Medium

Topic: EFFECTIVE ANNUAL RATE Type: CONCEPTS

15. The highest effective annual rate that can be derived from an annual percentage rate of 9% is computed as: A. .09e - 1. B. e.09 ? q. C. e ? (1 + .09). D. e.09 - 1. E. (1 + .09)q.

Difficulty level: Medium

Topic: CONTINUOUS COMPOUNDING Type: CONCEPTS

16. The time value of money concept can be defined as:

A. the relationship between the supply and demand of money. B. the relationship between money spent versus money received.

C. the relationship between a dollar to be received in the future and a dollar today. D. the relationship between interest rate stated and amount paid. E. None of the above.

Difficulty level: Easy Topic: TIME VALUE Type: CONCEPTS

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Chapter 04 - Discounted Cash Flow Valuation

17. Discounting cash flows involves:

A. discounting only those cash flows that occur at least 10 years in the future. B. estimating only the cash flows that occur in the first 4 years of a project. C. multiplying expected future cash flows by the cost of capital.

D. discounting all expected future cash flows to reflect the time value of money. E. taking the cash discount offered on trade merchandise.

Difficulty level: Easy Topic: CASH FLOWS Type: CONCEPTS

18. Compound interest:

A. allows for the reinvestment of interest payments.

B. does not allow for the reinvestment of interest payments. C. is the same as simple interest.

D. provides a value that is less than simple interest. E. Both A and D.

Difficulty level: Easy Topic: INTEREST Type: CONCEPTS

19. An annuity:

A. is a debt instrument that pays no interest.

B. is a stream of payments that varies with current market interest rates. C. is a level stream of equal payments through time. D. has no value.

E. None of the above.

Difficulty level: Easy Topic: ANNUITY Type: CONCEPTS

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Chapter 04 - Discounted Cash Flow Valuation

20. The stated rate of interest is 10%. Which form of compounding will give the highest effective rate of interest? A. annual compounding B. monthly compounding C. daily compounding

D. continuous compounding

E. It is impossible to tell without knowing the term of the loan.

Difficulty level: Easy Topic: COMPOUNDING Type: CONCEPTS

21. The present value of future cash flows minus initial cost is called: A. the future value of the project. B. the net present value of the project. C. the equivalent sum of the investment.

D. the initial investment risk equivalent value. E. None of the above.

Difficulty level: Easy Topic: PRESENT VALUE Type: CONCEPTS

22. Find the present value of $5,325 to be received in one period if the rate is 6.5%. A. $5,000.00 B. $5,023.58 C. $5,644.50 D. $5,671.13

E. None of the above.

Difficulty level: Easy

Topic: PRESENT VALUE - SINGLE SUM Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

23. If you have a choice to earn simple interest on $10,000 for three years at 8% or annually compounded interest at 7.5% for three years which one will pay more and by how much? A. Simple interest by $50.00 B. Compound interest by $22.97 C. Compound interest by $150.75 D. Compound interest by $150.00 E. None of the above.

Simple Interest = $10,000 (.08)(3) = $2,400;

Compound Interest = $10,000((1.075)3 - 1) = $2,422.97; Difference = $2,422.97 - $2,400 = $22.97

Difficulty level: Easy

Topic: SIMPLE & COMPOUND INTEREST Type: PROBLEMS

24. Bradley Snapp has deposited $7,000 in a guaranteed investment account with a promised rate of 6% compounded annually. He plans to leave it there for 4 full years when he will make a down payment on a car after graduation. How much of a down payment will he be able to make?

A. $1,960.00 B. $2,175.57 C. $8,960.00 D. $8,837.34 E. $9,175.57

$7,000 (1.06)4 = $8,837.34

Difficulty level: Easy

Topic: FUTURE VALUE - SINGLE SUM Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

25. Your parents are giving you $100 a month for four years while you are in college. At a 6% discount rate, what are these payments worth to you when you first start college? A. $3,797.40 B. $4,167.09 C. $4,198.79 D. $4,258.03 E. $4,279.32

Difficulty level: Easy

Topic: ORDINARY ANNUITY AND PRESENT VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

26. You just won the lottery! As your prize you will receive $1,200 a month for 100 months. If you can earn 8% on your money, what is this prize worth to you today? A. $87,003.69 B. $87,380.23 C. $87,962.77 D. $88,104.26 E. $90,723.76

Difficulty level: Easy

Topic: ORDINARY ANNUITY AND PRESENT VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

27. Todd is able to pay $160 a month for five years for a car. If the interest rate is 4.9%, how much can Todd afford to borrow to buy a car? A. $6,961.36 B. $8,499.13 C. $8,533.84 D. $8,686.82 E. $9,588.05

Difficulty level: Easy

Topic: ORDINARY ANNUITY AND PRESENT VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

28. You are the beneficiary of a life insurance policy. The insurance company informs you that you have two options for receiving the insurance proceeds. You can receive a lump sum of $50,000 today or receive payments of $641 a month for ten years. You can earn 6.5% on your money. Which option should you take and why?

A. You should accept the payments because they are worth $56,451.91 today. B. You should accept the payments because they are worth $56,523.74 today. C. You should accept the payments because they are worth $56,737.08 today.

D. You should accept the $50,000 because the payments are only worth $47,757.69 today. E. You should accept the $50,000 because the payments are only worth $47,808.17 today.

Difficulty level: Medium

Topic: ORDINARY ANNUITY AND PRESENT VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

29. Your employer contributes $25 a week to your retirement plan. Assume that you work for your employer for another twenty years and that the applicable discount rate is 5%. Given these assumptions, what is this employee benefit worth to you today? A. $13,144.43 B. $15,920.55 C. $16,430.54 D. $16,446.34 E. $16,519.02

Difficulty level: Medium

Topic: ORDINARY ANNUITY AND PRESENT VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

30. You have a sub-contracting job with a local manufacturing firm. Your agreement calls for annual payments of $50,000 for the next five years. At a discount rate of 12%, what is this job worth to you today? A. $180,238.81 B. $201,867.47 C. $210,618.19 D. $223,162.58 E. $224,267.10

Difficulty level: Medium

Topic: ORDINARY ANNUITY AND PRESENT VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

31. The Ajax Co. just decided to save $1,500 a month for the next five years as a safety net for recessionary periods. The money will be set aside in a separate savings account which pays 3.25% interest compounded monthly. It deposits the first $1,500 today. If the company had wanted to deposit an equivalent lump sum today, how much would it have had to deposit? A. $82,964.59 B. $83,189.29 C. $83,428.87 D. $83,687.23 E. $84,998.01

Difficulty level: Medium

Topic: ANNUITY DUE AND PRESENT VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

32. You need some money today and the only friend you have that has any is your ‘miserly' friend. He agrees to loan you the money you need, if you make payments of $20 a month for the next six months. In keeping with his reputation, he requires that the first payment be paid today. He also charges you 1.5% interest per month. How much money are you borrowing? A. $113.94 B. $115.65 C. $119.34 D. $119.63 E. $119.96

Difficulty level: Medium

Topic: ANNUITY DUE AND PRESENT VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

33. You buy an annuity which will pay you $12,000 a year for ten years. The payments are paid on the first day of each year. What is the value of this annuity today at a 7% discount rate? A. $84,282.98 B. $87,138.04 C. $90,182.79 D. $96,191.91 E. $116,916.21

Difficulty level: Medium

Topic: ANNUITY DUE AND PRESENT VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

34. You are scheduled to receive annual payments of $10,000 for each of the next 25 years. Your discount rate is 8.5%. What is the difference in the present value if you receive these payments at the beginning of each year rather than at the end of each year? A. $8,699 B. $9,217 C. $9,706 D. $10,000 E. $10,850

Difference = $111,040.97 - $102,341.91 = $8,699.06 = $8,699 (rounded) Note: The difference = .085 ? $102,341.91 = $8,699.06

Difficulty level: Medium

Topic: ORDINARY ANNUITY VERSUS ANNUITY DUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

35. You are comparing two annuities with equal present values. The applicable discount rate is 7.5%. One annuity pays $5,000 on the first day of each year for twenty years. How much does the second annuity pay each year for twenty years if it pays at the end of each year? A. $4,651 B. $5,075 C. $5,000 D. $5,375 E. $5,405

Because each payment is received one year later, then the cash flow has to equal: $5,000 ? (1 + .075) = $5,375

Difficulty level: Medium

Topic: ORDINARY ANNUITY VERSUS ANNUITY DUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

36. Martha receives $100 on the first of each month. Stewart receives $100 on the last day of each month. Both Martha and Stewart will receive payments for five years. At an 8% discount rate, what is the difference in the present value of these two sets of payments? A. $32.88 B. $40.00 C. $99.01 D. $108.00 E. $112.50

Difference = $4,964.72 - $4,931.84 = $32.88

Difficulty level: Medium

Topic: ORDINARY ANNUITY VERSUS ANNUITY DUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

37. What is the future value of $1,000 a year for five years at a 6% rate of interest? A. $4,212.36 B. $5,075.69 C. $5,637.09 D. $6,001.38 E. $6,801.91

Difficulty level: Easy

Topic: ORDINARY ANNUITY AND FUTURE VALUE Type: PROBLEMS

38. What is the future value of $2,400 a year for three years at an 8% rate of interest? A. $6,185.03 B. $6,847.26 C. $7,134.16 D. $7,791.36 E. $8,414.67

Difficulty level: Easy

Topic: ORDINARY ANNUITY AND FUTURE VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

39. Janet plans on saving $3,000 a year and expects to earn 8.5%. How much will Janet have at the end of twenty-five years if she earns what she expects? A. $219,317.82 B. $230,702.57 C. $236,003.38 D. $244,868.92 E. $256,063.66

Difficulty level: Easy

Topic: ORDINARY ANNUITY AND FUTURE VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

40. Toni adds $3,000 to her savings on the first day of each year. Tim adds $3,000 to his savings on the last day of each year. They both earn a 9% rate of return. What is the difference in their savings account balances at the end of thirty years? A. $35,822.73 B. $36,803.03 C. $38,911.21 D. $39,803.04 E. $40,115.31

Difference = $445,725.65 - $408,922.62 = $36,803.03 Note: Difference = $408,922.62 ? .09 = $36,803.03

Difficulty level: Medium

Topic: ANNUITY DUE VERSUS ORDINARY ANNUITY Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

41. You borrow $5,600 to buy a car. The terms of the loan call for monthly payments for four years at a 5.9% rate of interest. What is the amount of each payment? A. $103.22 B. $103.73 C. $130.62 D. $131.26 E. $133.04

Difficulty level: Easy

Topic: ORDINARY ANNUITY PAYMENTS Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

42. You borrow $149,000 to buy a house. The mortgage rate is 7.5% and the loan period is 30 years. Payments are made monthly. If you pay for the house according to the loan agreement, how much total interest will you pay? A. $138,086 B. $218,161 C. $226,059 D. $287,086 E. $375,059

Total interest = ($1,041.83 ? 30 ? 12) - $149,000 = $226,058.80 = $226,059 (rounded)

Difficulty level: Medium

Topic: ORDINARY ANNUITY PAYMENTS AND COST OF INTEREST Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

43. The Great Giant Corp. has a management contract with its newly hired president. The contract requires a lump sum payment of $25 million be paid to the president upon the

completion of her first ten years of service. The company wants to set aside an equal amount of funds each year to cover this anticipated cash outflow. The company can earn 6.5% on these funds. How much must the company set aside each year for this purpose? A. $1,775,042.93 B. $1,798,346.17 C. $1,801,033.67 D. $1,852,617.25 E. $1,938,018.22

Difficulty level: Easy

Topic: ORDINARY ANNUITY PAYMENTS AND FUTURE VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

44. You retire at age 60 and expect to live another 27 years. On the day you retire, you have $464,900 in your retirement savings account. You are conservative and expect to earn 4.5% on your money during your retirement. How much can you withdraw from your retirement savings each month if you plan to die on the day you spend your last penny? A. $2,001.96 B. $2,092.05 C. $2,398.17 D. $2,472.00 E. $2,481.27

Difficulty level: Medium

Topic: ORDINARY ANNUITY PAYMENTS AND PRESENT VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

45. The McDonald Group purchased a piece of property for $1.2 million. It paid a down

payment of 20% in cash and financed the balance. The loan terms require monthly payments for 15 years at an annual percentage rate of 7.75% compounded monthly. What is the amount of each mortgage payment? A. $7,440.01 B. $8,978.26 C. $9,036.25 D. $9,399.18 E. $9,413.67

Amount financed = $1,200,000 ? (1 - .2) = $960,000

Difficulty level: Medium

Topic: ORDINARY ANNUITY PAYMENTS AND PRESENT VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

46. You estimate that you will have $24,500 in student loans by the time you graduate. The interest rate is 6.5%. If you want to have this debt paid in full within five years, how much must you pay each month? A. $471.30 B. $473.65 C. $476.79 D. $479.37 E. $480.40

Difficulty level: Medium

Topic: ORDINARY ANNUITY PAYMENTS AND PRESENT VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

47. You are buying a previously owned car today at a price of $6,890. You are paying $500 down in cash and financing the balance for 36 months at 7.9%. What is the amount of each loan payment? A. $198.64 B. $199.94 C. $202.02 D. $214.78 E. $215.09

Amount financed = $6,890 - $500 = $6,390

Difficulty level: Medium

Topic: ORDINARY ANNUITY PAYMENTS AND PRESENT VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

48. The Good Life Insurance Co. wants to sell you an annuity which will pay you $500 per quarter for 25 years. You want to earn a minimum rate of return of 5.5%. What is the most you are willing to pay as a lump sum today to buy this annuity? A. $26,988.16 B. $27,082.94 C. $27,455.33 D. $28,450.67 E. $28,806.30

Difficulty level: Medium

Topic: ORDINARY ANNUITY PAYMENTS AND PRESENT VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

49. Your car dealer is willing to lease you a new car for $299 a month for 60 months. Payments are due on the first day of each month starting with the day you sign the lease contract. If your cost of money is 4.9%, what is the current value of the lease? A. $15,882.75 B. $15,906.14 C. $15,947.61 D. $16,235.42 E. $16,289.54

Difficulty level: Medium

Topic: ANNUITY DUE PAYMENTS AND PRESENT VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

50. Your great-aunt left you an inheritance in the form of a trust. The trust agreement states that you are to receive $2,500 on the first day of each year, starting immediately and continuing for fifty years. What is the value of this inheritance today if the applicable discount rate is 6.35%? A. $36,811.30 B. $37,557.52 C. $39,204.04 D. $39,942.42 E. $40,006.09

Difficulty level: Medium

Topic: ANNUITY DUE PAYMENTS AND PRESENT VALUE Type: PROBLEMS

51. Beatrice invests $1,000 in an account that pays 4% simple interest. How much more could she have earned over a five-year period if the interest had compounded annually? A. $15.45 B. $15.97 C. $16.65 D. $17.09 E. $21.67

Ending value at 4% simple interest = $1,000 + ($1,000 ? .04 ? 5) = $1,200.00; Ending value at 4% compounded annually = $1,000 ? (1 +.04)5 = $1,216.65; Difference = $1,216.65 - $1,200.00 = $16.65

Difficulty level: Easy

Topic: SIMPLE VERSUS COMPOUND INTEREST Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

52. Your firm wants to save $250,000 to buy some new equipment three years from now. The plan is to set aside an equal amount of money on the first day of each year starting today. The firm can earn a 4.7% rate of return. How much does the firm have to save each year to achieve its goal?

A. $75,966.14 B. $76,896.16 C. $78,004.67 D. $81.414.14 E. $83,333.33

Difficulty level: Medium

Topic: ANNUITY DUE PAYMENTS AND FUTURE VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

53. Today is January 1. Starting today, Sam is going to contribute $140 on the first of each month to his retirement account. His employer contributes an additional 50% of the amount contributed by Sam. If both Sam and his employer continue to do this and Sam can earn a monthly rate of ? of 1 percent, how much will he have in his retirement account 35 years from now?

A. $199,45.944 B. $200,456.74 C. $249,981.21 D. $299,189.16 E. $300,685.11

Difficulty level: Medium

Topic: ANNUITY DUE PAYMENTS AND FUTURE VALUE Type: PROBLEMS

54. You are considering an annuity which costs $100,000 today. The annuity pays $6,000 a year. The rate of return is 4.5%. What is the length of the annuity time period? A. 24.96 years B. 29.48 years C. 31.49 years D. 33.08 years E. 38.00 years

Difficulty level: Medium

Topic: ORDINARY ANNUITY TIME PERIODS AND PRESENT VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

55. Today, you signed loan papers agreeing to borrow $4,954.85 at 9% compounded monthly. The loan payment is $143.84 a month. How many loan payments must you make before the loan is paid in full? A. 29.89 B. 36.00 C. 38.88 D. 40.00 E. 41.03

Difficulty level: Medium

Topic: ORDINARY ANNUITY TIME PERIODS AND PRESENT VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

56. Winston Enterprises would like to buy some additional land and build a new factory. The anticipated total cost is $136 million. The owner of the firm is quite conservative and will only do this when the company has sufficient funds to pay cash for the entire expansion project. Management has decided to save $450,000 a month for this purpose. The firm earns 6% compounded monthly on the funds it saves. How long does the company have to wait before expanding its operations? A. 184.61 months B. 199.97 months C. 234.34 months D. 284.61 months E. 299.97 months

Difficulty level: Medium

Topic: ORDINARY ANNUITY TIME PERIODS AND FUTURE VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

57. Today, you are retiring. You have a total of $413,926 in your retirement savings and have the funds invested such that you expect to earn an average of 3%, compounded monthly, on this money throughout your retirement years. You want to withdraw $2,500 at the beginning of every month, starting today. How long will it be until you run out of money? A. 185.00 months B. 213.29 months C. 227.08 months D. 236.84 months E. 249.69 months

Difficulty level: Medium

Topic: ANNUITY DUE TIME PERIODS AND PRESENT VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

58. The Bad Guys Co. is notoriously known as a slow-payer. It currently needs to borrow $25,000 and only one company will even deal with Bad Guys. The terms of the loan call for daily payments of $30.76. The first payment is due today. The interest rate is 21% compounded daily. What is the time period of this loan? A. 2.88 years B. 2.94 years C. 3.00 years D. 3.13 years E. 3.25 years

Difficulty level: Medium

Topic: ANNUITY DUE TIME PERIODS Type: PROBLEMS

4-40

Chapter 04 - Discounted Cash Flow Valuation

59. The Robertson Firm is considering a project which costs $123,900 to undertake. The project will yield cash flows of $4,894.35 monthly for 30 months. What is the rate of return on this project? A. 12.53% B. 13.44% C. 13.59% D. 14.02% E. 14.59%

This can not be solved directly, so it's easiest to just use the calculator method to get an answer. You can then use the calculator answer as the rate in the formula just to verify that your answer is correct.

Difficulty level: Medium

Topic: ORDINARY ANNUITY INTEREST RATE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

60. Your insurance agent is trying to sell you an annuity that costs $100,000 today. By buying this annuity, your agent promises that you will receive payments of $384.40 a month for the next 40 years. What is the rate of return on this investment? A. 3.45% B. 3.47% C. 3.50% D. 3.52% E. 3.55%

Difficulty level: Medium

Topic: ORDINARY ANNUITY INTEREST RATE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

61. You have been investing $120 a month for the last 15 years. Today, your investment account is worth $47,341.19. What is your average rate of return on your investments? A. 9.34% B. 9.37% C. 9.40% D. 9.42% E. 9.46%

Difficulty level: Medium

Topic: ORDINARY ANNUITY INTEREST RATE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

62. Brinker, Inc. has been investing $136,000 a year for the past 4 years into a business venture. Today, Brinker sold that venture for $685,000. What is its rate of return on this venture? A. 9.43% B. 11.06% C. 15.59% D. 16.67% E. 18.71%

Difficulty level: Easy

Topic: ORDINARY ANNUITY INTEREST RATE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

63. Your mother helped you start saving $25 a month beginning on your 10th birthday. She always made you make your deposit on the first day of each month just to \right.\your savings? A. 5.25% B. 5.29% C. 5.33% D. 5.36% E. 5.50%

To more decimal places, the answer is 5.28632%.

Difficulty level: Easy

Topic: ANNUITY DUE INTEREST RATE Type: PROBLEMS

4-45

Chapter 04 - Discounted Cash Flow Valuation

64. Today, you turn 21. Your birthday wish is that you will be a millionaire by your 40th

birthday. In an attempt to reach this goal, you decide to save $25 a day, every day until you turn 40. You open an investment account and deposit your first $25 today. What rate of return must you earn to achieve your goal? A. 15.07% B. 15.13% C. 15.17% D. 15.20% E. 15.24%

To more decimal places, the answer is 15.0697117%.

Difficulty level: Easy

Topic: ANNUITY DUE INTEREST RATE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

65. Marko, Inc. is considering the purchase of ABC Co. Marko believes that ABC Co. can generate cash flows of $5,000, $9,000, and $15,000 over the next three years, respectively. After that time, Marko feels ABC will be worthless. Marko has determined that a 14% rate of return is applicable to this potential purchase. What is Marko willing to pay today to buy ABC Co.?

A. $19,201.76 B. $21,435.74 C. $23,457.96 D. $27,808.17 E. $31,758.00

Present value = $4,385.96 + $6,925.21 + $10,124.57 = $21,435.74

Difficulty level: Easy

Topic: UNEVEN CASH FLOWS AND PRESENT VALUE Type: PROBLEMS

4-47

Chapter 04 - Discounted Cash Flow Valuation

66. You are considering two savings options. Both options offer a 4% rate of return. The first option is to save $1,200, $1,500, and $2,000 a year over the next three years, respectively. The other option is to save one lump sum amount today. If you want to have the same balance in your savings at the end of the three years, regardless of the savings method you select, how much do you need to save today if you select the lump sum option? A. $4,318.67 B. $4,491.42 C. $4,551.78 D. $4,607.23 E. $4,857.92

Present value = $1,153.85 + $1,386.83 + $1,777.99 = $4,318.67

Difficulty level: Easy

Topic: UNEVEN CASH FLOWS AND PRESENT VALUE Type: PROBLEMS

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Chapter 04 - Discounted Cash Flow Valuation

67. You are considering two insurance settlement offers. The first offer includes annual payments of $5,000, $7,500, and $10,000 over the next three years, respectively. The other offer is the payment of one lump sum amount today. You are trying to decide which offer to accept given the fact that your discount rate is 5%. What is the minimum amount that you will accept today if you are to select the lump sum offer? A. $19,877.67 B. $20,203.00 C. $21,213.15 D. $23,387.50 E. $24,556.88

Present value = $4,761.90 + $6,802.72 + $8,638.38 = $20,203.00

Difficulty level: Easy

Topic: UNEVEN CASH FLOWS AND PRESENT VALUE Type: PROBLEMS

4-49

Chapter 04 - Discounted Cash Flow Valuation

68. You are considering a job offer. The job offers an annual salary of $52,000, $55,000, and $60,000 a year for the next three years, respectively. The offer also includes a starting bonus of $2,000 payable immediately. What is this offer worth to you today at a discount rate of 6%? A. $148,283.56 B. $148,383.56 C. $150,283.56 D. $150,383.56 E. $152,983.56

Present value = $2,000 + $49,056.60 + $48,949.80 + $50,377.16 = $150,383.56

Difficulty level: Easy

Topic: UNEVEN CASH FLOWS AND PRESENT VALUE Type: PROBLEMS

4-50

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