Practice questions Foundations of finance Unit 6
The required rate of return is 14 percent. What is the IRR of a project that requires an investment today of $158,500 and has an expected cash flow in one year of $175,000, suppose the firm uses the NPV decision rule. At the same required rate of return of 14 percent, what is the NPV of the project?
-4,991
Although appealing to more refined tastes, art as a collectible has not always performed so profitably. During 2003, Sotheby's sold the Edgar Degas bronze sculpture Petite Danseuse de Quatorze Ans at auction for a price of $10,311,500. Unfortunately for the previous owner, he had purchased it in 1999 at a price of $12,377,500. What was his annual rate of return on this sculpture?
-4.46 (with margin: 1)
In 1 you determined the economic value of FastDrop Delivery Service, given its end-of-year cash inflow of $80,000 and its opportunity cost of 10%. In further negotiations the entrepreneur offers to sell you the business for $70,000. What is the IRR of this offer?
14.29
First City Bank pays 6 percent simple interest on its savings account balances, whereas Second City Bank pays 6 percent interest compounded annually. If you made a deposit of $8,100 in each bank, how much more money would you earn from your Second City Bank account at the end of 10 years?
1,545.87 (with margin: 100)
Assume the total cost of a college education will be $295,000 when your child enters college in 18 years. You presently have $53,000 to invest. What annual rate of interest must you earn on your investment to cover the cost of your child's college education?
10.01 (with margin: 1)
Project IRR. A firm evaluates all of its projects by applying the IRR rule. The required rate of return is 14 percent. What is the IRR of a project that requires an investment today of $158,500 and has an expected cash flow in one year of $175,000?
10.41
At 4.7 percent interest, how long does it take to double your money? To quadruple it?
15.09 (with margin: 1)
Solve for the unknown number of years in each of the following. Once you've completed the calculations please enter the year for the first investment.
17.39 (with margin: 10)
Your little sister Tiffany has received a special Piggy bank with a $20 bill in it. This is a special locked Piggy and will unlock itself in one year. Tiffany has offered to sell you Piggy today. Unfortunately, this nice Piggy bank will completely destroy itself in one year and have no value, so plan on getting only the $20! If your savings rate is 5%, how much is the $20 in Piggy worth to you today if you can't get at it for a year?
19.5 (with margin: 3)
Your house needs a new coat of paint. You could hire a painter for $1,200 or spend $300 for materials and devote 8 hours of your time to the project. (It's a small house!). If you normally make $200/hour at your consulting job, what is the opportunity cost of having the house painted by the professional painter?
1900
Imprudential, Inc., has an unfunded pension liability of $730 million that must be paid in 25 years. To assess the value of the firm's stock, financial analysts want to discount this liability back to the present. If the relevant discount rate is 5.5 percent, what is the present value of this liability?
191,430,603
Given the project's opportunity cost and cash flows, determine the project's Net Present Value. FastDrop Delivery Service, given its end-of-year cash inflow of $80,000 and its opportunity cost of 10%. In further negotiations the entrepreneur offers to sell you the business for $70,000.
2,727
If the discount rate is 6 percent, what is the present value of the investment with the higher present value?
23,125
In 2014, an Action Comics No. 1, featuring the first appearance of Superman, was sold at auction for $3,207,852. The comic book was originally sold in 1938 for $.10. What was the annual increase in the value of this comic book?
25.54
If you deposit $5,000 at the end of each year for the next 20 years into an account paying 9.6 percent interest, how much money will you have in the account in 20 years?
273,685 (with margin: 100)
You have just received notification that you have won the $1 million first prize in the Centennial Lottery. However, the prize will be awarded on your 100th birthday (assuming you're around to collect), 80 years from now. What is the present value of your windfall if the appropriate discount rate is 7.25 percent?
3,700.12
Your friend wants to pay back the money she borrowed from you. She offers you $300 today or $315 in one year. If you could save at 6%, what is the future value of the one you would choose?
318
In the previous problem, suppose Curly's told you the policy costs $645,000. At what interest rate would this be a fair deal?
4.65
In 2014, an 1874 $20 double eagle sold for $15,000. What was the rate of return on this investment?
4.84 (with margin: 1)
An investment offers $5,430 per year for 15 years, with the first payment occurring one year from now. If the required return is 8 percent, what is the value of the investment?
46,478 (with margin: 100)
Your coin collection contains fifty 1952 silver dollars. If your grandparents purchased them for their face value when they were new, how much will your collection be worth when you retire in 2063, assuming they appreciate at an annual rate of 4.3 percent?
5,352.13
You are very popular with entrepreneurs! Just as you are ready to finalize your deal with FastDrop, another entrepreneur offers you another business deal: Hive Bliss, a company that sells home bee hives as a personal source of honey. Hive Bliss would require an investment of $95,000 and offers a cash inflow of $120,000 at the end of the year. An apiculture consultant advises that this is a fairly risky investment and suggests a risk premium of 14%. Risk free rate is 4% from the previous fastdrop problem What is its NPV?
6,694
Curly's Life Insurance Co. is trying to sell you an investment policy that will pay you and your heirs $30,000 per year forever. If the required return on this investment is 5 percent, how much will you pay for the policy?
600,000
You're trying to save to buy a new $150,000 Ferrari. You have $35,000 today that can be invested at your bank. The bank pays 2.1 percent annual interest on its accounts. How long will it be before you have enough to buy the car?
70.02
You are planning to place your money in safe government securities, which currently offer a 4% riskless rate of return. Before making this investment, an entrepreneur approaches you and asks you to purchase her new business venture, FastDrop, a delivery service for legal documents that would produce a single cash inflow of $80,000 at the end of the year. You have determined that 6% is an appropriate risk premium for this investment. How much would you be willing to pay for Fast Drop?
72,727
You receive $750 today and deposited it in your savings account that has an interest rate of 3%. What will your savings account balance be in one year?
772.5
In 1895, the first U.S. Open Golf Championship was held. The winner's prize money was $150. In 2014, the winner's check was $1,620,000. What was the annual percentage increase in the winner's check over this period? If the winner's prize increases at the same rate, what will it be in 2045?
8.117
Your company gives you the option of receiving your salary at the beginning of each month or at the end of each month. Which option should you choose?
At the beginning of each month
What is discounting?
Dividing
As the interest rate rises, the present value of a future cash flow
Goes down
A friend offers you a Coke, a Pepsi, or a Diet Coke. You don't like Diet Coke, so you take the Pepsi. What is the opportunity cost of your choice?
The Coke plus the Diet Coke.
Your little sister Tiffany is beginning to cause you some concern. She wants to borrow $480 from you today and promises to pay you $500 in one year. You earn 3% on your deposits. Disregarding what your 9 year-old sister would need $480 for, would this be a good loan for you to make? After doing your calculations, rather than entering a numeric answer, please answer true if you would make the loan or false if you would not make the loan.
True
What is the Internal Rate of Return? What is the IRR criterion decision rule?
When the IRR is above the Opporutnity cost probably possibly
What is compounding?
multiplying