Financial Management

Midterm Review Session Solution

Professor Ben-Rephael
 Lecture 2
Janet saves $3,000 a year at an interest rate of 4.2
percent. What will her savings be worth at the end of
35 years?

(a) $229,317.82
(b) $230,702.57
(c) $234,868.92
(d) $230,040.06
(e) $236,063.66
PMT=3000, I=4.2, N=35  FV
 Lecture 2
You just won the lottery! As your prize you will
receive $1,500 a month for 150 months. If you can
earn 7 percent, compounded monthly, on your money,
what is this prize worth to you today?

(a) $137,003.69
(b) $149,676.91
(c) $137,962.77
(d) $148,104.26
(e) $150,723.76
PMT=1,500, N=150, I=7/12  PV
 Lecture 2
You need some money today and the only friend agrees to
loan you the money you need, if you make payments of
$20 a month for the next six months, where the first
payment is paid today. He also charges you 1.5% interest
per month. How much total interest does he expect to earn
(i.e., $120 - PV)?
(a) $3.94
(b) $1.34
(c) $4.35
(d) $3.63
(e) $5.96
PMT=20, N=60, I=1.5, Mode BGN  PV=115.65
 Lecture 3
The discount rate that makes the net present value of
an investment exactly equal to zero is called the:

(a) external rate of return

(b) internal rate of return
(c) average accounting return
(d) profitability index
(e) equalizer
 Lecture 3
Assume that the initial investment is $500,000. Assume
that the project has an expected cash flow of $25,000 at
time 1, $75,000 per year from time 2 until time 8 and
$25,000 at times 9 and 10. Assume that the appropriate
discount rate is 14%. The IRR of the project is:
(a) 3.636%
(b) 2.876%
(c) 14.12%
(d) There is more than one solution
(e) None of the above
Cf0 -500,000, CFj 25,000, CFj 75,000 Nj=7, CFj
25,000 Nj 2  IRR
 Lecture 3
Matt is analyzing two mutually exclusive projects of similar
size. Both projects have 5-year lives. Project A has an NPV of
$18,389, a payback period of 2.38 years, an IRR of 15.9 percent,
and a discount rate of 13.6 percent. Project B has an NPV of
$19,748, a payback period of 2.69 years, an IRR of 13.4 percent,
and a discount rate of 12.8 percent. Matt should accept:

(a) Project A because of its payback period.

(b) both projects as they both have positive NPVs.
(c) Project B based on its NPV.
(d) Project A because of its IRR.
(e) neither project based on their IRRs.
 Lecture 3
A cost that has already been paid, or the liability to pay has
already been incurred, is a(n):

(a) salvage value expense

(b) net working capital expense
(c) sunk cost
(d) opportunity cost
(e) erosion cost
 Lecture 3
Kurt's Cabinets is looking at a project that will require $80,000
in fixed assets. The project is expected to produce sales of
$110,000 with associated costs of $70,000. The project has a 4-
year life. The company uses straight-line depreciation to a zero
book value over the life of the project. The tax rate is 35
percent. What is the annual cash flow?

(a) $7,000
(b) $13,000
(c) $27,000
(d) $33,000
(e) $40,000
(110-70-20)(1-0.35)+20=33
 Lecture 4
A bond with a coupon rate of 6 percent that pays
interest semiannually and is priced at par will have a
market price of _____, an interest payments in the
amount of _____ each period, and a discount rate (i.e.,
YTM) of _______.
(a) $1,060; $60; 6%
(b) $1,000; $30; 6%
(c) $1,000; $30; 3%
(d) $1,030; $60; 3%
(3) None of the above
 Lecture 4
A bond has a coupon rate of 8.2 percent, a $1,000 par
value, matures in 11.5 years, has a BEY of 7.67
percent, and pays interest semi-annually. What is the
current yield?
(a) 7.89%
(b) 3.94%
(c) 8.20%
(d) 4.10%
(e) 8.52%
FV=1,000, N=23, I=7.67/2, PMT=41 PV~=1,040
Current yield=82/1040