Fundamentals of Corporate Finance 9th Canadian Edition by Stephen A. Ross -Test Bank

Fundamentals of Corporate Finance 9th Canadian Edition by Stephen A. Ross -Test Bank

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ExamName___________________________________MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question.1)You collect model airplanes. One particular model is currently valued at $275. If thismodel increases in value by 5% annually, it will be worth ________ six years from nowand ________ twelve years from now.1)A)$368.01; $461.34B)$368.53; $442.89C)$368.53; $493.86D)$368.01; $442.89E)$368.53; $467.08Answer:CExplanation:A)B)C)D)E)2)The Smith Co. has $450,000 to invest at 5.5% interest. How much more money will theyhave if they invest these funds for eight years instead of five years?2)A)$68,851.36B)$78,408.62C)$102,476.93D)$62,948.21E)$74,250.00Answer:CExplanation:A)B)C)D)E)3)You deposit $500,000 in a higher risk investment. Three years later, you receive$711,900 and withdraw your funds. Given this information calculate the balance at theend of year two.3)A)$632,804B)$636,549C)$665,202D)$687,702E)$693,303Answer:AExplanation:A)B)C)D)E)1
4)Jennifer invested $2,000 in an account that pays 3% simple interest. How much morecould she have earned over a six-year period if the interest had compounded annually?4)A)$28.10B)$33.33C)$29.18D)$34.67E)$31.50Answer:AExplanation:A)B)C)D)E)5)What is the future value of $3,497 invested for 15 years at 7.5% compounded annually?5)A)$15,267.21B)$14,911.08C)$14,289.16D)$10,347.19E)$7,431.13Answer:DExplanation:A)B)C)D)E)6)You would like to give your daughter $40,000 towards her college education thirteenyears from now. How much money must you set aside today for this purpose if you canearn 6.3% on your funds?6)A)$17,989.28B)$18,213.69C)$18,077.05D)$18,395.00E)$17,750.00Answer:CExplanation:A)B)C)D)E)2
7)All else being the same, which of the following statements is correct?7)A)Present values increase the further away in time the future value.B)Present values increase as the discount rate increases I only.C)Present values are always smaller than future values when r is negative and tpositive.D)Present values decrease as the discount rate decreases.E)Present values are always smaller than future values when both r and t are positive.Answer:EExplanation:A)B)C)D)E)8)Jessica invests $3,000 in an account that pays 5% simple interest. How much more couldshe have earned over a 7-year period if the interest had compounded annually?8)A)$221.30B)$122.20C)$171.30D)$129.20E)$147.80Answer:CExplanation:A)B)C)D)E)9)The greater the number of years, the:9)A)Smaller the future value factor.B)Greater the compounding effect.C)Larger the present value factor.D)Larger the present value of a single sum.E)Smaller the future value of a single sum.Answer:BExplanation:A)B)C)D)E)3
10)Twelve years ago, Jake invested $2,000. Six years ago, Tami invested $4,000. Today,both Jake’s and Tami’s investments are each worth $9,700. Assume that both Jake andTami continue to earn their respective rates of return. Which one of the followingstatements is correct concerning these investments?10)A)Tami has earned an average annual interest rate of 15.91%.B)Jake has earned a higher rate of return than Tami.C)Three years from today, Jake’s investment will be worth more than Tami’s.D)One year ago, Tami’s investment was worth more than Jake’s.E)Jake has earned an average annual interest rate of 15.47%.Answer:AExplanation:A)B)C)D)E)11)Which one of the following interest rates will produce the largest value at the end of tenyears given a lump sum investment of $5,000?11)A)6.0%, compounded semi-annuallyB)5.5%, compounded annuallyC)6.0%, simple interestD)6.0%, compounded annuallyE)5.5%, simple interestAnswer:AExplanation:A)B)C)D)E)12)Frank invests $2,500 in an account that pays 6% simple interest. How much money willhe have at the end of four years?12)A)$3,163B)$2,650C)$3,100D)$10,600E)$3,156Answer:CExplanation:A)B)C)D)E)4
13)All County Insurance, Inc. promises to pay Ted $1 million on his 65thbirthday in returnfor a one-time payment of $75,000 today. (Ted just turned 25) At what rate of interestwould Ted be indifferent between accepting the company’s offer and investing thepremium on his own?13)A)6.1%B)6.7%C)7.2%D)5.5%E)2.4%Answer:BExplanation:A)B)C)D)E)14)When you retire forty years from now, you want to have $1 million. You think you canearn an average of 8.5% on your money. To meet this goal, you are trying to decidewhether to deposit a lump sum today, or to wait and deposit a lump sum five years fromtoday. How much more will you have to deposit as a lump sum if you wait for five yearsbefore making the deposit?14)A)$18,677.78B)$21,036.83C)$19,272.81D)$18,001.06E)$18,998.03Answer:CExplanation:A)B)C)D)E)15)The future value factor will decrease:15)A)The lower the present value factor.B)The higher the future value.C)The higher the present value.D)The longer the period of time.E)The lower the interest rate.Answer:EExplanation:A)B)C)D)E)5
16)One year ago, you invested $2,500. Today it is worth $2,789.50. What rate of interest didyou earn?16)A)9.89%B)11.58%C)10.67%D)8.67%E)11.42%Answer:BExplanation:A)B)C)D)E)17)When you retire thirty years from now, you want to have $750,000. You think you canearn an average of 9% on your money. To meet this goal, you are trying to decidewhether to deposit a lump sum today, or to wait and deposit a lump sum five years fromtoday. How much more will you have to deposit as a lump sum if you wait for five yearsbefore making the deposit?17)A)$30,447.52B)$29,414.14C)$28,788.03D)$38,278.27E)$36,118.09Answer:AExplanation:A)B)C)D)E)18)Theresa wants to save $10,000 so that she can surprise her husband with a vacation sixyears from now. She can earn 7% on her savings. How much more will she have todeposit if she waits one more year before investing versus if she deposits one lump sumtoday?18)A)$466.44B)$471.08C)$471.54D)$470.23E)$469.15Answer:AExplanation:A)B)C)D)E)6
19)Sampson, Inc. invested $1.325 million in a project that earned an 8.25% rate of return.Sampson sold their investment for $3,713,459. How much sooner could Sampson havesold the company if they only wanted $3 million from the project?19)A)3.33 yearsB)2.69 yearsC)5.17 yearsD)6.67 yearsE)10.31 yearsAnswer:BExplanation:A)B)C)D)E)20)The rate used to find the present value of a future payment is called the:20)A)Discount rate.B)Simple rate.C)Future value rate.D)Loan rate.E)Compound rate.Answer:AExplanation:A)B)C)D)E)21)At a 3% rate of interest, you will quadruple your money in approximately ________years.21)A)24B)47C)6D)12E)3Answer:BExplanation:A)B)C)D)E)7
22)You invest $1,000 in an account paying 5% simple interest. You do not add norwithdraw any funds from this account. Every year, your account balance will:22)A)Increase at an increasing rate.B)Remain constant.C)Increase at a decreasing rate.D)Increase at a constant rate.E)Increase by a constant amount.Answer:EExplanation:A)B)C)D)E)23)You wish to have $200,000 at the end of twenty years. In the last five years, youwithdraw $1,000 annually at a rate of 3.8% compounded quarterly. During the middleten years, you contribute $500 monthly at a rate of 2.8% compounded semi-annually.Given this information, determine the initial deposit that has to be made at the start ofthe first five years at a rate of 4% compounded monthly.23)A)$12,056.65B)$10,056.65C)$11,056.65D)$9,056.65E)$13,056.65Answer:DExplanation:A)B)C)D)E)24)Katie is going to receive $1,000 three years from now. Wilt is going to receive $1,000five years from now. Which one of the following statements is correct if both Katie andWilt apply a 5% discount rate to these amounts?24)A)The present value of Katie and Wilt’s money is equal.B)The value of Wilt’s money will be greater than the value of Katie’s money six yearsfrom now.C)In today’s dollars, Wilt’s money is worth more than Katie’s.D)Katie’s money is worth more than Wilt’s money today.E)In five years, the value of Katie’s money will be less than the value of Wilt’s money.Answer:DExplanation:A)B)C)D)E)8
25)Betty invests $500 in an account that pays 3% simple interest. How much money willBetty have at the end of ten years?25)A)$633.33B)$675.00C)$671.96D)$650.00E)$630.00Answer:DExplanation:A)B)C)D)E)26)Sun Lee has $500 today. Which one of the following statements is correct if she investsthis money at a positive rate of interest for five years?26)A)If Sun Lee can earn 7%, she will have to wait about six years to have $1,000 total.B)At 10% interest Sun Lee should expect to have $1,000 in her account at the end ofthe five years.C)The higher the interest rate she earns, the less money she will have in the future.D)The higher the interest rate, the longer she has to wait for her money to grow to$1,000 in value.E)At the end of the five years Sun Lee will have less money if she invests at 5% ratherthan at 7%.Answer:EExplanation:A)B)C)D)E)27)You have $500 in an account which pays 5% compound interest. How much additionalinterest would you earn over four years if you moved the money to an account earning6%?27)A)$21.89B)$29.94C)$24.93D)$23.49E)$25.88Answer:DExplanation:A)B)C)D)E)9
28)When you retire 36 years from now, you want to have $2 million. You think you canearn an average of 11.5% on your investments. To meet your goal, you are trying todecide whether to deposit a lump sum today, or to wait and deposit a lump sum 3 yearsfrom today. How much more will you have to deposit as a lump sum if you wait for 3years before making the deposit?28)A)$17,021.12B)$19,407.78C)$16,208.11D)$15,677.78E)$15,344.14Answer:EExplanation:A)B)C)D)E)29)Interest earned on the reinvestment of previous interest payments is called ________.29)A)Interest on interest.B)Free interest.C)Compound interest.D)Annual interest.E)Simple interest.Answer:AExplanation:A)B)C)D)E)30)The discounted value of money is called the:30)A)Simple value.B)Complex value.C)Future value.D)Present value.E)Compound value.Answer:DExplanation:A)B)C)D)E)10
31)Andy promises Opie that he will give him $5,000 upon his graduation from college atMayberry U. How much must Andy invest today to make good on his promise, if Opie isexpected to graduate in 12 years and Andy can earn 5% on his money?31)A)$3,012.88B)$2,784.19C)$2,135.32D)$8,979.28E)$2,881.11Answer:BExplanation:A)B)C)D)E)32)Koji invested $3,300 at 7.75% interest. After a period of time he withdrew $9,383.31.How long did Koji have his money invested?32)A)13 yearsB)14 yearsC)15 yearsD)16 yearsE)17 yearsAnswer:BExplanation:A)B)C)D)E)33)Jeff invests $3,000 in an account that pays 7% simple interest. How much more could hehave earned over a 20-year period if the interest had compounded annually?33)A)$4,087.18B)$4,409.05C)$3,778.54D)$3,212.12E)$2,840.00Answer:BExplanation:A)B)C)D)E)11
34)You want to have $10,000 saved ten years from now. How much less do you have todeposit today to reach this goal if you can earn 6% rather than 5% on your savings?34)A)$615.48B)$1,046.22C)$928.73D)$555.18E)$609.81Answer:DExplanation:A)B)C)D)E)35)You collect old model trains. One particular model increases in value at a rate of 6.5%per year. Today, the model is worth $1,670. How much additional money can you makeif you wait 4 years to sell the model rather than selling it 2 years from now?35)A)$280.15B)$208.04C)$254.24D)$241.79E)$196.67Answer:CExplanation:A)B)C)D)E)36)Lisa deposited $500 in a savings account this morning. The account pays 2.5% simpleinterest. If Lisa leaves this money in the account for five years, how much total interestwill she earn?36)A)$12.50B)$62.50C)$67.25D)$10.75E)$53.75Answer:BExplanation:A)B)C)D)E)37)At a 6% rate of interest you will double your money in approximately ________ years.37)A)24B)12C)6D)48E)3Answer:BExplanation:A)B)C)D)E)12
38)You deposit $1,000 in a retirement account today at 8.5% interest. How much moremoney will you have if you leave the money invested for 40 years rather than 35 years?38)A)$7,714.91B)$7,846.52C)$7,839.73D)$8,753.37E)$7,799.08Answer:DExplanation:A)B)C)D)E)39)New Metals, Inc. is planning on expanding their operations when the economystrengthens in a few years. At that time they will need to purchase additional equipment.Four years ago, they set aside $300,000 in a special account for this purpose. Today, thataccount is worth $383,048.98. What rate of interest is New Metals earning on thismoney?39)A)6.35%B)5.92%C)6.30%D)6.26%E)5.87%Answer:CExplanation:A)B)C)D)E)40)Neal wants to borrow $2,500 and has received the offers from his local banks. Whichoffer should Neal accept if he wants to repay the loan in one single payment two yearsfrom now?40)A)Bank A, which offers a simple rate of 4%.B)Bank B, which offers a simple rate of 5%.C)Bank C, which offers a rate of 4% compounded annually.D)Bank D, which offers a rate of 5% compounded annually.E)Bank E, which offers a rate of 5% compounded monthly.Answer:AExplanation:A)B)C)D)E)13
41)Compound interest means that you earn:41)A)The same amount of interest each year.B)Interest only on the initial amount invested.C)Interest on the initial principal only.D)A decreasing amount of interest each year.E)Interest on both the principal and prior reinvested interest.Answer:EExplanation:A)B)C)D)E)42)An investor deposited $10,500 in an account. At the end of year four, the account hadaccumulated $5,728.88. Over the first four years, the account earned ________compounded annually.42)A)23.1%B)11.5%C)15.6%D)12.8%E)14.6%Answer:BExplanation:A)B)C)D)E)43)The formula for a present value calculation using Excel is:43)A)PV (rate, nper, pmt, fv).B)PV (nper, pmt, fv).C)PV (rate, nper, pmt).D)PV (rate, pmt, pv, fv).E)PV (rate, nper, pmt, pv).Answer:AExplanation:A)B)C)D)E)14
44)An account was opened with $1,000 three years ago. Today, the account balance is$1,157.63. If the account earns simple interest, how long will it take until the account hasearned a total of $225 in interest?44)A)Less than one more year.B)Between one and two more years.C)Between two and three more years.D)Between three and four more years.E)Between four and five more years.Answer:BExplanation:A)B)C)D)E)45)Robin invested $10,000 in an account that pays 5% simple interest. How much morecould she have earned over a 40-year period if the interest had compounded annually?45)A)$50,399.89B)$48,414.14C)$38,207.16D)$38,414.14E)$40,399.89Answer:EExplanation:A)B)C)D)E)46)You wish to have $400,000 at the end of twenty-five years. In the last ten years, youcontribute $1,000 semi-annually at a rate of 5.8% compounded monthly. During themiddle ten years, you withdraw $750 quarterly at a rate of 4.5% compounded annually.Given this information, determine the initial deposit that has to be made at the start of thefirst five years at a rate of 4% compounded monthly.46)A)$135,150.00B)$125,150.00C)$130,150.00D)$115,150.00E)$120,150.00Answer:CExplanation:A)B)C)D)E)15
47)Alpha, Inc. is saving money to build a new factory. Six years ago they set aside $250,000for this purpose. Today, that account is worth $306,958. What rate of interest is Alphaearning on this money?47)A)3.55%B)3.43%C)3.48%D)3.52%E)3.45%Answer:CExplanation:A)B)C)D)E)48)Last year, you deposited $25,000 into a retirement savings account at a fixed rate of7.5%. Today, you could earn a fixed rate of 8% on a similar type account. However, yourrate is fixed and cannot be adjusted. How much less could you have deposited last year ifyou could have earned a fixed rate of 8% and still have the same amount as you currentlywill when you retire 40 years from today?48)A)$1,666.67 lessB)$3,628.09 lessC)$2,408.28 lessD)$1,218.46 lessE)$4,331.30 lessAnswer:EExplanation:A)B)C)D)E)49)You would like to invest some money today such that your investment will be worth$100,000 fifteen years from now. Your broker gives you two options. First, you caninvest at a guaranteed annual rate of 4%. Or, you can invest in stocks and hopefully earnan average of 7% per year. How much more will you have to invest today if you opt forthe fixed rate rather than the stocks?49)A)$18,623.18B)$19,281.85C)$18,419.02D)$18,145.45E)$18,904.21Answer:BExplanation:A)B)C)D)E)16
50)A deposit of $10,000 increased to $12,500 in 5 years. Determine the annual rate ofinterest used and calculate the balance at the end of year four.50)A)$15,954B)$11,954C)$12,254D)$14,254E)$13,954Answer:BExplanation:A)B)C)D)E)51)Your parents agree to pay half of the purchase price of a new car when you graduatefrom college. You will graduate and buy the car two years from now. You have $6,000to invest today and can earn 10% on invested funds. If your parents match the amount ofmoney you have in two years, what is the maximum you can spend on the new car?51)A)$12,000B)$11,948C)$13,250D)$14,520E)$7,260Answer:DExplanation:A)B)C)D)E)52)The amount an investment is worth after one or more periods of time is the ________.52)A)Principal value.B)Compound interest rate.C)Present value.D)Simple interest rate.E)Future value.Answer:EExplanation:A)B)C)D)E)53)Your older sister deposited $5,000 today at 8% interest for five years. You would like tohave just as much money at the end of the next five years as your sister. However, youcan only earn 6% interest. How much more money must you deposit today than yoursister if you are to have the same amount at the end of five years?53)A)$201.80B)$489.84C)$399.05D)$367.32E)$423.81Answer:BExplanation:A)B)C)D)E)17
54)The present value factor will decrease:54)A)The slower the rate of growth.B)The longer the period of time.C)The lower the interest rate.D)The higher the present value.E)The higher the future value.Answer:BExplanation:A)B)C)D)E)55)Many economists view a 3% annual inflation rate as “acceptable”. Assuming a 3%annual increase in the price of automobiles, how much will a new Suburban cost you fiveyears from now, if today’s price is $48,000?55)A)$55,200B)$54,024C)$48,000D)$55,645E)$41,405Answer:DExplanation:A)B)C)D)E)56)Omar has an investment valued at $12,345 today. He made a one-time investment at6.5% four years ago. Leon has an investment that is also valued at $12,345 today. Leoninvested four years ago at 7.5%. Omar originally invested ________ and Leon invested________.56)A)$9,633.33; $9,304.06B)$9,652.18; $9,389.00C)$9,568.24; $9,199.16D)$9,596.05; $9,243.94E)$9,608.14; $9,267.67Answer:DExplanation:A)B)C)D)E)18
57)As the discount rate increases, the present value of $500 to be received six years fromnow:57)A)Remains constant.B)Becomes negative.C)Decreases.D)Also increases.E)Will vary but the direction of the change is unknown.Answer:CExplanation:A)B)C)D)E)58)Which one of the following statements is correct if you invest $100 in an account at asimple interest rate of 4% for five years?58)A)The amount of interest you earn in year five will equal the interest you earn in yearone, whether or not you reinvest your earnings.B)For every $1 you earn in interest in the first year, you will earn ($1.04) interest inthe second year.C)You will earn more interest than if you invested in an account which compoundedthe interest.D)The total interest you will earn over five years will be equal to $100 x (1 + .04)5.E)You will earn interest on interest for four of the five years.Answer:AExplanation:A)B)C)D)E)59)An account paying annual compound interest was opened with $1,000 ten years ago.Today, the account balance is $1,500. If the same interest rate is offered on an accountpaying simple interest, how much income would be earned each year over the same timeperiod?59)A)$50.00B)$36.97C)$40.75D)$40.41E)$41.38Answer:EExplanation:A)B)C)D)E)19
60)Thirty years ago, your father invested $6,000. Today that investment is worth$67,270.98. What is the average rate of return your father earned on this investment?60)A)8.44%B)10.23%C)11.67%D)10.34%E)8.39%Answer:EExplanation:A)B)C)D)E)61)Calculating the present value of a future cash flow to determine its value today is called:61)A)Present value compounding.B)Discounted cash flow valuation.C)The discount rate.D)Future value compounding.E)Timing the cash flow.Answer:BExplanation:A)B)C)D)E)62)The future value interest factor is calculated as:62)A)(1 + rt)B)(1 + r)tC)(1 + r)(2)D)1 + r – tE)(1 + r)(t)Answer:BExplanation:A)B)C)D)E)63)You own a stamp collection that is currently valued at $24,500. If the value increases by5.5% annually, how much will the collection be worth when you retire 40 years fromnow?63)A)$204,981.16B)$205,155.45C)$208,576.07D)$206,666.67E)$204,113.07Answer:CExplanation:A)B)C)D)E)20
64)Alpo, Inc. invested $500,000 to help fund a company expansion project scheduled foreight years from now. How much additional money will they have eight years from nowif they can earn 9% rather than 7% on this money?64)A)$86,991.91B)$58,829.69C)$118,009.42D)$137,188.23E)$126,745.19Answer:DExplanation:A)B)C)D)E)65)Today Richard is investing $1,000 at 5% interest for five years. One year ago, Richardinvested $1,000 at 6.25% for six years. How much money will Richard have saved intotal five years from now if both investments compound interest annually?65)A)$2,678.81B)$2,543.77C)$2,630.36D)$2,714.99E)$2,641.98Answer:DExplanation:A)B)C)D)E)66)Lakeside Inc. invested $735,000 at an 11.25% rate of return. The company sold theirinvestment for $1,067,425. How much longer would Lakeside have had to wait if theyhad wanted to sell their investment for $1.25 million?66)A).98 yearB)2.31 yearsC)1.98 yearsD)1.48 yearsE)3.50 yearsAnswer:DExplanation:A)B)C)D)E)21
67)How much would you have to invest today at 8% compounded annually to have $25,000available for the purchase of a car four years from now?67)A)$19,147.25B)$21,370.10C)$22,149.57D)$18,375.75E)$18,267.26Answer:DExplanation:A)B)C)D)E)68)As long as the interest rate is greater than zero, the present value of a single sum willalways:68)A)Increase as the number of periods increases.B)Decrease as the period of time decreases.C)Increase as the interest rate increases.D)Be less than the future value.E)Equal the future value if the time period is one year.Answer:DExplanation:A)B)C)D)E)69)What is the present value of $2,800 to be received three years from now if the discountrate is 9.5%?69)A)$2,361.48B)$3,676.21C)$2,734.54D)$2,132.63E)$2,114.48Answer:DExplanation:A)B)C)D)E)22
70)Chia Burgers began operations by opening 115 restaurants in Western Canada at the endof its first year of operations. By the end of year 2, an additional 5 restaurants wereopened. By the end of year 3, there were 130 restaurants operational. At the end of year 5,there were 138 total restaurants.Between the end of year 2 and the end of year 3, the number of eating establishmentsgrew at a rate of ________ compounded annually.70)A)4.2%B)4.7%C)9.3%D)8.3%E)5.6%Answer:DExplanation:A)B)C)D)E)71)You just received $278,000 from an insurance settlement. You have decided to set thismoney aside and invest it for your retirement. Currently, your goal is to retire 38 yearsfrom today. How much more will you have in your account on the day you retire if youcan earn an average return of 9.5% rather than just 9.0%?71)A)$794,014B)$2,033,333C)$1,396,036D)$1,818,342E)$1,611,408Answer:CExplanation:A)B)C)D)E)72)You just won the lottery and want to put some money away for your child’s collegeeducation. College will cost $65,000 in 18 years. You can earn 8% compoundedannually. How much do you need to invest today?72)A)$11,763.07B)$13,690.82C)$16,266.19D)$15,258.17E)$9,828.18Answer:CExplanation:A)B)C)D)E)23
73)Chia Burgers began operations by opening 115 restaurants in Western Canada at the endof its first year of operations. By the end of year 2, an additional 5 restaurants wereopened. By the end of year 3, there were 130 restaurants operational. At the end of year 5,there were 138 total restaurants.If the number of eating establishments is expected to grow in year 6 at the same rate as thepercentage increase in year 5, how many new eating establishments will be added in year6?73)A)5B)6C)7D)8E)9Answer:BExplanation:A)B)C)D)E)74)You are choosing between investments offered by two different banks. One promises areturn of 10% for three years using simple interest while the other offers a return of 10%for three years using compound interest. You should:74)A)Choose the compound interest option because it provides a higher return.B)Choose the simple interest option only if compounding occurs more than once ayear.C)Choose the compound interest option only if the compounding is for monthlyperiods.D)Choose the compound interest option only if you are investing less than $5,000.E)Choose the simple interest option because both have the same basic interest rate.Answer:AExplanation:A)B)C)D)E)75)The term to convert a future value amount into its present value is:75)A)MultiplyB)AnnuitizeC)AmortizeD)CompoundE)DiscountAnswer:EExplanation:A)B)C)D)E)24
76)The term “interest-on-interest” refers to:76)A)Earning interest on an investment for a period greater than one year.B)The process of accumulating interest on an investment over time to earn moreinterest.C)Earning interest only on the principal amount invested.D)The payment of interest more than once per year.E)The interest earned on previous interest earnings which were reinvested.Answer:EExplanation:A)B)C)D)E)77)Six years ago, Marti invested $3,500 in an account. No other investments or withdrawalshave been made. Today the account is worth $7,403.16. What rate of return has Martiearned thus far?77)A)12.86%B)19.20%C)15.96%D)13.30%E)18.58%Answer:DExplanation:A)B)C)D)E)78)Stephen invests $2,500 in an account that pays 6% simple interest. How much moneywill Stephen have at the end of three years?78)A)$3,000B)$2,650C)$2,978D)$2,809E)$2,950Answer:EExplanation:A)B)C)D)E)25
79)Ito invested $4,350. After seven years he had an account value of $6,980.58. Mariainvested $5,920. After six years she had an account value of $8,834.62. Which one of thefollowing statements is correct?79)A)Both Ito and Maria earned the same rate of interest.B)Ito earned a rate of interest that was 0.09% higher than Maria’s rate.C)Maria earned a rate of interest that was 0.9% higher than Ito’s rate.D)Ito earned a rate of interest of 6.90%.E)Maria earned a rate of interest of 5.89%.Answer:BExplanation:A)B)C)D)E)80)Interest earned only on the original principal amount invested is called ________.80)A)Annual interest.B)Interest on interest.C)Free interest.D)Simple interest.E)Compound interest.Answer:DExplanation:A)B)C)D)E)81)You will receive a $100,000 inheritance in 20 years. You can invest that money today at6% compounded annually. What is the present value of your inheritance?81)A)$35,492.34B)$100,000.00C)$27,491.53D)$31,180.47E)$29,767.15Answer:DExplanation:A)B)C)D)E)26
82)In which year did the account earn its highest annually compounded return?82)A)Year 1 at 10%B)Year 2 at 5.45%C)Year 3 at 13.8%D)Year 4 at 17.0%E)Year 5 at 15.6%Answer:DExplanation:A)B)C)D)E)83)You are scheduled to receive $18,000 in five years. When you receive it, you will investit for five more years at 8.6% per year. How much will you have at the end of this time?What would be an equivalent Present Value?83)A)$12,916B)$14,916C)$11,916D)$13,916E)$15,916Answer:CExplanation:A)B)C)D)E)84)The James Co. plans on saving money to buy some new equipment. The company isopening an account today with a deposit of $15,000 and expects to earn 4% interest.After 3 years, the firm wants to add an additional $50,000 to the account. If the accountcontinues to earn 4%, how much money will the James Co. have in their account fiveyears from now?84)A)$70,952.96B)$81,361.18C)$68,249.79D)$72,329.79E)$66,872.96Answer:DExplanation:A)B)C)D)E)27
85)You deposit $500,000 in a higher risk investment. Three years later, you receive$711,900 and withdraw your funds. Given this information, calculate the interest earnedat the end of year 3.85)A)$81,096B)$80,806C)$78,806D)$79,096E)$77,096Answer:DExplanation:A)B)C)D)E)86)Interest earned on both the initial principal and the interest reinvested from prior periodsis called ________.86)A)Compound interest.B)Free interest.C)Interest on interest.D)Annual interest.E)Simple interest.Answer:AExplanation:A)B)C)D)E)87)Six years ago, Home Health Industries (HHI) adopted a plan to expand its services nextyear. At the time the plan was adopted, HHI set aside $125,000 in excess funds to beheld for this purpose. As of today, that money has increased in value to $186,408. Whatrate of interest is the firm earning on these funds?87)A)7.27%B)6.89%C)7.43%D)7.10%E)7.18%Answer:BExplanation:A)B)C)D)E)28
88)When you were 26 years old, you received an inheritance of $1,500 from yourgrandfather. You invested that amount in Nu-Wave stock and have not touched theinvestment since then. Today, this investment is worth $109,533.59. Nu-Wave stock hasearned an average rate of return of 11.3% per year over this time period. How old are youtoday?88)A)age 57B)age 59C)age 62D)age 64E)age 66Answer:EExplanation:A)B)C)D)E)89)One year ago, you invested $5,000. Today, your investment is worth $6,178.40. Whatrate of interest did you earn?89)A)16.45%B)23.57%C)16.23%D)24.09%E)22.18%Answer:BExplanation:A)B)C)D)E)90)You own a classic automobile that is currently valued at $67,900. If the value increasesby 8% annually, how much will the automobile be worth 15 years from now?90)A)$214,740.01B)$215,390.28C)$212,524.67D)$199,801.33E)$218,887.79Answer:BExplanation:A)B)C)D)E)29
91)Today, your grandmother gave you a gift of $25,000 to help pay for your collegeeducation. She told you that this amount was the result of a one-time investment at 8%interest 13 years ago. How much did your grandmother originally invest?91)A)$9,225.00B)$9,419.25C)$9,350.00D)$9,504.55E)$9,192.45Answer:EExplanation:A)B)C)D)E)92)In 1889, Vincent Van Gogh’s painting, “Sunflowers,” sold for $125. One hundred yearslater it sold for $36 million. Had the painting been purchased by your great-grandfatherand passed on to you, what annual return on investment would your family have earnedon the painting?92)A)13.40%B)11.88%C)9.11%D)11.99%E)10.09%Answer:AExplanation:A)B)C)D)E)93)Chia Burgers began operations by opening 115 restaurants in Western Canada at the endof its first year of operations. By the end of year 2, an additional 5 restaurants wereopened. By the end of year 3, there were 130 restaurants operational. At the end of year 5,there were 138 total restaurants.From the end of year 1 to the end of year 5, the number of eating establishments grew at arate of ________ compounded annually.93)A)4.2%B)5.6%C)4.7%D)9.3%E)8.7%Answer:CExplanation:A)B)C)D)E)30
94)The interest rate used to calculate the present value of future cash flows is called the________ rate.94)A)Annual.B)Discount.C)Compound.D)Simple.E)Free.Answer:BExplanation:A)B)C)D)E)95)You hope to buy your dream house six years from now. Today your dream house costs$189,900. You expect housing prices to rise by an average of 4.5% per year over the nextsix years. How much will your dream house cost by the time you are ready to buy it?95)A)$246,396.67B)$246,019.67C)$240,284.08D)$247,299.20E)$246,831.94Answer:DExplanation:A)B)C)D)E)96)You would like to give your daughter $50,000 towards her college education 15 yearsfrom now. How much money must you set aside today for this purpose if you can earn9% on your investments?96)A)$12,250.00B)$12,989.47C)$14,211.11D)$14,008.50E)$13,726.90Answer:EExplanation:A)B)C)D)E)31
97)The value today of future cash flows discounted at the appropriate discount rate is calledthe ________ value.97)A)FutureB)PrincipalC)CompoundD)PresentE)SimpleAnswer:DExplanation:A)B)C)D)E)98)You need $2,000 to buy a new stereo for your car. If you have $800 to invest at 5%compounded annually, how long will you have to wait to buy the stereo?98)A)14.58 yearsB)18.78 yearsC)6.58 yearsD)15.75 yearsE)8.42 yearsAnswer:BExplanation:A)B)C)D)E)99)Today, you earn a salary of $37,800. What will your annual salary be twelve years fromnow if you receive annual raises of 3.6%?99)A)$56,324.17B)$56,907.08C)$57,784.17D)$55,981.03E)$58,213.46Answer:CExplanation:A)B)C)D)E)32
100)You just won the lottery and want to put some money away for your child’s collegeeducation. College will cost $65,000 in 18 years. You can earn 8% compoundedannually. How much do you need to invest today?100)A)$15,258.17B)$9,828.18C)$13,690.82D)$11,763.07E)$16,266.19Answer:EExplanation:A)B)C)D)E)SHORT ANSWER. Write the word or phrase that best completes each statement or answers the question.101)Provide a definition of “simple interest.”101)Answer:Interest earned only on the original principal amount invested.Explanation:102)Present value is used extensively by managers who are reviewing proposedprojects. How does the present value of a cash flow assist management in makingthese business decisions?102)Answer:By converting cash flows into present values, management can compareand contrast various alternative opportunities and determine which courseof action is best for the firm. The present value allows management to viewprojects on an equivalent basis. Also, by knowing the present value of thefuture cash flows of a project, management can determine if those cashinflows are sufficient to offset the required investment in the project. Whilestudents may have various answers, this question starts them thinking aboutfinancial decision-making, which is covered later in the text.Explanation:103)Provide a definition of “present value” (PV).103)Answer:The current value of future cash flows discounted at the appropriatediscount rate.Explanation:104)How long will it take for money to double at a rate of 6% compounded monthly?104)Answer:At the given rate, money will double in 11 years and 7 months.Explanation:33
105)Write a sentence explaining why present values decrease as the discount rateincreases.105)Answer:Student answers will vary. Here is one example. When you can earn moreinterest, you need less of your own money to reach the same future dollaramount.Explanation:106)Explain what compounding is and the relationship between compound interestearned and the number of years over which an investment is compounded.106)Answer:Compounding is earning interest on interest. Compounding is not verysignificant over short time periods, but greatly increases in importance overa longer time period.Explanation:107)State the future value formula and explain the effect that time has on the futurevalue of an investment.107)Answer:FV = PV(1 + r)tTime is the exponential function. Thus, time has a significant bearing on thefuture value of an investment because the future value rises exponentially inresponse to time. The longer the time period, the greater this effect will be.Explanation:108)Provide a definition of “discount.”108)Answer:To calculate the present value of some future amount.Explanation:109)An investor is considering depositing $10,000 and making $400 semi-annualcontributions for the next five years. If one investment provides 5% compoundedmonthly and another investment provides 5.2% compounded semi-annually,determine the difference between the two investments.109)Answer:The investment earning 5% will have a future value of $17,320.33, whilethe investment earning 5.2% will have a future value of $17,428.25, for adifference of $107.92.Explanation:34
110)At an interest rate of 10% and using the Rule of 72, how long will it take todouble the value of a lump sum invested today? How long will it take after thatuntil the account grows to four times the initial investment? Given the power ofcompounding, shouldn’t it take less time for the money to double the secondtime?110)Answer:It will take 7.2 years to double the initial investment, then another 7.2 yearsto double it again. That is, it takes 14.4 years for the value to reach fourtimes the initial investment. Compounding doesn’t affect the amount oftime it takes for an investment to double the second time, but note thatduring the first 7.2 years, the interest earned is equal to 100% of the initialinvestment. During the second 7.2 years, the interest earned is equal to200% of the initial investment. That is the power of compounding.Explanation:111)What is the rate needed (compounded monthly) for $10,000 to mature to $25,000in 15 years?111)Answer:The required rate of return is 6.12% compounded quarterly.Explanation:112)You wish to have $200,000 at the end of twenty years. In the last five years, youwithdraw $1,000 annually at a rate of 3.8% compounded quarterly. During themiddle ten years, you contribute $500 monthly at a rate of 2.8% compoundedsemi-annually. Given this information, determine the initial deposit that has to bemade at the start of the first five years at a rate of 4% compounded monthly.112)Answer:The initial deposit will be $9,056.50.Explanation:113)An investor is considering depositing $20,000 in an account earning 5%compounded quarterly for the next three years. Afterwards, he will take thisamount and contribute $200 quarterly for the next four years at a rate of 4%compounded semi-annually. Finally, over the next two years, he will withdraw$1,000 annually at a rate of 3.5% compounded monthly. Determine the futurevalue at the end of this time period.113)Answer:The future value will be $30,833.94.Explanation:114)Provide a definition of “compounding.”114)Answer:The process of reinvesting interest earned on the investment such that itaccumulates interest.Explanation:35
115)If $10,000 was invested at 4% over ten years, determine the difference if thisinvestment was based on simple interest versus interest that was compoundedannually.115)Answer:Simple interest provides a future value of $14,800, while compoundedannually provides $14,802.44.Explanation:116)Define and explain the relationship between the present value and the discountrate. Graphically illustrate this relationship.116)Answer:The present value is inversely related to the discount rate. If you can earnmore interest, then it takes less of an initial investment to reach apredetermined future value. Students should draw a graph depicting aninverse relationship.Explanation:117)Explain intuitively why it is that present values decrease as the discount rateincreases.117)Answer:Intuitively, a dollar today is worth more than a dollar tomorrow. As apractical matter, the discount rate is an opportunity cost, and the higher therate, the higher the cost.Explanation:118)How long will it take for money to tripe at a rate of 4.5% compounded quarterly?118)Answer:At the given rate, money will triple in 24.55 years.Explanation:119)Why do you think the concept known as the “time value of money” plays such acritical role in finance?119)Answer:Student answers will vary. However, each response should demonstrate (1)an understanding that $1 today is worth more than $1 tomorrow and (2) thatall investment decisions should consider the impact of this concept.Explanation:120)Provide a definition of “future value” (FV).120)Answer:The amount an investment is worth after one or more periods. Alsocompound value.Explanation:121)Provide a definition of “time value of money.”121)Answer:Refers to the fact that a dollar today is worth more than a dollar at a futurepoint in time, given positive rates of interest.Explanation:36
122)What is the difference in future value if $40,000 is invested at 5% over twentyyears, with one option compounding interest annually, while the other is based onmonthly compounding?122)Answer:Annual compounding provides a return of $106,131.91, while monthlycompounding provides a return of $108,505.61 for a difference of$2,373.70.Explanation:123)An investor is considering depositing $10,000 in an account earning 3%compounded monthly for the next two years. Afterwards, he will take thisamount and contribute $500 monthly for the next three years at a rate of 5%compounded annually. Finally, over the next three years, he will withdraw $500annually at a rate of 4.5% compounded semi-annually. Determine the future valueat the end of this time period.123)Answer:The future value will be $34,584.92Explanation:124)The notion that money has “time-value” is based on the existence of a nonzero”opportunity rate”, i.e., a rate of return at which it is possible to invest. Why is theopportunity rate so important?124)Answer:We have found that, while they are able to perform compounding anddiscounting computations successfully, some students never really graspthe “why” of the computation. This question is designed to probe the issueof “why time value procedures work” more deeply. An adequate answerwill indicate that the opportunity rate is the rate of return that equates twodifferent dollar values at two different points in time. That is, a rationalinvestor will be indifferent to $.9091 today and $1.00 in one year.Explanation:125)An investor is considering depositing $20,000 and making monthly contributionsof $250 per month into investment. If the investor wants to have a future value of$50,000, what will be the rate of interest if he wishes to have this amount in 5years? Assume interest is compounded monthly.125)Answer:The rate of interest will have to be 8.92%.Explanation:126)If $20,000 was invested at 5% over five years, determine the difference if thisinvestment was based on simple interest versus interest that was compoundedannually.126)Answer:Simple interest provides a future value of $25,000, while compoundedannually provides $25,525.63.Explanation:37
127)You are considering two lottery payment streams. Choice A pays $1,000 todayand choice B pays $1,750 at the end of five years from now. Using a discount rateof 5%, based on present values, which would you choose? Using the samediscount rate of 5%, based on future values, which would you choose? What doyour results suggest as a general rule for approaching such problems? (Make yourchoices based purely on the time value of money.)127)Answer:PV of A = $1,000; PV of B = $1,371; FV of A = $1,276; FV of B = $1,500.Based on both present values and future values, B is the better choice. Thestudent should recognize that finding present values and finding futurevalues are simply reverse processes of one another, and that choosingbetween two lump sums based on PV will always give the same result aschoosing between the same two lump sums based on FV.Explanation:128)Provide a definition of “discount rate.”128)Answer:The rate used to calculate the present value of future cash flows.Explanation:129)Susie and Tim are twins. Susie invests $5,000 at age 20 and earns 5% compoundinterest. Tim invests $10,000 at age 40 and earns 5% compound interest. Nomatter how long they live, Tim will never have as much money as Susie. Explainwhy.129)Answer:By age 40, Susie’s funds had grown to $13,266.49, which is more than theamount of money Tim is investing at that point in time. The key here istime. Time is the exponential function and therefore has a tremendousimpact on the value of money. Even though Tim invests twice as muchmoney, he will always have less than Susie.Explanation:130)Explain what compounding is and the relationship between compound interestearned and the number of years over which an investment is compounded.130)Answer:Compounding is earning interest on interest. Compounding is notsignificant over short time periods, but increases in importance the longerthe time period considered.Explanation:38
131)Some financial advisors recommend you increase the amount of federal incometaxes withheld from your paycheque each month so that you will get a largerrefund come April. That is, you take home less today but get a bigger lump sumwhen you get your refund. Based on your knowledge of the time value of money,what do you think of this idea? Explain.131)Answer:Some students may slip in a discussion about the benefits of forced savings,etc., but these issues are based on preferences, not the time value of money.Based on the time value of money, the students should recommend theopposite tack, that is, withhold as little as possible and pay the tax bill whenit comes the following year. This is the usual dollar today versus a dollartomorrow argument. Of course, the astute student will note the potential taxcomplications of this strategy, namely the CRA penalty for insufficientwithholding, but the basic argument still applies.Explanation:132)$15,000 is invested into a plan earning 5% compounded quarterly for the first tenyears. What will the rate of interest have to be for the next ten years(compounded monthly) for the value to reach $40,000?132)Answer:The rate of interest will have to be 4.85%.Explanation:133)Provide a definition of “interest on interest.”133)Answer:Interest earned on the reinvestment of previous interest payments.Explanation:134)Provide a graphical illustration of present value over a twenty year time spangiven rates of return of 0%, 5%, 10%, 15% and 20%.134)Answer:Explanation:39
135)Provide a definition of “compound interest.”135)Answer:Interest earned on both the initial principal and the interest reinvested fromprior periods.Explanation:136)You wish to have $400,000 at the end of twenty-five years. In the last ten years,you contribute $1,000 semi-annually at a rate of 5.8% compounded monthly.During the middle ten years, you withdraw $750 quarterly at a rate of 4.5%compounded annually. Given this information, determine the initial deposit thathas to be made at the start of the first five years at a rate of 4% compoundedmonthly.136)Answer:The initial deposit will be $130,150.00.Explanation:137)What is the rate needed (compounded annually) for $95,000 to mature to$250,000 in 25 years?137)Answer:The required rate of return is 3.95% compounded monthly.Explanation:138)What is the difference in future value if $20,000 is invested at 5% over ten years,with one option compounding interest semi-annually, while the other is based onquarterly compounding?138)Answer:Semi-annual compounding provides a return of $32,772.33, while quarterlycompounding provides a return of $32,872.39, for a difference of $100.06.Explanation:40
139)Provide a graphical illustration of future value over a ten year time span givenrates of return of 0%, 5%, 10%, 15% and 20%.139)Answer:Explanation:TRUE/FALSE. Write ‘T’ if the statement is true and ‘F’ if the statement is false.140)Tom and Antonio both want to open savings accounts today. Tom wants to have $1,000in his savings account six years from now. Antonio wants to have $1,000 in his savingsaccount three years from now. Antonio needs to deposit twice the amount of moneytoday as Tom.140)Answer:TrueFalseExplanation:141)The I.C. James Co. invested $10,000 six years ago at 5% simple interest. The I.M. SmartCo. invested $10,000 six years ago at 5% interest which is compounded annually. TheI.M Smart Co. will earn $525 interest in the second year.141)Answer:TrueFalseExplanation:142)The future value of a single sum will increase more rapidly when the frequency ofcompounding increases.142)Answer:TrueFalseExplanation:41
143)Jamie deposits $1,000 into an account that pays 4% interest compounded annually. Chrisdeposits $1,000 into an account that pays 4% simple interest. Both deposits were madetoday. At the end of one year, both Jamie and Chris will have the same amount in theiraccounts.143)Answer:TrueFalseExplanation:144)The future value will increase the higher the rate of interest.144)Answer:TrueFalseExplanation:145)Discount rate is the interest rate used to calculate the present value of future cash flows.145)Answer:TrueFalseExplanation:146)The I.C. James Co. invested $10,000 six years ago at 5% simple interest. The I.M. SmartCo. invested $10,000 six years ago at 5% interest which is compounded annually. TheI.C. James Co. will have an account value of $13,400.96 six years from now.146)Answer:TrueFalseExplanation:147)Jamie deposits $1,000 into an account that pays 4% interest compounded annually. Chrisdeposits $1,000 into an account that pays 4% simple interest. Both deposits were madetoday. All else equal, Jamie made the better investment.147)Answer:TrueFalseExplanation:148)The present value will increase the higher the rate of interest.148)Answer:TrueFalseExplanation:149)Present value is the value today of future cash flows discounted at the appropriatediscount rate.149)Answer:TrueFalseExplanation:150)The future value of a single sum will increase more rapidly when the frequency ofcompounding decreases.150)Answer:TrueFalseExplanation:151)The present value will increase the lower the rate of interest.151)Answer:TrueFalseExplanation:42
152)Future value can be lower than present value.152)Answer:TrueFalseExplanation:153)Present values are always smaller than future values when both r and t are positive.153)Answer:TrueFalseExplanation:154)The future value of a single sum will increase more rapidly when the interest ratedecreases.154)Answer:TrueFalseExplanation:155)If the rate at which you can invest is 0%, the value today of $1 to be received in thefuture is less than $1.155)Answer:TrueFalseExplanation:156)Present values increase as the discount rate increases.156)Answer:TrueFalseExplanation:157)The larger the present value factor, the larger the present value.157)Answer:TrueFalseExplanation:158)The I.C. James Co. invested $10,000 six years ago at 5% simple interest. The I.M. SmartCo. invested $10,000 six years ago at 5% interest which is compounded annually. Boththe I.C. James Co. and the I.M. Smart Co. will earn $500 interest in the first year.158)Answer:TrueFalseExplanation:159)The future value will increase the longer the period of time.159)Answer:TrueFalseExplanation:160)Present values increase the further away in time the future value.160)Answer:TrueFalseExplanation:161)Tom and Antonio both want to open savings accounts today. Tom wants to have $1,000in his savings account six years from now. Antonio wants to have $1,000 in his savingsaccount three years from now. Tom needs to deposit more money into his account todaythan does Antonio.161)Answer:TrueFalseExplanation:43
162)The larger the future value, the larger the present value.162)Answer:TrueFalseExplanation:163)The future value will increase the shorter the period of time.163)Answer:TrueFalseExplanation:164)Future value is always higher than present value.164)Answer:TrueFalseExplanation:165)Jamie deposits $1,000 into an account that pays 4% interest compounded annually. Chrisdeposits $1,000 into an account that pays 4% simple interest. Both deposits were madetoday. Chris will never earn any interest on interest.165)Answer:TrueFalseExplanation:166)As the discount rate increases, the future value of $500 to be received four years fromnow will decrease.166)Answer:TrueFalseExplanation:167)Discounting is the process of finding the present value of some future amount.167)Answer:TrueFalseExplanation:168)Jamie deposits $1,000 into an account that pays 4% interest compounded annually. Chrisdeposits $1,000 into an account that pays 4% simple interest. Both deposits were madetoday. At the end of five years, Chris will have more money in his account than Jamiehas in hers.168)Answer:TrueFalseExplanation:169)Tom and Antonio both want to open savings accounts today. Tom wants to have $1,000in his savings account six years from now. Antonio wants to have $1,000 in his savingsaccount three years from now. Antonio needs to deposit more money into his accounttoday than does Tom.169)Answer:TrueFalseExplanation:170)Compounding is the process of finding the present value of some future amount.170)Answer:TrueFalseExplanation:44
171)The longer the time period, the higher the present value.171)Answer:TrueFalseExplanation:172)Interest earned on the reinvestment of previous interest payments is called simpleinterest.172)Answer:TrueFalseExplanation:173)The higher the discount rate, the higher the present value.173)Answer:TrueFalseExplanation:174)The future value will increase the lower the rate of interest.174)Answer:TrueFalseExplanation:175)The future value will increase the longer the period of time.175)Answer:TrueFalseExplanation:176)The future value of a single sum will increase more rapidly when the interest rateincreases.176)Answer:TrueFalseExplanation:177)Tom and Antonio both want to open savings accounts today. Tom wants to have $1,000in his savings account six years from now. Antonio wants to have $1,000 in his savingsaccount three years from now. Tom will need to deposit twice the amount of moneytoday as Antonio.177)Answer:TrueFalseExplanation:45
Answer KeyTestname: C51)C2)C3)A4)A5)D6)C7)E8)C9)B10)A11)A12)C13)B14)C15)E16)B17)A18)A19)B20)A21)B22)E23)D24)D25)D26)E27)D28)E29)A30)D31)B32)B33)B34)D35)C36)B37)B38)D39)C40)A41)E42)B43)A44)B45)E46)C47)C48)E49)B50)B46
Answer KeyTestname: C551)D52)E53)B54)B55)D56)D57)C58)A59)E60)E61)B62)B63)C64)D65)D66)D67)D68)D69)D70)D71)C72)C73)B74)A75)E76)E77)D78)E79)B80)D81)D82)D83)C84)D85)D86)A87)B88)E89)B90)B91)E92)A93)C94)B95)D96)E97)D98)B99)C100)E47
Answer KeyTestname: C5101)Interest earned only on the original principal amount invested.102)By converting cash flows into present values, management can compare and contrast various alternativeopportunities and determine which course of action is best for the firm. The present value allowsmanagement to view projects on an equivalent basis. Also, by knowing the present value of the future cashflows of a project, management can determine if those cash inflows are sufficient to offset the requiredinvestment in the project. While students may have various answers, this question starts them thinkingabout financial decision-making, which is covered later in the text.103)The current value of future cash flows discounted at the appropriate discount rate.104)At the given rate, money will double in 11 years and 7 months.105)Student answers will vary. Here is one example. When you can earn more interest, you need less of yourown money to reach the same future dollar amount.106)Compounding is earning interest on interest. Compounding is not very significant over short time periods,but greatly increases in importance over a longer time period.107)FV = PV(1 + r)tTime is the exponential function. Thus, time has a significant bearing on the future value of an investmentbecause the future value rises exponentially in response to time. The longer the time period, the greater thiseffect will be.108)To calculate the present value of some future amount.109)The investment earning 5% will have a future value of $17,320.33, while the investment earning 5.2% willhave a future value of $17,428.25, for a difference of $107.92.110)It will take 7.2 years to double the initial investment, then another 7.2 years to double it again. That is, ittakes 14.4 years for the value to reach four times the initial investment. Compounding doesn’t affect theamount of time it takes for an investment to double the second time, but note that during the first 7.2 years,the interest earned is equal to 100% of the initial investment. During the second 7.2 years, the interestearned is equal to 200% of the initial investment. That is the power of compounding.111)The required rate of return is 6.12% compounded quarterly.112)The initial deposit will be $9,056.50.113)The future value will be $30,833.94.114)The process of reinvesting interest earned on the investment such that it accumulates interest.115)Simple interest provides a future value of $14,800, while compounded annually provides $14,802.44.116)The present value is inversely related to the discount rate. If you can earn more interest, then it takes lessof an initial investment to reach a predetermined future value. Students should draw a graph depicting aninverse relationship.117)Intuitively, a dollar today is worth more than a dollar tomorrow. As a practical matter, the discount rate isan opportunity cost, and the higher the rate, the higher the cost.118)At the given rate, money will triple in 24.55 years.119)Student answers will vary. However, each response should demonstrate (1) an understanding that $1 todayis worth more than $1 tomorrow and (2) that all investment decisions should consider the impact of thisconcept.120)The amount an investment is worth after one or more periods. Also compound value.121)Refers to the fact that a dollar today is worth more than a dollar at a future point in time, given positiverates of interest.48
Answer KeyTestname: C5122)Annual compounding provides a return of $106,131.91, while monthly compounding provides a return of$108,505.61 for a difference of $2,373.70.123)The future value will be $34,584.92124)We have found that, while they are able to perform compounding and discounting computationssuccessfully, some students never really grasp the “why” of the computation. This question is designed toprobe the issue of “why time value procedures work” more deeply. An adequate answer will indicate thatthe opportunity rate is the rate of return that equates two different dollar values at two different points intime. That is, a rational investor will be indifferent to $.9091 today and $1.00 in one year.125)The rate of interest will have to be 8.92%.126)Simple interest provides a future value of $25,000, while compounded annually provides $25,525.63.127)PV of A = $1,000; PV of B = $1,371; FV of A = $1,276; FV of B = $1,500. Based on both present valuesand future values, B is the better choice. The student should recognize that finding present values andfinding future values are simply reverse processes of one another, and that choosing between two lumpsums based on PV will always give the same result as choosing between the same two lump sums basedon FV.128)The rate used to calculate the present value of future cash flows.129)By age 40, Susie’s funds had grown to $13,266.49, which is more than the amount of money Tim isinvesting at that point in time. The key here is time. Time is the exponential function and therefore has atremendous impact on the value of money. Even though Tim invests twice as much money, he will alwayshave less than Susie.130)Compounding is earning interest on interest. Compounding is not significant over short time periods, butincreases in importance the longer the time period considered.131)Some students may slip in a discussion about the benefits of forced savings, etc., but these issues are basedon preferences, not the time value of money. Based on the time value of money, the students shouldrecommend the opposite tack, that is, withhold as little as possible and pay the tax bill when it comes thefollowing year. This is the usual dollar today versus a dollar tomorrow argument. Of course, the astutestudent will note the potential tax complications of this strategy, namely the CRA penalty for insufficientwithholding, but the basic argument still applies.132)The rate of interest will have to be 4.85%.133)Interest earned on the reinvestment of previous interest payments.49
Answer KeyTestname: C5134)135)Interest earned on both the initial principal and the interest reinvested from prior periods.136)The initial deposit will be $130,150.00.137)The required rate of return is 3.95% compounded monthly.138)Semi-annual compounding provides a return of $32,772.33, while quarterly compounding provides areturn of $32,872.39, for a difference of $100.06.139)140)FALSE141)TRUE142)TRUE143)TRUE50
Answer KeyTestname: C5144)TRUE145)TRUE146)FALSE147)TRUE148)FALSE149)TRUE150)FALSE151)TRUE152)TRUE153)TRUE154)FALSE155)FALSE156)FALSE157)TRUE158)TRUE159)TRUE160)FALSE161)FALSE162)FALSE163)FALSE164)FALSE165)TRUE166)FALSE167)TRUE168)FALSE169)TRUE170)FALSE171)FALSE172)FALSE173)TRUE174)FALSE175)TRUE176)TRUE177)FALSE51