Practice Midterm - Answers.pdf - Practice Midterm 1(a(b Find the nominal rate of interest given a real rate of interest of 5 and an inflation rate of 7

# Practice Midterm - Answers.pdf - Practice Midterm 1(a(b...

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Practice Midterm 1.(a) Find the nominal rate of interest given a real rate of interest of 5% and an inflation rate of 7%? ANS: 12.35% (b) A project costing \$1 million has an NPV of \$250,000. Compute its PI. ANS: 1.25 (c) Give 1 advantage and 1 disadvantage to using the Payback Period Method for selecting capital projects. ANS: advantages: easy to communicate; easy to understand; biased in favour of liquid projects; disadvantages: may accept a negative NPV project; ignores CF after cut-off date; arbitrary cut-off date. (d) A company has assets of \$500 million, and equity of \$200 million. Suppose its return on equity is 10% and the YTM of its debt is 5%. If the company pays tax at a rate of 25%, compute its WACC. ANS: 6.25% 2. A company needs to purchase a delivery truck. The company has 2 options: Truck 1 costs \$50,000 and it will have a salvage value after 5 years of \$10,000. Truck 2 costs \$75,000 and it will have a salvage value of \$20,000 after 7 years. Which truck should the company purchase? You may make the following assumptions: Assume these are the only cash flows associated with the purchase of these trucks.

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