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Chap002

Chap002 - Chapter 02 Present Values the Objectives of the...

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2-1 CHAPTER 2 Present Values, the Objectives of the Firm, and Corporate Governance Answers to Practice Questions 9. The face value of the treasury security is \$1,000. If this security earns 5%, then in one year we will receive \$1,050. Thus: NPV = C 0 + [C 1 /(1 + r)] = \$1000 + (\$1050/1.05) = 0 This is not a surprising result because 5% is the opportunity cost of capital, i.e., 5% is the return available in the capital market. If any investment earns a rate of return equal to the opportunity cost of capital, the NPV of that investment is zero. 10. NPV = \$1,300,000 + (\$1,500,000/1.10) = +\$63,636 Since the NPV is positive, you would construct the motel. Alternatively, we can compute r as follows: r = (\$1,500,000/\$1,300,000) – 1 = 0.1538 = 15.38% Since the rate of return is greater than the cost of capital, you would construct the motel. 11. Investment NPV Return (1) \$5,000 1.20 18,000 10,000 80.0% 0.80 10,000 10,000 18,000 (2) \$2,500 1.20 9,000 5,000 80.0% 0.80 5,000 5,000 9,000 (3) \$250 1.20 5,700 5,000 14.0% 0.14 5,000 5,000 5,700 (4) \$1,333.33 1.20 4,000 2,000 100.0% 1.00 2,000 2,000 4,000 a. Investment 1, because it has the highest NPV. b.

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Chap002 - Chapter 02 Present Values the Objectives of the...

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