lecture 14 - Business Finance Lecture 14 Review of the...

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79 Business Finance Lecture 14 Review of the Previous Lecture z Present Value Concept One period Valuation Multi-period Valuation Topics under Discussion z Present Value Concept Evaluating Investment Determining the Discount Rate Finding the Number of Periods z Discounted Cash Flow Valuation Multiple Cash Flow z Future Value z Present Value Annuities Evaluating Investments z A company is considering the purchase of an asset for $335, which may be sold for $400 in three years. If the discounting factor is 10%, is this a good investment? z Since the company can invest $335 elsewhere at 10%, in three years, it would grow to: $335 x (1 + r) t = $335 x 1.1 3 = $335 x 1.331 = $445.89 z Since the proposed purchase of asset pays out only $400, it is not as good as other investment alternatives Evaluating Investments z Another way of looking at it is to calculate the present value of $400 in three years at 10%: $400 x [1/(1+r) t ] = $400 / 1.1 3 = $400 / 1.331 = $300.53 z This tells us that we only have to invest about $300 to get $400 in three years, not $335 What Rate Is Enough? z Assume the total cost of a college education will be $50,000 when a child enters college in 12 years. The Parents have $5,000 to invest today. z What rate of interest must you earn on your investment to cover the cost of your child’s education?
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80 t r C FV ) 1 ( 0 + × = 12 ) 1 ( 000 , 5 $ 000 , 50 $ r + × = 10 000 , 5 $ 000 , 50 $ ) 1 ( 12 = = + r 12 1 10 ) 1 ( = + r 2115 . 1 2115 . 1 1 10 12 1 = = = r . About 21.15% Benjamin Franklin: A Case Study z Benjamin Franklin died on April 17, 1790. In his will, he gave 1,000 pounds sterling to Massachusetts and the city of Boston. He gave a like amount to Pennsylvania and the city of Philadelphia. z The money was paid to Franklin when he held political office, but he believed that politicians should not be paid for their service(!). z Franklin originally specified that the money should be paid out 100 years after his death and used to train young people. z Later, however, after some legal wrangling, it was agreed that the money would be paid out 200 years after Franklin’s death in 1990. z
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This note was uploaded on 08/04/2011 for the course ACCT 501 taught by Professor Na during the Spring '11 term at Virtual University of Pakistan.

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lecture 14 - Business Finance Lecture 14 Review of the...

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