ActSc 371: Assignment #2
Posted: October 7, 2005
Due: In class, October 14, 2005 (no electronic submission)
Late Assignments Will Not Be Accepted
Question 1
Recall Example 2 discussed in class on September 28. We were considering
purchasing a machine which costs $1000 today. We will be able to rent this
machine out for $75 per year (first rental payment received one year from
now) for the next 20 years, and we can borrow and lend at 4%. We found
that the net present value of this investment is $19.27 and interpreted this
number as “free money,” claiming that we could devise a scheme through
which we will receive $19.27 today and have no future obligations (to be
more precise, future outflows will be covered by future inflows). The scheme
is as follows:
•
Borrow the present value of the rental payments today from Bank A,
and use the proceeds to purchase the machine. Bank A will require an
annual interest payment (to be paid at the end of every year for the
next twenty years) of 4% of the principal (amount borrowed), and the
principal must be repaid twenty years from today.
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 Fall '08
 Wood
 Time Value Of Money, Net Present Value, Dividend, Special dividend

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