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03 time value of money part 2 test bank problems solutions(2)

# 03 time value of money part 2 test bank problems solutions(2)

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FNAN 301 Solutions to test bank problems – time value of money part 2 Some answers may be slightly different than provided solutions due to rounding 1. Quality Real Estate owns a skyscraper that is expected to produce cash flows of \$10 million in 1 year, \$15 million in 2 years, and \$220 million in 3 years, when it is expected to be sold. The cost of capital for the building is 15.0%. What is the value of the skyscraper? The value of the skyscraper is equal to the sum of the present values of its expected cash flows Time 0 1 2 3 Cash flow \$0 \$10 million \$15 million \$220 million Present value ? PV 0 = C 0 + [C 1 / (1+r) 1 ] + [C 2 / (1+r) 2 ] + [C 3 / (1+r) 3 ] C 0 = 0 C 1 = 10,000,000 C 2 = 15,000,000 C 3 = 220,000,000 r = .150 PV 0 = 0 + [10,000,000 / (1.150) 1 ] + [15,000,000 / (1.150) 2 ] + [220,000,000 / (1.150) 3 ] = 0 + 8,695,652.17 + 11,342,155.01 + 144,653,571.14 = 164,691,378.32 The skyscraper is worth \$164.7 million 1

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FNAN 301 Solutions to test bank problems – time value of money part 2 2. You just bought a new car today. What is the present value of your cash flows if the discount rate is 12.3 percent, you will receive a rebate of \$2,000 from the dealer in 2 years, and you will pay \$40,000 to the dealer in 4 years? Note: the correct answer is less than zero. (http://www.youtube.com/watch?v=fS4_fkwv584 file:auto sale with rebate.wmv) (Fall 2009, quiz 1, question 6) (Fall 2009, final, question 2) (Spring 2010, quiz 1, question 2) (Spring 2010, final, question 1) PV = C 0 + [C 1 /(1+r) 1 ] + [C 2 /(1+r) 2 ] + [C 3 /(1+r) 3 ] + [C 4 /(1+r) 4 ] C 0 = 0 C 1 = 0 C 2 = 2,000 C 3 = 0 C 4 = -40,000 r = .123 PV = 0 +[0/(1.123)] + [2,000/(1.123) 2 ] + [0/(1.123) 3 ] + [-40,000/(1.123) 4 ] = 0 + 0 + 1,585.88 + 0 + (-25,150.17) = -\$23,564.29 Solution – financial calculator Year 0 CF: present value = 0 Year 1 CF: present value = 0 Year 2 CF: N = 2; FV = 2,000; I% = 12.3; PMT = 0; solve for PV = -1,585.88 so the present value of the cash flow = \$1,585.88 Year 3 CF: present value = 0 Year 4 CF: N = 4; FV = -40000; I% = 12.3; PMT = 0; solve for PV = 25,150.17 so the present value of the cash flow = -25,150.17 Total present value of the cash flows = 0 + 0 + 1,585.88 + 0 + (-25,150.17) = -\$23,564.29 Note that answers may differ slightly due to rounding 2
FNAN 301 Solutions to test bank problems – time value of money part 2 3. Arielle bought a new jet ski today from Wally’s Watersports Emporium. She will pay \$200 today to Wally’s, she will receive a rebate of \$200 from Wally’s in 1 year from today, and she will pay \$1,700 to Wally’s in 3 years from today. If the discount rate is 9.5 percent, then what is the present value of the cash flows associated with this transaction? Note: the correct answer is less than zero. (Fall 2010, quiz 1, question 8) Time 0 1 2 3 Cash flows -200 200 0 -1,700 Present value ? PV = C 0 + [C 1 /(1+r) 1 ] + [C 2 /(1+r) 2 ] + [C 3 /(1+r) 3 ] C 0 = -200 C 1 = 200 C 2 = 0 C 3 = -1,700 r = .095 PV = -200 + [200/(1.095)] + [0/(1.095) 2 ] + [-1,700/(1.095) 3 ] = -200 + 182.65 + 0 + (-1,294.82) = -\$1,312.16 Answers may differ slightly due to rounding 3

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FNAN 301 Solutions to test bank problems – time value of money part 2
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03 time value of money part 2 test bank problems solutions(2)

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