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FM Assgt 1

Financial Management Assignment 1

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Minh Nguyễn Mai Bảo
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17 views2 pages

FM Assgt 1

Financial Management Assignment 1

Uploaded by

Minh Nguyễn Mai Bảo
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
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National Tsing Hua University

Financial Management
Instructor: Tak-Yuen Wong
Assignment 1.

Problem 1. Suppose you invest $800 in an account paying 2% interest per year.
(a) What is the balance in the account after three years? How much of this balance corre-
sponds to “interest on interest”?
(b) What is the balance in the account after 25 years? How much of this balance corresponds
to interest on interest?

Problem 2. New Savings Bank pays 4% interest on deposits. If you deposit $1,000 in the
bank and leave it there, will it take more or less than 25 years for your investment to double?
You should be able to answer this without a calculator

Problem 3. Your grandfather put some money in an account for you on the day you were
born. You are now 18 years old and are allowed to withdraw the money for the first time.
The account currently has $4200 in it and pays a 12% interest rate.
(a) How much money would be in the account if you left the money there until your 25th
birthday?
(b) What if you left the money in the account until your 65th birthday?
(c) How much money did your grandfather originally put in the account?

Problem 4. Suppose you receive $100 at the end of each year for the next three years.
(a) If the interest rate is 7%, what is the present value of these cash flows?
(b) What is the future value in three years of the present value you computed in (a)?
(c) Suppose you deposit the cash flows in a bank account that pays 7% interest per year.
What is the balance in the account at the end of each of the next three years (after your
deposit is made)? How does the final bank balance compare with your answer in (b)?

Problem 5. Halcyon Lines is considering the purchase of a new bulk carrier for $8 million.
The forecasted revenues are $5 million a year and operating costs are $4 million. A major
refit costing $2 million will be required after both the fifth and tenth years. After 15 years,
the ship is expected to be sold for scrap at $1.5 million.
(a) What is the NPV if the opportunity cost of capital is 8%?
(b) Halcyon could finance the ship by borrowing the entire investment at an interest rate of
4.5%. How does this borrowing opportunity affect your calculation of NPV?

Problem 6. The British government has a consol bond outstanding paying £200 per year
forever. Assume the current interest rate is 12% per year.
(a) What is the value of the bond immediately after a payment is made?
(b) What is the value of the bond immediately before a payment is made?
1
2

Problem 7. You are 23 years old and decide to start saving for your retirement. You plan
to save $5500 at the end of each year (so the first deposit will be one year from now), and
will make the last deposit when you retire at age 65. Suppose you earn 10% per year on
your retirement savings.
(a) How much will you have saved for retirement?
(b) How much will you have saved if you wait until age 39 to start saving (again, with your
first deposit at the end of the year)?

Problem 8. A growing annuity is a stream of cash flows that pays at regular intervals and
growing at a constant rate g > 0, up to some final date. In particular, it pays C(1 + g)n−1
at the end of nth year until, where C > 0 is a constant. Cash flows are paid until the end of
the N th year.
(a) Show that the present value of a growing annuity is
( ( )N )
C 1+g
PV = 1− ,
r−g 1+r
where r is a discount rate.
(b) Does the above formula hold if r ≤ g?

Problem 9. Suppose you deposit $1 in a bank account for a year. Calculate the account
balance by the end of the year for each of the following scenarios. Assume any interest you
earned is re-deposited.
(a) Interest is paid every year and the annual interest rate is 12%.
(b) Interest is paid every six months and the semiannual interest rate is 12/2 = 6%.
(c) Interest is paid every three months and the quarterly interest rate is 12/4 = 3%.
(d) Interest is paid per month and the monthly interest rate is 12/12 = 1%.
Which case gives the highest balance?
- End -

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