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Exam 5: Introduction to Valuation: The Time Value of Money

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Question 31

Multiple Choice

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Which one of the following variables is the exponent in the present value formula?

A) present value
B) future value
C) interest rate
D) time
E) There is no exponent in the present value formula.

F) A) and B)
G) B) and C)

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Question 32

Multiple Choice

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Sara invested $500 six years ago at 5 percent interest. She spends her earnings as soon as she earns any interest so she only receives interest on her initial $500 investment. Which type of interest is Sara earning?

A) free interest
B) complex interest
C) simple interest
D) interest on interest
E) compound interest

F) A) and E)
G) C) and D)

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Question 33

Multiple Choice

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What is the relationship between present value and future value interest factors?

Which one of the following will produce the highest present value interest factor?

Sixteen years ago, Alicia invested $1,000. Eight years ago, Travis invested $2,000. Today, both Alicia's and Travis' investments are each worth $2,400. Assume that both Alicia and Travis continue to earn their respective rates of return. Which one of the following statements is correct concerning these investments?

Imprudential, Inc. has an unfunded pension liability of $850 million that must be paid in 25 years. To assess the value of the firm's stock, financial analysts want to discount this liability back to the present. The relevant discount rate is 6.5 percent. What is the present value of this liability?

Tracy invested $1,000 five years ago and earns 4 percent interest on her investment. By leaving her interest earnings in her account, she increases the amount of interest she earns each year. The way she is handling her interest income is referred to as which one of the following?

Gerold invested $6,200 in an account that pays 5 percent simple interest. How much money will he have at the end of ten years?

Theo needs $40,000 as a down payment for a house 6 years from now. He earns 3.5 percent on his savings. Theo can either deposit one lump sum today for this purpose or he can wait a year and deposit a lump sum. How much additional money must he deposit if he waits for one year rather than making the deposit today?

You are considering two lottery payment options: Option A pays $10,000 today and Option B pays $20,000 at the end of ten years. Assume you can earn 6 percent on your savings. Which option will you choose if you base your decision on present values? Which option will you choose if you base your decision on future values? Explain why your answers are either the same or different.

You just received $225,000 from an insurance settlement. You have decided to set this money aside and invest it for your retirement. Currently, your goal is to retire 25 years from today. How much more will you have in your account on the day you retire if you can earn an average return of 10.5 percent rather than just 8 percent?

What lesson does the future value formula provide for young workers who are looking ahead to retiring some day?

Today, you earn a salary of $36,000. What will be your annual salary twelve years from now if you earn annual raises of 3.6 percent?

Samantha opened a savings account this morning. Her money will earn 5 percent interest, compounded annually. After five years, her savings account will be worth $5,600. Assume she will not make any withdrawals. Given this, which one of the following statements is true?

You expect to receive $9,000 at graduation in 2 years. You plan on investing this money at 10 percent until you have $60,000. How many years will it be until this occurs?

You would like to give your daughter $75,000 towards her college education 17 years from now. How much money must you set aside today for this purpose if you can earn 8 percent on your investments?

Penn Station is saving money to build a new loading platform. Two years ago, they set aside $24,000 for this purpose. Today, that account is worth $28,399. What rate of interest is Penn Station earning on this investment?

Fourteen years ago, your parents set aside $7,500 to help fund your college education. Today, that fund is valued at $26,180. What rate of interest is being earned on this account?

Your grandmother has promised to give you $5,000 when you graduate from college. She is expecting you to graduate two years from now. What happens to the present value of this gift if you delay your graduation by one year and graduate three years from now?

Assume the average vehicle selling price in the United States last year was $41,996. The average price 9 years earlier was $29,000. What was the annual increase in the selling price over this time period?