What is an opportunity rate? How is this rate used in discounted cash flow analysis, and where is it shown on a time line?

QUESTIONS:
(4-2) What is an opportunity rate? How is this rate used in discounted cash flow analysis, and where is it shown on a time line? Is the opportunity rate a single number that is used to evaluate all potential investments?

(4-4) If a firm’s earnings per share grew from $1 to $2 over a 10-year period, the total growth would be 100%, but the annual growth rate would be less than 10%. True or false? Explain.

(4-5) Would you rather have a saving account that pays 5% interest compounded semiannually or one that pays 5% interest compounded daily? Explain.

PROBLEMS

(4-3) Your parents will retire in 18 years. They currently have $250,000, and they think they will need $1,000,000 at retirement. What annual interest rate must they earn to reach their goal, assuming they don’t save any additional funds?

(4-7) An investment will pay $100 at the end of each of the next 3 years, $200 at the end of Year 4, $300 at the end of Year 5, and $500 at the end of Year 6.



a. If other investments of equal risk earn 8% annually, what is its present value?

b. Its future value?

(4-10) Use both the TVM equations and a financial calculator to find the following values.

a. An initial $500 compounded for 10 years at 6%

b. An initial $500 compounded for 10 years at 12%

c. The present value of $500 due in 10 years at a 6% discount rate

d. The present value of $500 due in 10 years at a 12% discount rate

(4-29) Assume that your aunt sold her house on December 31 and that she took a mortgage in the amount of $10,000 as part of the payment. The mortgage has a quoted (or nominal) interest rate of 10 percent, but it calls for payments every 6 months, beginning on June 30, and the mortgage is to be amortized over 10 years. Now, 1 year later, your aunt must inform the IRS and the person who bought the house of the interest that was included in the two payments made during the year. (This interest will be income to your aunt and a deduction to the buyer of the house.) To the closest dollar, what is the total amount of interest that was paid during the first year?

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