FIN 311-01/10

Spring 2015

D Swanton

Roosevelt University

Principles of Finance

SAMPLE SECOND QUIZ

*Numerical answers *

Do all the problems. Include calculations and/or explanations in your answers wherever appropriate. More credit will be given for correct reasoning than for correct arithmetic.

1. I buy a zero-coupon bond with a face value of $10,000 and a maturity of 20 years.

(a) If I want to make 8% on my money, how much should I pay for the bond? *$2,145.48*

(b) If I pay $6,139.13 for the bond and hold it until it matures, what rate of return will I have made? *2.47%*

- I am planning on investing for retirement. I estimate that I will need $100,000 per year for twenty years. I expect to earn 6%while accumulating and 4% in retirement. . I am now 25 expecting to retire at 67 and have nothing in the plan yet, and from this year I will be contributing equal annual amount.

(a) How big must those contributions be? *$7,724*

(b) I started on that plan ten years ago and am now 35 and have $80,000 in the plan. If I continue to make the contributions from part (a), what retirement income can I expect? *$89,645*

- A twenty-year, 5% coupon, $1,000 bond is for sale. It makes annual (once per year) interest payments.

(a) What cash flow can I expect if I buy the bond?

* $50, $50, … , $50+$1,000*

(b) If its yield to maturity is 7%, what is its price?* $788.12*

(c) If its price is $1,080.20, what is its yield to maturity? *4.39% *

(d) If the bond in **part (b)** is stripped and the coupon payments sold to one investor while the face value payment is sold to another, what does each pay? *$258.42 and $529.70*

4. A perpetuity has an original face value of $1,000.00 and original yield of 6%.

(a) What is the promised, annual, coupon payment? *$60*

(b) If it is priced to yield 5%, what is that price? *$1,200.00*

(c) If its price is $1,200.00, what is its yield?* 5.00%*

5. Consider Project *A* with cash flows:

*. A*: -$10,000, $3,200, $3,200, $3,200, $3,200

and cost of capital *k* = 6%.

(a) What are its NPV and IRR? Is it acceptable?

(b) Sketch its NPV profile.

6. Now consider Project *B* with cash flows:

. *B*: -$3,000, $2,000, $4,000, $6,000, -$10,000

and cost of capital *k* = 7%. The spread sheet says that the NPV is -$368 and the IRR is 15%.

(a) Is it acceptable?

(b) The NPV and IRR tests seem to disagree. Explain.

(c) A little computation shows that at *k* = 44% the NPV is 0. Sketch the NPV profile and explain.