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# Assignment: Time Value of Money

## Due by Oct 28, 2014 3pm in the TA room faculty block I

Please hand it over to Arun
1. You have recently won the super Jackpot in the Illinois state lottery, with a payoff of
\$4,960,000.On reading the fine print, you discover that you have the following two options:
a. You receive \$160,000 at the beginning of each year for 31 years. The income would be
taxed at an average rate of 28%. Taxes are withheld when the checks are issued.
The \$1,750,000 would be taxed at an average rate of 28%. You are able to take
\$446,000of the after tax amount now. The remaining \$814,000 will be placed in a 30 year
annuity account that pays \$101,055 on a before tax basis at the end of each year.
Using a discount rate of 10 % which option should you select?
2. Ms. Adam has received a job offer from a large investment bank as an assistant to the vice
president. Her base salary will be \$35,000. She will receive her first annual salary payment one
year from the day she begins to work. In addition, she will get an immediate \$10,000 bonus for
joining the company. Her salary will grow at 4 percent each year. Each year she will receive a
bonus equal to 10 percent of her salary. Ms. Adams is expected to work for 25 years. What is the
present value of the offer if the appropriate discount rate is 12%.
3. When you purchased your house you took out a 30 year annual payment mortgage with an
interest rate of 6 % per year. The annual payment on the mortgage is \$1200. You have just made
a payment and now decided to pay the mortgage off by repaying the outstanding balance. What
is payoff amount if
a. You have lived in the house for 12 years (so there are 18 yrs left on the mortgage)?
b. You have lived in the house for 20 years (so there are 10 years left on the mortgage)
c. You have lived in the house for 12 years (so there are 18 years left on the mortgage) and
you decide to pay off the mortgage immediately before the twelfth payment is due?
4. ABC Corp is creating a sinking fund to redeem its preference capital of Rs. 5 lakhs issued on
April 15, 2004 and maturing on April 14, 2015. The first annual payment will be made on April
15, 2004. The company will make equal annual payments and expects that the fund will earn
12% per year. How much will be the amount of the sinking fund payment?
5. Kangaroo auto is offering free credit on a new \$10000 car. You pay 1000 down and then \$300
a month for the next 30 months.Turtle Motors next door does not offer free credit but will give
you \$1000 off the list price. If the rate of interest is 10% a year, (about .83% a month) which
company is offering the better deal?
6. The Annually compounded discount rate is 5.5% .You are asked to calculate the present value
of a 12 year annuity with payment of \$50000 per year. Calculate PV for each of the following
cases.

a. The annuity payments arrive at one year intervals. The first payment arrives one year
from now.
b. The first payment arrives in six months. Following payments arrive at one-year intervals
(i.e., at 18 months, 30 months, etc.)
7. Your firms geologists have discovered a small oil field in New Yorks Westchester County.
The field is forecasted to produce a cash flow of C1 = \$2 million in the first year. You estimate
that you could earn an expected return of r =12% from investing in stocks with a similar degree
of risk to your oil field. Therefore, 12% is the opportunity cost of capital.
What is the present value? The answer, of course, depends on what happens to the cash flows
after the first year. Calculate present value for the following cases:
a. The cash flows are forecasted to continue forever, with no expected growth or decline.
b. The cash flows are forecasted to continue for 20 years only, with no expected growth or
decline during that period.
c. The cash flows are forecasted to continue forever, increasing by 3% per year because of
inflation.
d. The cash flows are forecasted to continue for 20 years only, increasing by 3% per year
because of inflation.
8. You have just purchased a new warehouse. To finance the purchase, youve arranged for a 30year mortgage loan for 80 percent of the \$ 2,900,000 purchase price. The monthly payment on
this loan will be \$15,000. What is the APR on this loan? The EAR?