Financial Management

Topics: Time, Economics, Interest rate Pages: 3 (422 words) Published: October 1, 2010
Question 1
a)A wealthty industrialist wishes to establish a \$2,000,000 trust fund which will provide income for his grandchild into perpetuity.He stipulates in the trust agreement that the principal may not be distributed.The grandchild may only receive the interest earned.If the interest rate earned on the trust is expected to be at least 7 percent in all future periods, how income will the grandchild receive each year?

\$2,000,000PV
1N
7%I/Y
CPT
PMT=2,140,000

\$2,140,000 - \$2,000,000 = \$ 140,000

The granchild will receive \$140,000 for each year

b)Nicole establishes a seven-year, 8 percent loan with a bank requiring annual end-of-year payments of \$960.43. Calculate the original principal amount.

\$960.43PMT
7N
8%I/Y
CPT
PV=\$5000.35

The original principal amount are \$5000.35

c)Calculate the present value of \$5,800 received at the end of year 1, \$6,400 received at the end of year 2, and \$8,700 at the end of year 3, assuming an opportunity cost of 13 percent.

i)\$5,800FV
1N
13%I/Y
PMT
CPT
PV =\$5132.74

ii)\$6,400FV
2N
13%I/Y
PMT
CPT
PV =\$5012.14

iii)\$8,700FV
3N
13%I/Y
PMT
CPT
PV =\$6029.54
\$5,800 + \$6,400 + \$8,700 = \$20,900
The total present value of \$5,800.\$6,400 and \$8,700 are \$20,900

Question 2
a)Mr Knowitall has been awarded a bonus for his outstanding work.His employer offers him a choice of a lump-sum of \$5,000 today, or an annuity of \$1,250 a year for the next five years. Which option should Mr Knowitall choose if his opportunity cost is 9 percent ?

i)\$1,250PMT
5N
9%I/Y
CPT
PMT

b)In their meeting with their advisor,Mr and Mrs Smith concluded that they would need \$40,000 per year during their retirement years in order to live comfortably. They will retire 10 years from now and expect a 20-year retirement period.How much...