CHAPTER 5Discounted Cash Flow Valuation I. DEFINITIONSTopic: ANNUITY1. An annuity stream of cash flow payments is:A) A set of level cash flows occurring each time period for a fixed length of time.B) A set of level cash flows occurring each time period forever.C) A set of increasing cash flows occurring each time period for a fixed length of time.D) A set of increasing cash flows occurring each time period forever.E) A set of arbitrary cash flows occurring each time period for no more than 10 years.Answer: ATopic: PRESENT VALUE FACTOR FOR ANNUITIES2. The present value factor for annuities is calculated as:A) (1 + present value factor)/rB) (1 – present value factor)/rC) Present value factor + (1/r)D) (Present value factor*r) + (1/r)Answer: BTopic: FUTURE VALUE FACTOR FOR ANNUITIES3. The future value factor for annuities is calculated as:A) Future value factor + rB) (1/r) + (future value factor*r)C) (1/r) + future value factorD) (Future value factor – 1)/rE) (Future value factor + 1)/rAnswer: DTopic: ANNUITIES DUE4. Annuities where the payments occur at the end of each time period are called ___________,whereas __________ refer to annuity streams with payments occuring at the beginning of each time period.A) ordinary annuities; early annuitiesB) late annuities; straight annuitiesC) straight annuities; late annuitiesD) annuities due; ordinary annuitiesE) ordinary annuities; annuities dueAnswer: ETopic: PERPETUITY5. An annuity stream where the payments occur forever is called a(n) ____________.A) annuity dueB) indemnityC) perpetuityD) amortized cash flow streamE) amortization tableAnswer: CTopic: STATED INTEREST RATES6. The interest rate expressed in terms of the interest payment made each period is called the:A) Stated interest rate.B) Compound interest rate.C) Effective annual rate.D) Periodic interest rate.E) Daily interest rate.Answer: ATopic: EFFECTIVE ANNUAL RATE7. The interest rate expressed as if it were compounded once per year is called the:A) Stated interest rate.B) Compound interest rate.C) Effective annual rate.D) Periodic interest rate.E) Daily interest rate.Answer: CTopic: ANNUAL PERCENTAGE RATE8. The interest rate charged per period multiplied by the number of periods per year is called the:A) Effective annual rate (EAR).B) Annual percentage rate (APR).C) Periodic interest rate.D) Compound interest rate.E) Daily interest rate.Answer: BTopic: PURE DISCOUNT LOAN9. A loan where the borrower receives money today and repays a single lump sum at some time in thefuture is called a(n) _____________ loan.A) amortizedB) continuousC) balloonD) pure discountE) interest-onlyAnswer: DTopic: INTEREST-ONLY LOAN10. A loan where the borrower pays interest each period and repays the entire principal of the loan atsome point in the future is called a(n) _________ loan.A) amortizedB) continuousC) balloonD) pure discountE) interest-onlyAnswer: ETopic: AMORTIZED LOAN11. A loan where the borrower pays interest each period, and repays some or all of the principal of theloan over time is called a(n) _________ loan.A) amortizedB) continuousC) balloonD) pure discountE) interest-onlyAnswer: ATopic: BALLOON LOAN12. A loan where the borrower pays interest each period, repays part of the principal of the loan overtime, and repays the remainder of the principal at the end of the loan, is called a(n)_______________ loan.A) amortizedB) continuousC) balloonD) pure discountE) interest-onlyAnswer: CII CONCEPTSTopic: EFFECTIVE ANNUAL RATE13. You are trying to compare the desirability of two alternative investments with rates of return quotedusing different compounding periods. To make the proper decision, you should:A) Convert each quoted return to an effective annual rate.B) Convert each quoted return to an annual nominal rate.C) Convert each quoted return to a monthly nominal rate.D) Compare the investments by using the quoted returns.E) Convert each quoted return to an APR.Answer: ATopic: ANNUAL PERCENTAGE RATE14. Which of the following statements is FALSE?A) When comparing investments it is best not to rely solely on quoted rates.B) Compounding typically leads to differences between quoted and effective rates.C) The APR on a loan with monthly payments is less than the annual interest you actually pay.D) The APR is the interest rate per period multiplied by the number of periods per year.E) With monthly compounding, the APR will be larger than the effective annual rate.Answer: ETopic: PERPETUITY15. Which of the following CANNOT be calculated?A) The present value of a perpetuity.B) The interest rate on a perpetuity given the present value and payment amount.C) The present value of an annuity due.D) The future value of an annuity due.E) The future value of a perpetuity.Answer: ETopic: PRESENT VALUE PERPETUITY16. You are considering two perpetuities which are identical in every way, except that perpetuity A willbegin making annual payments of $P to you two years from today while the first $P payment for perpetuity B will occur one year from today. It must be true that the present value of perpetuity:A) A is greater than that of B by $P.B) B is greater than that of A by $P.C) B is equal to that of perpetuity A.D) A exceeds that of B by the PV of $P for one year.E) B exceeds that of A by the PV of $P for one year.Answer: ETopic: COMPARING SAVINGS ACCOUNTS17. You have $800 that you would like to invest. You have 2 choices: Savings account A which earns8% compounded annually, or savings account B which earns 7.90% compounded semiannually.Which would you choose and why?A) A because it has a higher effective annual rate.B) A because it has the higher quoted rate.C) B because it has a higher effective annual rate.D) B because the future value in one year is lower.E) B because it has the higher quoted rate.Answer: CTopic: COMPARING SAVINGS ACCOUNTS18. You have $800 that you would like to invest. You have 2 choices: Savings account A which earns8% compounded annually, or savings account B which earns 7.70% compounded monthly. Which would you choose and why?A) A because it has a higher effective annual rate.B) A because the future value in one year is lower.C) B because it has a higher effective annual rate.D) B because the future value in one year is lower.E) A because it has the higher quoted rate.Answer: ATopic: COMPARING SAVINGS ACCOUNTS19. You are planning to save your Christmas bonuses from work and are comparing savings accounts:Account A compounds semiannually while account B compounds monthly. If both accounts have the same quoted annual rate of interest and you place only the bonuses in the account, you should choose _______________.A) account A because it has a higher APRB) account B because it has a higher APRC) account B because it is compounded more oftenD) account A because you will pay less in taxesE) either account, since both quote the same rate of interestAnswer: CTopic: INTERPRETING INTEREST RATES20. Which of the following statements is true?A) Present values and discount rates move in the same direction with one another.B) On loans with monthly compounding, the APR will exceed the EAR.C) Compounding essentially means earning interest on interest.D) Future values decrease with increases in interest rates.E) All else the same, the longer the term of a loan the lower will be the total interest you pay on it.Answer: CTopic: COMPARING LOANS21. You want to borrow money to buy a new car, and you are trying to decide whether to borrowshort-term (24 months) or long-term (60 months). Which of the following would beIRRELEVANT to your borrowing decision?A) The EARs on the two alternative loans.B) The APRs on the two alternative loans.C) The interest you could earn by investing the difference between the two loan payments.D) The fact that you must make 48 more payments on the longer term loan.E) The amount of money to be borrowed.Answer: ETopic: PRESENT VALUE ANNUITY22. You are going to invest $500 at the end of each year for ten years. Given an interest rate, you canfind the present value of this investment by:I. Adding the cash flows together and finding the present value of the sum using the appropriatepresent value factor.II. Applying the proper present value factor to each cash flow, then adding up these present values.III. Finding the future value of each cash flow, adding all of the future values together, then finding the discounted present value of this future value sum.IV. Finding the future value of the entire payment stream.A) II onlyB) III onlyC) II and III onlyD) I, II, and IV onlyE) II, III, and IV onlyAnswer: CTopic: ANNUITIES DUE23. You are evaluating two annuities. They are identical in every way, except that one is an ordinaryannuity and one is an annuity due. Which of the following is FALSE?A) The ordinary annuity must have a lower present value than the annuity due.B) The ordinary annuity must have a lower future value than the annuity due.C) The annuity due must have the same present value as the ordinary annuity.D) The two annuities will differ in present value by the amount (1+r).E) The annuity due and the ordinary annuity will make the same number of total payments overtime.Answer: CIII. PROBLEMSTopic: PRESENT VALUE UNEVEN CASH FLOWS24. What is the total present value of $80 received in one year, $300 received in two years, and $700received in six years if the discount rate is 7%?A) $582.72B) $681.68C) $757.25D) $803.24E) $852.83Answer: DResponse: PV = $80 / 1.07 + 300 / 1.072 + 700 / 1.076 = $803.2425. What is the total future value six years from now of $80 received in one year, $300 received in twoyears, and $700 received in six years if the discount rate is 7%?A) $1,080.00B) $1,047.15C) $1,205.44D) $1,254.44E) $1,299.15Answer: CResponse: FV = $80 (1.07)5 + 300 (1.07)4 + 700 = $1,205.44Topic: PRESENT VALUE UNEVEN CASH FLOWS26. Given the following cash flows, what is the present value if the discount rate is 8%?Year1234Cash Flow$400$250$900$1925A) $1,415.07B) $2,714.09C) $2,865.70D) $3,058.96E) $3,222.62Answer: BResponse: PV = $400 / 1.08 + 250 / 1.082 + 900 / 1.083 + 1,925 / 1.084 = $2,714.09Topic: PRESENT VALUE UNEVEN CASH FLOWS27. What is the present value of the following set of cash flows at an 10% discount rate?Year1234Cash Flow$800?800$800?800A) $ 0.00B) $ 120.76C) $ 173.31D) $ 379.41E) $3,312.13Answer: BResponse: PV = $800 / 1.1 - 800 / 1.12 + 800 / 1.13 - 800 / 1.14 = $120.7628. What is the future value at the end of year 4 of the following set of cash flows? Assume an interestrate of 10%.Year1234Cash Flow$800?800$800?800A) $ 0.00B) $ 127.38C) $ 176.80D) $ 379.41E) $3,312.13Answer: CResponse: FV = $800 (1.1)3 - 800 (1.1)2 + 800 (1.1) - 800 = $176.80Topic: FUTURE VALUE UNEVEN CASH FLOWS29. What is the future value of the following set of cash flows 4 years from now? Assume an interestrate of 6.5%.Year01234Cash Flow?700$300$600$400$500A) $ 555.18B) $ 785.72C) $ 942.12D) $1,068.39E) $1,100.00Answer: DResponse: FV = -$700(1.065)4 + 300 (1.065)3 + 600 (1.065)2 + 400 (1.065) + 500 = $1,068.39 Topic: INTEREST RATE30. Given the following cash flows, what is the implicit discount rate if the present value is $2,450?Year 1 2 3Cash Flow $700 $950 $1400A) 5.45%B) 8.72%C) 10.48%D) 12.89%E) 15.91%Answer: CResponse: $2,450 = $700 / (1 + r) + 950 / (1 + r)2 + 1,400 / (1 + r)3; r = 10.48%Topic: INTEREST RATE31. Given the following cash flows, what is the interest rate if the future value at the end of year 3 isequal to $3,218?Year123Cash Flow$700$950$1400A) 4%B) 5%C) 6%D) 7%E) 8%Answer: DResponse: $3,218 = $700 (1 + r)2 + 950 (1 + r) + 1,400; r = 7.0%Topic: ANNUITY PAYMENT32. You need to borrow $23,000 to buy a truck. The current loan rate is 7.9% compounded monthly andyou want to pay the loan off in equal monthly payments over 5 years. What is the size of your monthly payment?A) $323.39B) $374.04C) $465.26D) $494.69E) $555.66Answer: CResponse: $23,000 = C [1 -(1 / 1.0065860)] / .00658; C = $465.26Topic: PRESENT VALUE ANNUITY33. The monthly mortgage payment on your house is $821.69. It is a 30 year mortgage at 6.5%compounded monthly. How much did you borrow?A) $ 85,000B) $100,000C) $115,000D) $130,000E) $140,000Answer: DResponse: PVA = $821.69 [1 -(1 / 1.0054360] / .0054 = $130,000Topic: PRESENT VALUE PERPETUITY34. You just won the lottery. You and your heirs will receive $40,000 per year forever, beginning oneyear from now. What is the present value of your winnings at an 10% discount rate?A) $ 44,000B) $300,000C) $387,500D) $400,000E) $437,500Answer: DResponse: PVP = $40,000 / .10 = $400,000Topic: PERPETUITY INTEREST RATE35. You just won the lottery. You and your heirs will receive $40,000 per year forever, beginning oneyear from now. If the present value of the lottery is $500,000, what is the discount rate used to value this perpetuity?A) 6%B) 7%C) 8%D) 9%E) 10%Answer: CResponse: $500,000 = $40,000 / r; r = 8%Topic: PRESENT VALUE PERPETUITY DUE36. You just won the lottery. You and your heirs will receive $40,000 per year forever, with the firstpayment received immediately. What is the present value at a 9% discount rate?A) $182,500B) $375,222C) $400,000D) $444,444E) $484,444Answer: EResponse: PV = $40,000 + $40,000 / .09 = $484,444Topic: EFFECTIVE ANNUAL RATE37. What is the effective annual rate of 6% compounded quarterly?A) 5.37%B) 6.00%C) 6.14%D) 7.50%E) 24.00%Answer: CResponse: EAR = [1 + (.06/4)]4 -1 = 6.14%Topic: EFFECTIVE ANNUAL RATE38. What is the effective annual rate of 11% compounded semiannually?A) 11.00%B) 11.15%C) 11.30%D) 11.84%E) 12.16%Answer: CResponse: EAR = [1 + (.11/2)]2 -1 = 11.30%Topic: EFFECTIVE ANNUAL RATE39. What is the effective annual rate of 10% compounded monthly?A) 9.27%B) 10.00%C) 10.25%D) 10.38%E) 10.47%Answer: EResponse: EAR = [1 + (.10/12)]12 -1 = 10.47%Topic: EFFECTIVE ANNUAL RATE COMPOUNDING40. A given rate is quoted as 12% APR, but has an EAR of 12.55%. What is the rate of compoundingduring the year?A) AnnuallyB) SemiannuallyC) QuarterlyD) MonthlyE) DailyAnswer: CResponse: .1255 = [1 + (1 + .12/m)]m -1; m = 4 or quarterlyTopic: FUTURE VALUE ANNUITY DUE41. What is the future value in 12 years of $800 payments received at the beginning of each year for thenext 12 years? Assume an interest rate of 8.25%.A) $14,259.63B) $15,408.65C) $16,679.86D) $18,495.48E) $20,782.15Answer: CResponse: FVA due = $800 [(1.082512 -1) / .0825] (1.0825) = $16,679.86Topic: PRESENT VALUE ANNUITY DUE42. What is the present value of $1,500 payments received at the beginning of each year for the next 10years? Assume an interest rate of 6.525%.A) $ 978.75B) $ 7,093.62C) $10,770.64D) $11,473.43E) $15,000.00Answer: DResponse: PVA due = $1,500 {[1- (1 / 1.0652510)] / .06525} ( 1.06525) = $11,473.43Topic: LOAN PAYMENTS43. Fast Eddie's Used Cars will sell you a 1989 Mazda Miata for $5,000 with no money down. Youagree to make weekly payments for 2 years, beginning one week after you buy the car. The stated rate on the loan is 13%. How much is each payment?A) $42.96B) $54.66C) $68.19D) $75.90E) $99.65Answer: BResponse: $5,000 = C {[1 - (1 / 1.0025104)] / .0025}; C = $54.66Topic: PRESENT VALUE ANNUITY44. You win the lottery and are given the option of receiving $250,000 now or an annuity of $25,000 atthe end of each year for 30 years. Which of the following is correct? (Ignore taxes)A) You cannot choose between the two without first calculating future values.B) You will always choose the lump regardless of interest rates.C) You will choose the annuity payment if the interest rate is 7%.D) You will always choose the annuity.E) Comparing the future value of the two alternatives will lead to a different decision than youwill reach from a comparison of the present values.Answer: CResponse: PVA = $25,000 {[1 - (1 / 1.0730)] / .07} = $310,226; choose annuityTopic: PRESENT VALUE ANNUITY45. You are going to withdraw $5,000 at the end of each year for the next four years from an accountthat pays interest at a rate of 9% compounded annually. How much must there be in the account today in order for the account to reduce to a balance of zero after the last withdrawal?A) $14,793.83B) $16,198.60C) $18,602.29D) $19,713.75E) $20,000.00Answer: BResponse: PVA = $5,000 {[1 - (1 / 1.094)] / .09} = $16,198.60Topic: PRESENT VALUE ANNUITY46. You are going to withdraw $5,000 at the end of each year for the next four years from an accountthat pays interest at a rate of 9% compounded annually. The account balance will reduce to zero when the last withdrawal is made. How much money will be in the account immediately after the third withdrawal is made?A) $ 4,587.16B) $ 4,977.10C) $ 5,000.00D) $ 6,982.29E) $10,000.00Answer: AResponse: PV = $5,000 / 1.09 = $4,587.16Topic: ANNUITY INTEREST47. You are going to withdraw $5,000 at the end of each year for the next four years from an accountthat pays interest at a rate of 9% compounded annually. The account balance will reduce to zero when the last withdrawal is made. How much interest will you earn on the account over the four year life?A) $ 0.00B) $2,409.60C) $3,801.40D) $4,000.00E) $5,711.20Answer: CResponse:PVA = $5,000 {[1 - (1 / 1.094)] / .09} = $16,198.60;interest = $20,000 - 16,198.60 = $3,801.40Topic: PRESENT VALUE ANNUITY48. At the end of each year for the next 8 years you will receive cash flows of $500. If the appropriatediscount rate is 7.5%, how much would you pay for this annuity?A) $4,000.00B) $5,841.22C) $1,259.47D) $2,928.65E) $3,148.30Answer: DResponse: PVA = $500 {[1 - (1 / 1.0758)] / .075} = $2,928.65Topic: RETURN ON ANNUITY49. At the end of each year for the next 8 years you will receive cash flows of $500. The initialinvestment is $2,500. What rate of return are you expecting from this investment?A) 11.81%B) 10.27%C) 9.01%D) 8.28%E) 7.21%Answer: AResponse: $2,500 = $500 {[1 - 1 / (1 + r)8] / r}; r = 11.81%Topic: ANNUITY PAYMENT50. You are considering investing $400 in a 12-year annuity. The rate of return you require is 9%. Whatannual cash flow from the annuity will provide the required return?A) $ 10.77B) $ 42.96C) $ 55.86D) $ 78.31E) $129.27Answer: CResponse: $400 = C {[1 - (1 / 1.0912)] / .09}; C = $55.86Topic: EFFECTIVE ANNUAL RATE51. You are considering an investment with a quoted return of 10% per year. If interest is compoundeddaily, what is the effective return on this investment?A) 1.11%B) 10.00%C) 10.25%D) 10.47%E) 10.52%Answer: EResponse: EAR = [1 + (.10 / 365)]365 -1 = 10.52%Topic: NUMBER OF PERIODS52. You borrowed $1,200 at 8% compounded annually. Your payments are $96 at the end of each year.How many years will you make payments on the loan?A) 9 yearsB) 10 yearsC) 11 yearsD) 12 yearsE) foreverAnswer: EResponse:annual interest = $1,200 x .08 = $96; you are only making interest payments and will never repay the principalTopic: APR/EAR53. You agree to loan your parents $32,000 to buy a new van. They agree to pay you $650 a month for5 years. The ________________.A) interest rate on the loan is 0.75% per monthB) APR on the loan is 7.87%C) EAR on the loan is 8.08%D) APR on the loan is 8.22%E) EAR on the loan is 8.38%Answer: EResponse: $32,000 = $650 {[1 - 1 / (1 + r)60] / r}; r = .6730%; EAR = (1 + .006730)12 - 1 = 8.38% Topic: PRESENT VALUE ANNUITY54. Your brother-in-law borrowed $3,000 from you 5 years ago and then disappeared. Yesterday hereturned and expressed a desire to pay back the loan, including the interest accrued. Assuming that you had agreed to charge him 12%, and assuming that he wishes to make 5 equal annual payments beginning in one year, how much would your brother-in-law have to pay you annually in order to pay off the debt? (Assume that the loan continues to accrue interest at 12% per year.)A) $ 941.89B) $1,200.00C) $1,322.33D) $1,466.67E) $3,002.56Answer: DResponse:FV = $3,000 (1.12)5 = $5,287.03 is the amount you are currently owedPVA = $5,287.03 = C {[1 - (1 / 1.125)] / .12}; C = $1,466.67Topic: PRESENT VALUE ANNUITY55. A "Name That Tune" contest has a grand prize of $500,000. However, the contest stipulates that thewinner will receive just $200,000 immediately, and $30,000 at the end of each of the next 10 years.Assuming that one can earn 8% on their money, how much has the contest winner actually won?A) $250,000.00B) $309,225.11C) $365,826.02D) $401,302.44E) $500,000.00Answer: DResponse: PV = $200,000 + 30,000 {[1 - (1 / 1.0810)] / .08} = $401,302.44Topic: ANNUITY PAYMENT56. Denzel wishes to save money to provide for his retirement. Beginning one month from now, he willbegin depositing a fixed amount into a retirement savings account that will earn 10% compounded monthly. He will make 420 such deposits. Then, one year after making his final deposit, he will withdraw $75,000 annually for 20 years. The fund will continue to earn 10% compounded monthly.How much should the monthly deposits be for his retirement plan?A) $119.11B) $149.58C) $162.92D) $184.89E) $209.38Answer: CResponse:EAR = [1 + (.10 / 12)]12 -1 = 10.47%PVA = $75,000 {[1 - (1 / 1.104720)] / .1047} = $618,557.45FVA = $618,557.45 = C [(1.0083420 1) / .0083]; C = $162.92Topic: COMPARING RATES57. You have $100,000 to invest. Your bank offers one-year certificates of deposit with a stated rate of3.50% compounded quarterly. What rate compounded semiannually would provide you with thesame amount of money at the end of one year?A) 3.485%B) 3.500%C) 3.505%D) 3.510%E) 3.515%Answer: EResponse:EAR = [1 + (.035 / 4)]4 -1 = 3.5462%; EAR = .035462 = [1 + (r / 2)]2 -1; r = 3.5153%Topic: ANNUAL PERCENTAGE RATE58. Vito Corleone will loan you money on a "four-for-five" arrangement; i.e., for every $4 he gives youtoday, you give him $5 one week from now. What is the APR of this loan?A) 250%B) 869%C) 1,000%D) 1,300%E) 1,800%Answer: DResponse: $5 = $4 (1 + r); r = 25% per week; APR = 25% x 52 = 1,300%Topic: EFFECTIVE ANNUAL RATE59. Vito Corleone will loan you money on a "four-for-five" arrangement; i.e., for every $4 he gives youtoday, you give him $5 one week from now. What is the EAR of this loan?A) 250%B) 869%C) 1,095%D) 109,475%E) 10,947,544%Answer: EResponse:$5 = $4 (1 + r); r = 25% per week; APR = 25% x 52 = 1,300%EAR = [1 + (13 / 52)]52 -1 = 10,947,544%Topic: PRESENT VALUE PERPETUITY60. You own a bond issued by the Canadian Pacific railroad that promises to pay the holder $50annually forever. You plan to sell the bond 10 years from now. If similar investments yield 7% at that time, how much will the bond be worth?A) $350.00B) $592.17C) $714.29D) $825.00E) $938.44Answer: CResponse: PVP = $50 / .07 = $714.29Topic: COMPARING PRESENT VALUES61. Moe purchases a $50, 30-year annuity. Larry purchases a $50 perpetuity. In both cases, paymentsbegin in one year, and the appropriate interest rate is 12.5%. What is the present value of Larry's payments that will occur from year 31 onwards?A) $ 11.68B) $ 68.11C) $ 91.27D) $124.40E) More than $150Answer: AResponse:PVP = $50 / .125 = $400; PVA = $50 {[1 - (1 / 1.12530)] / .125} = $388.32; difference = $11.68Topic: COMPARING PRESENT VALUES62. Moe purchases a $50 annual perpetuity for which payments begin in one year. Larry purchases a$50 annual perpetuity for which payments begin immediately. If a 12.5% interest rate isappropriate for both cash flow streams, which of the following statements is true?A) Moe's perpetuity is worth $50 more than Larry's.B) Larry's perpetuity is worth $50 more than Moe's.C) The perpetuities are of equal value today.D) Larry's perpetuity is worth $44.44 more than Moe's.E) Moe's perpetuity is worth $44.44 more than Larry's.Answer: BResponse: Moe: PVP = $50 / .125 = $400; Larry: PV = $50 + 50 / .125 = $450Topic: PRESENT VALUE ANNUITY DUE63. In order to help you through college, your parents just deposited $20,000 into a bank accountpaying 6% interest. Starting tomorrow, you plan to withdraw equal amounts from the account at the beginning of each of the next four years. What is the MOST you can withdraw annually?A) $5,136.91B) $5,445.12C) $5,771.83D) $6,101.88E) $6,395.88Answer: BResponse: PVA due = $20,000 = C {[1 - (1 / 1.064)] / .06} (1.06); C = $5,445.12Topic: PRESENT VALUE ANNUITY64. In order to help you through college, your parents just deposited $20,000 into a bank accountpaying 6% interest. Starting next year, you plan to withdraw equal amounts from the account at the end of each of the next four years. What is the MOST you can withdraw annually?A) $5,136.91B) $5,445.12C) $5,771.83D) $6,101.88E) $6,395.88Answer: CResponse: PVA = $20,000 = C {[1 - (1 / 1.064)] / .06}; C = $5,771.83Topic: PRESENT VALUE OF UNEVEN CASH FLOWS65. Analysts expect Placer Corp. to pay shareholders $2.25 per share annually for the next five years.After that, the dividend will be $3.50 annually forever. Given a discount rate of 12%, what is the value of the stock today?A) $16.55B) $19.87C) $22.37D) $24.66E) $27.88Answer: DResponse:PVP = $3.50 / .12 = $29.17; PV = $29.17 / 1.125 = $16.55PVA = $2.25 {[1 - (1 / 1.125)] / .12} = $8.11; Price = $16.55 + 8.11 = $24.66Topic: PERPETUITY RETURN66. The preferred stock of Placer Corp. currently sells for $44.44 per share. The annual dividend of $4is fixed. Assuming a constant dividend forever, what is the rate of return on this stock?A) 7.0%B) 8.0%C) 9.0%D) 10.0%E) 11.0%Answer: CResponse: $44.44 = $4 / r; r = 9.0%Topic: EAR LOAN RATE67. Fast Eddie's Used Cars will sell you a 1989 Mazda Miata for $5,000 with no money down. Youagree to make weekly payments of $60.00 for 2 years, beginning one week after you buy the car.What is the EAR of this loan?A) 20.04%B) 22.85%C) 25.61%D) 32.34%E) 43.01%Answer: CResponse:$5,000 = $60 {[1 - 1 / (1 + r)104] / r}; r = .4394%; APR = .4394 x 52 = 22.85%EAR = (1 + .004394)52 - 1 = 25.61%。