1. Here is some good news. You have just won a lottery that will pay you nine (9) payments. The first payment will be $25,000 today. Subsequent payments will occur annually and increase by 2% each year. With an interest rate of 6%, what would be the value today of this lottery?

2. In an MBA class that graduated a few years ago there was a student, Jeff Spot Diamond, who came up with a number of business ideas related to improving the life of his fellow classmates. One of the ideas Spot considered required him to buy a piece of equipment at an immediate cost of $7,500. The asset would have a two-year life and be responsible for generating a positive cash flow of $4,000 at the end of the first year and a positive cash flow of $6,000 at the end of the second year. For his analysis, Spot determined that the appropriate interest rate for evaluation of the purchase decision was 12%.

For this problem right now lets make it a pure finance question without any concerns for possibly confusing accounting issues. That is, lets assume the equipment has zero salvage value, zero disposal cost, and that Spots company existed in a world without taxes. Dont worry, we will make our world more realistic in a bit by bringing in more accounting.

1. Calculate the Net Present Value (NPV) for this investment that Spot considered making.

2. Based upon your answer in (a) above, what would have been your advice to Spot? Please be sure to explain your answer fully. To do that you should clearly explain in a couple of well-written sentences why buying this piece of equipment was or was not a good use of $7,500. Please remember that a couple of well-written sentences requires the use of words, not simply numbers. And, writing only that he should do it because NPV > 0 or that he should not do it because NPV < 0 is not sufficient.

3. In the previous problem you did some work to calculate the NPV of an investment Jeff Spot Diamond was thinking of making. Again, note the exact information from that question:

In an MBA class that graduated a few years ago there was a student, Jeff Spot Diamond, who came up with a number of business ideas related to improving the life of his fellow classmates. One of the ideas Spot considered required him to buy a piece of equipment at an immediate cost of $7,500. The asset would have a two-year life and be responsible for generating a positive cash flow of $4,000 at the end of the first year and a positive cash flow of $6,000 at the end of the second year. For his analysis, Spot determined that the appropriate interest rate for evaluation of the purchase decision was 12%.

For this problem right now lets make it a pure finance question without any concerns for possibly confusing accounting issues. That is, lets assume the equipment has zero salvage value, zero disposal cost, and that Spots company existed in a world without taxes. Dont worry, we will make our world more realistic in a bit by bringing in more accounting.

1. Calculate the Internal Rate of Return (IRR) for this investment. Please show your finance and mathematical work in driving yourself to an answer. Calculating IRR by simply using your financial calculator or spreadsheet program is not sufficient. You are going to have to go back to your ability to do some math from your early years in school. Be sure to show that work.

2. Based upon your answer in a. above, indicate whether the piece of equipment should be purchased. Please be sure to explain your answer fully. To do that you should clearly explain in a couple of well-written sentences why buying or not buying this piece of equipment for $7,500 is a good decision to make relative to your calculated IRR.

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4. Answer Question #4 on page 164 of the course textbook. NOTE: To avoid any potential confusion between US and Global versions of the textbook, please note the exact question below that has been taken from the text.

5-4. You have found three investment choices for a one-year deposit: 10% APR compounded monthly, 10% APR compounded annually, and 9% APR compounded daily. Compute the EAR for each investment choice. (Assume that there are 365 days in the year.)

5. Answer Question #5 on page 164 of the course textbook. NOTE: To avoid any potential confusion between US and Global versions of the textbook, please note the exact question below that has been taken from the text.

5-5. You are considering moving your money to new bank offering a one-year CD that pays an 8% APR with monthly compounding. Your current banks manager offers to match the rate (the EAR) you have been offered. The account at your current bank would pay interest every six months. How much interest will you need to earn every six months to match the CD?

6. Answer parts (a) and (b) of Question #29 on page 166 of the course textbook. You should not use Excel to answer these two parts of the question. NOTE: To avoid any potential confusion between US and Global versions of the textbook, please note the exact question below that has been taken from the text.

5-29. Suppose the term structure of risk-free interest rates is as shown below:

1. Calculate the present value of an investment that pays $1000 in two years and $2000 in five years for certain.

2. Calculate the present value of receiving $500 per year, with certainty, at the end of the next five years. To find the rates for the missing years in the table, linearly interpolate between the years for which you do know the rates. (For example, the rate in year 4 would be the average of the rate in year 3 and year 5.).