I was able to fgiure out the first part, but am having difficulting incorporating the random variable from part 2 as described in the highlighted text. I believe I am on the right track with the excel graphic at the very bottom, but again I am unsure. If you could provide the formulas for the cells that need to be changed it would be appreciated. Screen captures of the excel doc would also help to go a long way.

Tri-State Corporation

What will your portfolio be worth in 10 years? In 20 years? When you stop working? The

Human Resources Department at Tri-State Corporation was asked to develop a financial planning model that would help employees address these questions. Tom Gifford was asked to lead this effort and decided to begin by developing a financial plan for himself. Tom has a degree in business and, at the age of 25, is making $34,000 per year. After two years of contributions to his companys retirement program and the receipt of a small inheritance,

Tom has accumulated a portfolio valued at $14,500. Tom plans to work 30 more years and hopes to accumulate a portfolio valued at $1,000,000. Can he do it?

Tom began with a few assumptions about his future salary, his new investment contributions, and his portfolio growth rate. He assumed 5% annual salary growth rate as reasonable and wanted to make new investment contributions at 4% of his salary. After some research on historical stock market performance, Tom decided that a 10% annual portfolio growth rate was reasonable. Using these assumptions, Tom developed the Excel worksheet shown in Figure 16.18. Toms specific situation and his assumptions are in the top portion of the worksheet (cells D3:D8). The worksheet provides a financial plan for the next five years. In computing the portfolio earnings for a given year, Tom assumed that his new investment contribution would occur evenly throughout the year, and thus half of the new investment could be included in the computation of the portfolio earnings for the year. Using Figure 16.18, we see that at age 29, Tom is projected to have a portfolio valued at $32,898.

Toms plan was to use this worksheet as a template to develop financial plans for the companys employees. The assumptions in cells D3:D8 would be different for each employee, and rows would be added to the worksheet to reflect the number of years appropriate for each employee. After adding another 25 rows to the worksheet, Tom found that he could expect to have a portfolio of $627,937 after 30 years. Tom then took his results to show his boss, Kate Riegle.

Although Kate was pleased with Toms progress, she voiced several criticisms. One of the criticisms was the assumption of a constant annual salary growth rate. She noted that most employees experience some variation in the annual salary growth rate from year to year. In addition, she pointed out that the constant annual portfolio growth rate was unrealistic and that the actual growth rate would vary considerably from year to year. She further suggested that a simulation model for the portfolio projection might allow Tom to account for the random variability in the salary growth rate and the portfolio growth rate.

After some research, Tom and Kate decided to assume that the annual salary growth rate would vary from 0% to 10% and that a uniform probability distribution would provide a realistic approximation. Tri-States accounting firm suggested that the annual portfolio growth rate could be approximated by a normal probability distribution with a mean of 10% and a standard deviation of 5%. With this information, Tom set off to develop a simulation model that could be used by the companys employees for financial planning.

1. Without considering the random variability in growth rates, extend the worksheet in

Figure 16.18 to 30 years. Confirm that by using the constant annual salary growth rate and the constant annual portfolio growth rate, Tom can expect to have a 30-year portfolio of $627,937. What would Toms annual investment rate have to increase to in order for his portfolio to reach a 30-year, $1,000,000 goal? Solved this part.

2. Incorporate the random variability of the annual salary growth rate and the annual portfolio growth rate into a simulation model. Assume that Tom is willing to use the annual investment rate that predicted a 30-year, $1,000,000 portfolio in part 1. Show how to simulate Toms 30-year financial plan. Use results from the simulation model to comment on the uncertainty associated with Tom reaching the 30-year, $1,000,000 goal. Discuss the advantages of repeating the simulation numerous times.

4. Assume that Tom is willing to consider working 35 years instead of 30 years. What is your assessment of this strategy if Toms goal is to have a portfolio worth $1,000,000?

1 Financial Analysis Portfolio Projection 25 $34,000 $14,500 5% 49' 10% 3 Age 4 Current Salary 5 Current Portfolio Annual Salary Growth Rate 7 Annual Investment Ratc Annual Portfolio Growth Rate Beginning Portfolio Ending 10 1 Ycar Age Portfolio 12 13 Salary Investment Eamings Portfolio 25 26 27 28 14.500 17,378 20,615 24,251 28,329 34.000 35,700 37,485 39,359 41,327 1,360 1,428 1,499 1,574 1,653 1,518 1,809 2,136 2,504 2,916 17.378 20,615 24,23 28,329 32,898 15 17