Principles of Financial Management

1. You have just won a prize that will pay $1,500 at the end of every year of the next 25 years. You got an offer to exchange the prize with an immediate payment of $19,000. If the appropriate discount rate is 7 percent, should you accept or reject the offer? Why?

2. Two years ago, you deposited $6,000 in an investment account for the purpose of buying a new house five years from today. Today, you add another $10,000 to the account. You plan to make a final deposit of $12,000 to the account in three years. How much will be available in the account in five years, assuming the account pays 8 percent annual interest rate.

3. In 1895 a prize offered by XYZ CO. was $150. In 2016, the prize was $1,800,000. What was the percentage increase per year in the prize over this period? If the prize increases at the same rate, what will it be in 20402 4. ABC Bank charges 13.1 percent annual interest rate compounded monthly on its business loans. XYZ Bank charges 13.4 percent annual interest rate compounded semiannually. As a potential borrower, which bank would you go to for a new loan? Why? 5. Assuming the following end-of-year cash flows from an investment. With a discount rate of 7 percent per annum, what is the value of the investment today?

year cash flow

1 $950

2 $0

3 $760

4 $1340

Note: for all questions, you must show all supporting calculations.