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CORPORATE FINANCE MINICASE 4 - Scholarship Essay Example

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Summary
a. Draw time lines for (1) a $100 lump sum cash flow at the end of Year 2, (2) an ordinary annuity of $100 per year for 3 years, and (3) an uneven cash flow stream of -$50, $100, $75, and $50 at the end of Years 0 through 3(Ehrhardt & Brigham, 2006).
c. We sometimes need to find how long it will take a sum of money (or anything else) to grow to some specified amount…
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CORPORATE FINANCE MINICASE 4
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| | | |
-1 2
FV = $1(1 + i)3 = $2.
$1(1 + i)3 = $2.
(1 + i)3 = $2/$1 = 2.
1 + i = (2)1/3
1 + i = 1.2599
i = 25.99%.
e. What is the difference between an ordinary annuity and an annuity due What type of annuity is shown below How would you change it to the other type of annuity (Ehrhardt & Brigham, 2006)
0 1 2 3
| | | |
100 100 100
An ordinary annuity has payments at the end of the period, while an annuity due date has payments in the beginning of the period.
The annuity shown above is an ordinary annuity. To change it, just shift each payment to the left. This way there would be a 100 under 0 but none under 3.
0 1 2 3
| | | |
100 100 100
f. (1) What is the future value of a 3-year ordinary annuity of $100 if the appropriate interest rate is 10% (Ehrhardt & Brigham, 2006)
0 1 2 3
| | | |
100 100 100
110
121
$331
FVAn = $100(1) + $100(1.10) + $100(1.10)2
=...
k. Suppose on January 1 you deposit $100 in an account that pays a nominal, or quoted, interest rate of 11.33463%, with interest added (compounded) daily. How much will you have in your account on October 1, or after 9 months (Ehrhardt & Brigham, 2006)
It is an annuity in the sense that there are constant payments at regular intervals, but the intervals do not correspond with their compounding periods. In situation like these, we calculate the EAR and then treat it as an annuity.
(4) An important rule is that you should never show a nominal rate on a time line or use it in calculations unless what condition holds (Hint: Think of annual compounding, when INOM= EFF%= IPER.) What would be wrong with your answer to Questions l-(1) and l-(2) if you used the nominal rate (10%) rather than the periodic rate (INOM/2= 10%/2 = 5%) (Ehrhardt & Brigham, 2006)
m. Suppose someone offered to sell you a note calling for the payment of $1,000 fifteen months from today. They offer to sell it to you for $850. You have $850 in a bank time deposit that pays a 6.76649% nominal rate with daily compounding, which is a 7% effective annual interest rate, and you plan to leave the money in the bank unless you buy the note. ...Download file to see next pagesRead More
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