(1) Using a 20% discount rate, compute the net present value of each of the thre
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(1) Using a 20% discount rate, compute the net present value of each of the three investments. On which investment(s) did Anita earn a 20% rate of return (in other words, which investment option(s) were profitable for her? Be certain to explain your answer. (Round computations to the nearest whole dollar).
Net Present Value Analysis of Securities 9 points Anita Vasquez received $160,000 from her mother's estate. She placed the funds into the hands of a broker, who purchased the following securities on Anita's behalf: (a) Common stock was purchased at a cost of $80,000. The stock paid no dividends, but it was sold for $180,000 at the end of four years. (b) Preferred stock was purchased at its par value of $30,000. The stock paid a 6% dividend (based on par value) each year for four years. At the end of four years, the stock was sold for $24,000. © Bonds were purchased at a cost of $50,000. The bonds paid $3,000 in interest every six months. After four years, the bonds were sold for $58,500. (Note: in discounting a cash flow that occurs semiannually, the procedure is to halve the discount rate and double the number of periods. Use the same procedure in discounting the proceeds from the sale.) The securities were all sold at the end of four years so that Anita would have funds avaiable to start a new business venture. The broker stated that the investments had earned more than a 20% return, and he gave Anita the following computation to support his statement: Common stock: Gain on sale ($180,000 - $80,000) $ 100,000 Preferred stock: Dividends paid (6% x $30,000 x 4 years) 7,200 Loss on sale ($24,000 - $30,000) (6,000) Bonds: Interest paid ($3,000 x 8 periods) 24,000 Gain on sale ($58,500 - $50,000) 8,500 Net gain on all investments $ 133,700 $133,700 / 4 years = 20.9% $160,000 Required: (Ignore income taxes)(1) Using a 20% discount rate, compute the net present value of each of the three investments. On which investment(s) did Anita earn a 20% rate of return (in other words, which investment option(s) were profitable for her? Be certain to explain your answer. (Round computations to the nearest whole dollar).
(2) Considering all three investments together, did Anita earn a 20% rate of return? Explain your answer.Explanation / Answer
COMMON STOCK year cashflow discount factor @ 20% present value 0 -80000 1 -80000 4 180000 0.4823 86,805.56 NPV 6,805.56 EARNED MORE THAN 20% AS NPV IS POSITIVE PREFERRED STOCK 0 -30000 1 -30000 1 1800 0.8333 1500 2 1800 0.6944 1250 3 1800 0.5787 1,041.67 4 25800 0.4823 12,442.13 NPV (13,766.20) BONDS 0 -50000 1 -50000 1 3000 0.9091 2,727.27 2 3000 0.8264 2,479.34 3 3000 0.7513 2,253.94 4 3000 0.6830 2,049.04 5 3000 0.6209 1,862.76 6 3000 0.5645 1,693.42 7 3000 0.5132 1,539.47 8 61500 0.4665 28,690.20 NPV (6,704.54) IN COMINE IT DOES NOT EARN 20%
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