10 points) Jessica is in the market for a new car. She has narrowed her search down to 2 models.

Model A costs $29,000 and Model B costs $17,000. With both cars she plans to pay cash and own
them for 4 years before trading in for a new car. Her research indicates that the trade in value for
Model A after 4 years is 55% of the initial purchase price, while the trade in value for Model B is
42%. Jessica has no emotional attachment to either model and wants to make a strictly financial
decision. The interest rate is 4%. For simplicity assume that operating and maintenance costs for the
models are identical every year. Which model is the better decision and how much "cheaper" is it
than the alternative?
Model A; $12,000.00
Model B; $4,469.18
Model A; $4,469.18
Model B; $12,000.00

Question 2
(10 points) College tuition has been rising at a rate of 3% per year. Currently the average tuition of a
state college is $14,300 per year. Andrea's son Trevor will begin college in 12 years. Andrea's
portfolio is making 6% annually. How much does Andrea need to have set aside today/now to pay for
4 years of college for Trevor? (Note: Tuition will continue to change annually and Andrea's portfolio
balance will continue to accrue interest while Trevor is in school. Also, tuition is due at the beginning
of each year.)
$36,786.09
$57,200.00
$36,642.68
$38,841.24

Question 3

(10 points) You have been living in the house you bought 7 years ago for $400,000. At that time, you
took out a loan for 80% of the house at a fixed rate 15-year loan at an annual stated rate of 8.0%.
You have just paid off the 84th monthly payment. Interest rates have meanwhile dropped steadily to
5.0% per year, and you think it is finally time to refinance the remaining balance over the residual
loan life. But there is a catch. The fee to refinance your loan is $5,500. Should you refinance the
remaining balance? How much would you save/lose if you decided to refinance?
Yes, gain $25,233.71
No, lose $19,733.71
Yes, gain $19,733.71
No, lose $25,233.71

Question 4
(10 points) You are interested in a new Ford Taurus. After visiting your Ford dealer, doing your
research on the best leases available, you have three options. (i) Purchase the car for cash and
receive a $1,500 cash rebate from Dealer A. The price of the car is $15,000. (ii) Lease the car from
Dealer B. Under this option, you pay the dealer $450 now and $175 a month for each of the next 36
months (the first $175 payment occurs 1 month from today). After 36 months you may buy the car for
$8,700. (iii) Purchase the car from Dealer C who will lend you the entire purchase price of the car for
a zero interest 36-month loan with monthly payments. The car price is $15,000. Suppose the market
interest rate is 4%. What is the net cost today of the cheapest option? (Enter just the number in
dollars without the $ sign or a comma and round off decimals to the closest integer, i.e., rounding
$30.49 down to $30 and rounding $30.50 up to $31.)
Answer for Question 4

Question 5

(10 points) Rafael owned an apartment building that burned down. The empty lot is worth $60,000
and Rafael has received $270,000 from the insurance company. Rafael plans to build another
apartment building that will cost $250,000. His real estate adviser estimates that the expected value
of the finished building on the real estate market will be $355,000 next year. The discount/interest
rate is 10%. What are the NPV and IRR of this decision?
-$72,727; -42.00%
$72,727; 42.00%
-$12,727; -14.52%
$12,727; 14.52%

Question 6
(15 points) Roxanne invested $380,000 in a new business 7 years ago. The business was expected
to bring in $6,000 each month for the next 26 years (in excess of all costs). The annual cost of capital
(or interest rate) for this type of business was 8% with monthly compounding. What is the value of
the business today? (Enter just the number in dollars without the $ sign or a comma and round off
decimals to the closest integer, i.e., rounding $30.49 down to $30 and rounding $30.50 up to $31.)
Answer for Question 6

Question 7
(15 points) Walmart is considering opening a small experimental store in New York City. A store is
expected to have a long economic life, but the valuation horizon is 19 years. The store in New York is
likely to generate revenues of $36M in the first year and then it grows at 5.0%. But the costs of
running the business are high because the margins on all the products sold are low. (It is a volume
business!) The cost of goods sold is $12M in year 1 and it is expected to grow at 3.5% per year

thereafter. Selling and administration costs are likely to be $1.2M every year as it is a small store.
The tax rate is 35%. Walmart is so good at managing its stores that working capital increases can be
assumed to be negligible. But since New York City is an expensive place, Walmart will have to invest
$225M in purchasing a building (with land) even though it is a much smaller property than a usual
Walmart store. The good news is that this outlay can be straight line depreciated over 19 years. Also,
Walmart has estimated that the after-tax terminal value in year 19 dollars is $75M. This value is the
present value of all cash flows in year 20 and beyond. What is the NPV of opening this new store if
the appropriate discount rate is 4.0%? (Again, all cash flows except initial investments happen at the
end of the year. You are strongly encouraged to use a spreadsheet.) (Enter just the number in dollars
without the $ sign or a comma and round off decimals to the closest integer, i.e., rounding $30.49
down to $30 and rounding $30.50 up to $31.)
Answer for Question 7

Question 8
(20 points) Springfield Ironworks (SI) recently had their furnace break down and they need to quickly
purchase a new one to minimize the disruption in their production. They can either choose a high
quality furnace (H) that costs $100,000 with $2,500 of annual maintenance costs for the 6-year life of
the furnace, or a low quality furnace (L) that costs $55,000 with $6,500 in annual maintenance costs
for the 3-year life of the furnace. Which furnace should SI choose? What is the annualized cost of
their choice? Assume a discount rate of 4.5%, and ignore all taxes.
L, $72,868
L, $26,508
H, $112,895
H, $21,888

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Question 1
(10 points) Rondo is in the market for a new car. He has narrowed his search down to 2 models.
Model A costs $36,000 and Model B costs $31,000. With both cars he plans to pay cash and own
them for 3 years before trading in for a new car. His research indicates that the trade in value for
Model A after 3 years is 58% of the initial purchase price, while the trade in value for Model B is
49%. The interest rate is 7%. For simplicity assume that operating and maintenance costs for the
models are identical. Which model is the better decision and how much "cheaper" is it than the
alternative?
Model B; $355.27

Model A; $355.27

Model A; $5,000.00

Model B; $5,000.00

Question 2
(10 points) Christine is a new homebuyer. She wants to make sure that she incorporates the cost of
maintenance into her decision. She estimates that routine repairs and maintenance on the home she
is considering will be $1,600 in the first year (one year from now). Due to the increasing age of the
home, she expects that maintenance costs will increase 7% annually. The interest rate is 9%. If she

plans to be in the home for 10 years, what is the present value of all future maintenance? (Note that
maintenance costs will change annually, and starts one year from now and she plans to do the last
one before selling her house.)
$10,268.25

$13,524.32

$12,558.85

$11,237.73

Question 3
(10 points) Two years ago, you purchased a $18,000 car, putting $3,500 down and borrowing the
rest. Your loan was a 36-month fixed rate loan at a stated rate of 7.0% per year. You paid a nonrefundable application fee of $100 at that time in cash. Interest rates have fallen during the last two
years and a new bank now offers to refinance your car by lending you the balance due at a stated
rate of 4.5% per year. You will use the proceeds of this loan to pay off the old loan. Suppose the new
loan over the residual loan life requires a $200 non-refundable application fee. Given all this
information, should you refinance? How much do you gain/lose if you do?
No, lose $69.59

No, lose $130.41

Yes, gain $130.41

Yes, gain $69.59

Question 4
(10 points) You have just started your first job and you want to have the basic appliances (fridge,
washer, dryer, etc.) in your apartment. You face the following choices: (i) Purchase all appliances at
the store using a bank loan. There is no down payment as the bank can take your appliances if you
default on the loan. The loan is at the annual market rate of 9%, and the loan amount is $8,400 to be
repaid monthly over 4 years. (ii) Rent-to-buy from the same store. The monthly rental is $185 for 48
months and then you pay $800 to own all the appliances. What is the net cost today of the cheapest
option? (Enter just the number in dollars without the $ sign or a comma and round off decimals to the
closest integer, i.e., rounding $30.49 down to $30 and rounding $30.50 up to $31.)
Answer for Question 4

Question 5
(10 points) Reggie has just taken over management of a family business. He wants to make sure
that it makes financial sense to keep the business going. He could sell the building today for
$430,000. Keeping the business going will require a $80,000 renovation now and will yield an annual
profit of $97,000 for the next 25 years (for simplicity assume these occur at year end, beginning one
year from now). The discount/interest rate is 6%. What are the NPV and IRR of this decision?
$729,986; 18.76%

$809,986; 22.41%

-$729,986; -18.76%

-$809,986; -22.41%

Question 6
(15 points) Sairah purchased an investment property for $450,000, 2 years ago. The after-tax
cashfow of the property has been $45,000 per year to date, but market conditions have improved
and Sairah expects the cashflow to improve to $88,000 per year for the next 20 years (assume these
are year end cashflows and the property will be worthless thereafter). The annual cost of capital (or
cap rate) for this area is 8%. What is the value of the property today? (Enter just the number in
dollars without the $ sign or a comma and round off decimals to the closest integer, i.e., rounding
$30.49 down to $30 and rounding $30.50 up to $31.)
Answer for Question 6

Question 7
(15 points) Starbuck's is considering opening another store in Chicago. A store is expected to have a
long economic life, but the valuation horizon is 9 years. The store in Chicago is expected to create
revenues of $4.8M in the first year and they are likely to grow at 2.0% per year thereafter. The cost of
goods sold is $1.4M in year 1 and it is also expected to grow at 2.0% per year thereafter. Selling and
administration costs are likely to be $0.8M in the first year and then grow at 3.0%. The tax rate is
35%. Starbucks is so good at managing its stores that working capital increases can be assumed to
be negligible. But Starbucks will have to invest $4.6M in purchasing a store (with land). The good
news is that this outlay can be straight line depreciated over 9 years. Also, Starbucks has estimated
that the after-tax terminal value in year 9 dollars will be $12.6M. This value is the present value of all
cash flows in year 10 and beyond. What is the NPV of opening this new store if the appropriate
discount rate is 8.50%? (Again, all cash flows except initial investments happen at the end of the

year. You are strongly encouraged to use a spreadsheet.) (Enter just the number in dollars without
the $ sign or a comma and round off decimals to the closest integer, i.e., rounding $30.49 down to
$30 and rounding $30.50 up to $31.)
Answer for Question 7

Question 8
(20 points) Big Blue Granite (BBG) needs to purchase a new saw for creating their top quality
countertops. Saw A costs $260,000 with $4,000 of annual maintenance costs for the first year that
will increase by 6.0% each year for the 7-year life of the saw. Saw B costs $120,000 with $4,000 of
annual maintenance costs for the first year that will increase by 12.5% each year for the 4-year life of
the saw. Which saw should BBG choose? What is the annualized cost of this choice? Assume a
discount rate of 13.0%, and ignore all taxes.
B, $134,066

A, $63,451

A, $280,621

B, $45,072

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my own work.

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