Question 1. 1. Which of the following statements regarding the valuing of costs and benefits is not correct? (Points : 10)

The first step in evaluating a project is to identify its costs and benefits.

In the absence of competitive markets, we can use one-sided prices to determine exact cash values.

Competitive market prices allow us to calculate the value of a decision without worrying about the tastes or opinions of the decision maker.

Because competitive markets exist for most commodities and financial assets, we can use them to determine cash values and evaluate decisions in most situations.

Question 2. 2. A project you are considering is expected to provide benefits worth $225,000 in one year. If the risk-free rate of interest (rf) is 8%, then the value of the benefits of this project today are closest to __________. (Points : 10)

$190,333

$208,333

$225,000

$243,000

$190,333

$208,333

$225,000

$243,000

Question 3. 3. If the risk-free rate of interest (rf) is 6%, then you should be indifferent between receiving $250 today or: (Points : 10)

$235.85 in one year.

$250.00 in one year.

$265.00 in one year.

none of these.

Question 4. 4. The owner of the Krusty Krab is considering selling his restaurant and retiring. An investor has offered to buy the Krusty Krab for $350,000 whenever the owner is ready for retirement. The owner is considering the following three alternatives: 1. Sell the restaurant now and retire. 2. Hire someone to manage the restaurant for the next year and retire. This will require the owner to spend $50,000 now, but will generate $100,000 in profit next year. In one year the owner will sell the restaurant. 3. Scale back the restaurant’s hours and ease into retirement over the next year. This will require the owner to spend $40,000 on expenses now, but will generate $75,000 in profit at the end of the year. In one year the owner will sell the restaurant. If the interest rate is 7%, the alternative with the highest NPV is: (Points : 10)

alternative #1 with an NPV of approximately $350,000.

alternative #2 with an NPV of approximately $370,561.

alternative #3 with an NPV of approximately $357,196.

alternative #2 with an NPV of approximately $380,561.

Question 5. 5. Which of the following statements regarding arbitrage and security prices is incorrect? (Points : 10)

We call the price of a security in a normal market the no-arbitrage price for the security.

In financial markets it is possible to sell a security you do not own by doing a short sale.

When a bond is underpriced, the arbitrage strategy involves selling the bond and investing some of the proceeds.

The general formula for the no-arbitrage price of a security is Price(security) = PV(all cash flows paid by the security).

Question 6. 6. Suppose that a security with a risk-free cash flow of $1,000 in one year trades for $930 today. If there are no arbitrage opportunities, then the current risk-free rate is closest to __________. (Points : 10)

6.0%

6.5%

7.0%

7.5%

8.0%

Question 7. 7. At an annual interest rate of 7%, the future value of $5,000 in five years is closest to __________. (Points : 10)

$3,565

$6,750

$7,015

$7,035

Question 8. 8. If the current rate of interest is 8%, then the present value of an investment that pays $1,000 per year and lasts 20 years is closest to __________. (Points : 10)

$18,519

$45,761

$9,818

$20,000

Question 9. 9. Suppose that a young couple has just had their first baby and they wish to ensure that enough money will be available to pay for their child’s college education. Currently, college tuition, books, fees, and other costs average $12,500 per year. On average, tuition and other costs have historically increased at a rate of 4% per year. Assuming that costs continue to increase an average of 4% per year, tuition and other costs for one year for this student in 18 years when she enters college will be closest to __________. (Points : 10)

$12,500

$21,500

$320,568

$25,323

Question 10. 10. Nielson Motors is considering an opportunity that requires an investment of $1,000,000 today and will provide $250,000 one year from now, $450,000 two years from now, and $650,000 three years from now. If the appropriate interest rate is 10%, then Nielson Motors should: (Points : 10)

invest in this opportunity since the NPV is positive.

not invest in this opportunity since the NPV is positive.

invest in this opportunity since the NPV is negative.

 not invest in this opportunity since the NPV is negative.