only problem 8 Rule 3 of discounted cash flow (DCF) says to move money forward o

Question

only problem 8 Rule 3 of discounted cash flow (DCF) says to move money forward on time unit, multiply by 1 plus the interest rate ($1000 today = $1000×(1+TVOM) in a yr). Rule 4 says to move money backward one time unit, divide by 1 plus the interest rate ($1,200 in a yr =$1,200/(1+TVOM) today

(b) Should Barbare and Fred go with WSI or S5? Why? o wit wST LecoSe is current is loor. & Suppose of we have 2 proposals (A and B) available for investment. For proposal A we need to invest $10,000 today and we will receive $12,000 in 1 year. For proposal B, we need to invest $11,000 today and we will receive $13,125 in 1 year. This information can be seen on the Table below. Assume that we will only invest our money if we have a return at least greater than $100. $10,000 $12.00 -$11,000 $13.125 | (a) Assuming we have a TVOM of 10%, which proposal should we choose and how much will be our return? Please, specify if you are using Rule#3 or Rule#4 of DCF. (b) Assuming now we have a TOM of 15%, which proposal should we choose and how much will be our return? Please, specify if you are using Rules or Rule#4 of DCF (c) Assuming now we have a TVOM of 20%, which proposal should we choose and how much will be our return? Please, specify if you are using Rule#3 or Rule#4 of DCF.

Explanation / Answer

8.

A.

TVOM = 10%

For proposal A, the net present value = 12000/(1+10%) – 10000 = $909.09

For proposal B, the net present value = 13125/(1+10%) – 11000 = $931.83

So, proposal B will be selected due to higher return and the return will be $931.83. Rule 4 of DCF is used to calculate the net present worth of the investment.

B.

TVOM = 15%

For proposal A, the net present value = 12000/(1+15%) – 10000 = $434.78

For proposal B, the net present value = 13125/(1+15%) – 11000 = $413.04

So, proposal A will be selected due to higher return and the return will be $434.78. Rule 4 of DCF is used to calculate the net present worth of the investment.

C.

TVOM = 20%

For proposal A, the net present value = 12000/(1+20%) – 10000 = 0

For proposal B, the net present value = 13125/(1+20%) – 11000 = -$62.5

So, no proposal will be selected as proposal A will offer $0 return and proposal B offers negative return. Rule 4 of DCF is used to calculate the net present worth of the investment.

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