Solved problems see attachment
5. Bill Clinton reportedly was paid an advance of $10.0 million to write his book My Life. Suppose the book took three years to write. In the time he spent writing, Clinton could have been paid to make speeches. Given his popularity, assume that he could earn $7.8 million a year (paid at the end of the year) speaking instead of writing. Assume his cost of capital is 10.2% per year.
a. What is the NPV of agreeing to write the book (ignoring any royalty payments)?
b. Assume that, once the book is finished, it is expected to generate royalties of
$5.1 million in the first year (paid at the end of the year) and these royalties are expected to decrease at a rate of 30% per year in perpetuity. What is the NPV of the book with the royalty payments?
6. You are considering an investment in a clothes distributer. The company needs $110,000
today and expects to repay you $122,000 in a year from now. What is the IRR of this investment opportunity? Given the riskiness of the investment opportunity, your cost of capital is 12%.
7. You are considering opening a new plant. The plant will cost $100.0 million upfront and will take one year to build. After that, it is expected to produce profits of $30.0 million at the end of every year of production. The cash flows are expected to last forever. Calculate the NPV of this investment opportunity if your cost of capital is 8.0%.
Should you make the investment? Calculate the IRR. Does the IRR rule agree with the NPV rule?
Here is the cash flow timeline for this problem:
The timeline starts at Year 0 and goes on forever. It shows a cash flow of -100.0 in Year 0 and cash flows of 30.0 each year starting from Year 2, which continue forever. All the cash flows are in millions of dollars.
Years
0
1
2
3
4
Forever
Cash Flow ($ million)
−100.0
30.0
30.0
30.0
30.0
Calculate the NPV of this investment opportunity if your cost of capital is
8.0%.
The NPV of this investment opportunity is
$enter your response here
million.
8. You are a real estate agent thinking of placing a sign advertising your services at a local bus stop. The sign will cost $6,000 and will be posted for one year. You expect that it will generate additional revenue of
$660 a month. What is the payback period?
The payback period is ____ months?
9. Natasha’s Flowers, a local florist, purchases fresh flowers each day at the local flower market. The buyer has a budget of $1,000
per day to spend. Different flowers have different profit margins, and also a maximum amount the shop can sell. Based on past experience the shop has estimated the following NPV of purchasing each type:
|
NPV per bunch |
Cost per bunch |
Max. Bunches |
|
|
Roses |
$3 |
$20 |
25 |
|
Lilies |
$8 |
$30 |
10 |
|
Pansies |
$4 |
$30 |
10 |
|
Orchids |
$20 |
$80 |
5 |
What combination of flowers should the shop purchase each day?
The profitability index for each choice is: (Round to three decimal places.)
|
NPV per bunch |
Cost per bunch |
Max. Bunches |
Profitability Index (per bunch) |
|
|
Roses |
$3 |
$20 |
25 |
enter your response here |
10. Andrew Industries is contemplating issuing a 30-year bond with a coupon rate of
9.86% (annual coupon payments) and a face value of $1,000. Andrew believes it can get a rating of A from Standard and Poor’s. However, due to recent financial difficulties at the company, Standard and Poor’s is warning that it may downgrade Andrew Industries bonds to BBB. Yields on A-rated long-term bonds are currently 9.36%, and yields on BBB-rated bonds are 9.76%.
a. What is the price of the bond if Andrew maintains the A rating for the bond issue?
b. What will the price of the bond be if it is downgraded?
a. What is the price of the bond if Andrew maintains the A rating for the bond issue?
The price of the bond maintaining the A rating is $ _____ (Round to the nearest cent.)
