Discounted Cash Flow Valuation Concepts
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Discounted Cash Flow Valuation Concepts

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Questions and Answers

What will be the total value in the account at the end of 3 years if you deposit $4,000 at the end of each year for three years and start with $7,000?

  • $18,500.00
  • $20,000.00
  • $23,547.87
  • $21,803.58 (correct)

    • The future value of a cash flow is calculated by multiplying the present value by the interest rate.

    False

    What is the future value of $7,000 after three years at an 8% interest rate?

    $8,817.98

    The formula to calculate future value for an amount deposited in Year 1 is ______.

    <p>$4,000(1.08)^2</p> Signup and view all the answers

    Match the type of cash flow with its description:

    <p>Annuity = A series of equal payments made at regular intervals Perpetuity = A cash flow that continues indefinitely Future Value = The value of an investment at a specific point in the future Present Value = The current worth of a future cash flow or series of cash flows</p> Signup and view all the answers

    Which of the following is true regarding interest rates?

    <p>The way interest rates are quoted can lead to misunderstandings.</p> Signup and view all the answers

    Loan amortization involves paying off a loan through equal payments over its term.

    <p>True</p> Signup and view all the answers

    What is the future value of $4,000 deposited at the end of Year 2 in an account paying 8% interest?

    <p>$4,320.00</p> Signup and view all the answers

    What is the present value of the cash flow of $600 received in year 3 if the interest rate is 12 percent?

    <p>$427.07</p> Signup and view all the answers

    The total present value of the cash flows is calculated by adding the present values of all individual cash flows.

    <p>True</p> Signup and view all the answers

    What is the formula used to calculate the present value of a cash flow?

    <p>$CF / (1 + r)^n</p> Signup and view all the answers

    To find the present value of each cash flow, you divide the cash flow amount by ________ raised to the power of the year.

    <p>(1 + r)</p> Signup and view all the answers

    Match the cash flows with their corresponding present values:

    <p>Year 1: $200 = $178.57 Year 2: $400 = $318.88 Year 3: $600 = $427.07 Year 4: $800 = $508.41</p> Signup and view all the answers

    If an investment gives you $800 in year 4, what is the present value of that cash flow at a 12 percent interest rate?

    <p>$508.41</p> Signup and view all the answers

    If you invest $1000 at an interest rate of 8 percent, the balance will decrease after five years due to the interest.

    <p>False</p> Signup and view all the answers

    How much is the total present value of the cash flows: $200, $400, $600, and $800 at a 12 percent interest rate?

    <p>$1,432.93</p> Signup and view all the answers

    What is the present value of receiving $1,000 in one year at a 10% interest rate?

    <p>$909.09</p> Signup and view all the answers

    To receive $75 in two years with a required return of 15%, you should be willing to invest more than $56.71 today.

    <p>False</p> Signup and view all the answers

    What is the total present value of receiving $1,000 in one year, $2,000 in two years, and $3,000 in three years at 10%?

    <p>$4,815.92</p> Signup and view all the answers

    If you desire an interest rate of 12 percent, you would need to find the present value of receiving __________ payment for five years.

    <p>annual</p> Signup and view all the answers

    What is the present value of receiving $75 in two years using a 15% return rate?

    <p>$56.71</p> Signup and view all the answers

    How much will you have in three years if you deposit $100 in one year, $200 in two years, and $300 in three years at an interest rate of 7%?

    <p>$628.49</p> Signup and view all the answers

    The sum of present values can exceed the initial investment amount when calculating returns over multiple years.

    <p>True</p> Signup and view all the answers

    If you invest $500 today and $600 one year later in a mutual fund that pays 9% annually, your total future value in two years will be $1,248.05.

    <p>True</p> Signup and view all the answers

    How much would you be willing to contribute today if you will receive five annual payments of $25,000 each in 40 years at a 12 percent interest rate?

    <p>Present value calculation required</p> Signup and view all the answers

    Match the following investment options with their calculated present values:

    <p>$1,000 in 1 year = $909.09 $2,000 in 2 years = $1,652.89 $75 in 2 years = $56.71 $3,000 in 3 years = $2,253.94</p> Signup and view all the answers

    What is the future value of a $200 deposit made in two years at a 7% interest rate after one year?

    <p>$214.00</p> Signup and view all the answers

    If you deposit $100 in one year and $300 in three years, the total future value at the end of three years is _____ when compounded at 7%.

    <p>$628.49</p> Signup and view all the answers

    Match the following amounts with their corresponding future values at a 9% interest rate in two years:

    <p>$500 = $594.05 $600 = $654.00 Total Future Value = $1,248.05</p> Signup and view all the answers

    What is the future value of a $500 investment made today after two years at a 9% interest rate?

    <p>$594.05</p> Signup and view all the answers

    The formula used to calculate future value involves multiplying the amount by (1 + interest rate) raised to the power of the number of years.

    <p>True</p> Signup and view all the answers

    If no further deposits are made after the initial investments, what will be the future value after 5 years from the original investment of $500 in a mutual fund at 9%?

    <p>$1,248.05</p> Signup and view all the answers

    What is an ordinary annuity?

    <p>An annuity with payments at the end of each period</p> Signup and view all the answers

    A perpetuity refers to a series of payments that continues indefinitely.

    <p>True</p> Signup and view all the answers

    What must match in annuity calculations for accurate results?

    <p>Interest rate and time period</p> Signup and view all the answers

    The annual salary of the individual buying the house is $________.

    <p>36,000</p> Signup and view all the answers

    Match the type of payment with its definition:

    <p>Ordinary Annuity = Payments at the end of the period Annuity Due = Payments at the beginning of the period Perpetuity = Infinite series of payments Monthly Mortgage Payment = Monthly cost based on income</p> Signup and view all the answers

    How much can you borrow if you can afford $632 per month at a 1% interest rate for 48 months?

    <p>$140,105</p> Signup and view all the answers

    The bank's allowed monthly mortgage payment is calculated as 25% of monthly income.

    <p>False</p> Signup and view all the answers

    What are cash inflows considered in financial calculations?

    <p>Positive</p> Signup and view all the answers

    Study Notes

    Key Concepts in Discounted Cash Flow Valuation

    • Understand future and present value calculations for investments with multiple cash flows.
    • Learn to calculate loan payments and determine interest rates.
    • Explore loan amortization and its impact on repayment schedules.
    • Gain insight into how interest rates are quoted and interpreted.

    Future Value of Multiple Cash Flows

    • Future Value (FV) is calculated for each cash flow and then summed together.
    • Example: With an initial deposit of 7,000andannualdepositsof7,000 and annual deposits of 7,000andannualdepositsof4,000 at 8% interest, total value after 3 years is $21,803.58.
    • Future cash flows can also be analyzed separately to track their growth based on the interest rate.

    Present Value of Multiple Cash Flows

    • Present Value (PV) discounts future cash flows back to today’s value using a specific interest rate.
    • Example: An investment paying 200,200, 200,400, 600,and600, and 600,and800 over four years at 12% would have a PV of $1,432.93.
    • Important to apply the discounting formula accurately: PV = CF / (1 + r)^n.

    Annuities and Perpetuities

    • An annuity is a series of equal payments made at regular intervals, while a perpetuity provides infinite equal payments.
    • Ordinary annuities pay at the end of each period; annuity due payments occur at the beginning.
    • Basic formulas can determine the present value of these cash flows.

    Importance of Matching Rates and Time Periods

    • Ensure that the interest rate and time period used in calculations are consistent (annual, monthly, etc.).
    • Cash inflows should be treated as positive and cash outflows as negative in calculations.

    Loan Payment Calculations

    • Monthly mortgage payments typically represented as a percentage of income can determine maximum loan amounts.
    • Example: An individual with a monthly income of 3,000canaffordan3,000 can afford an 3,000canaffordan840 monthly payment, leading to a loan amount of approximately $140,105.

    Investment Decisions

    • Evaluating whether to accept an investment opportunity requires comparing the present value of expected cash flows to the upfront cost.
    • Factors like required return rates (e.g., 15%) and future cash flows need to be considered in decision-making.

    Saving for Retirement

    • When planning for retirement, consider future cash flows and determine how much to invest today based on expected interest rates and time frames.

    Practical Applications

    • Use calculators and software (like Excel) for solving complex present and future value scenarios effectively.
    • Understand the practical implications of financing decisions in various contexts such as mortgages, investments, and retirement planning.

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    Description

    This quiz covers key principles of discounted cash flow valuation, including future and present value calculations for investments with multiple cash flows. You will learn how to calculate loan payments, determine interest rates, and understand loan amortization and its effects on repayment schedules. Dive into practical examples to reinforce your understanding of these critical financial concepts.

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