MANAGERIAL FINANCE

Financial Mathematics and Security Valuation

Task Detail
General Information

• You must have the correct answer and a correct explanation/working

• Some questions have more than one part, you must get all parts correct
• Format: Calculation and brief working or short answer.
• Word Limit: A few pages (500 words as a very rough guide; mostly calculations)
• Make sure to highlight or underline your final answer/s. (e.g. Answer = $5089)
• Include cash flow maps or tables wherever possible.
• Avoid rounding error.

Question 1

Now that they have accumulated a deposit of 55,000 Jack and Jill take out a housing loan to
purchase a home. The house costs $755,000. It is to be repaid in equal monthly instalments
over a term of 30 years. The interest rate quoted by the bank is an effective annual rate is
7.5%pa. Jack has lost the paperwork showing the annual nominal rate (j 12 ) with monthly
compounding.

i. How much is the monthly repayment?

ii. How much do Jack and Jill owe the bank immediately before making the 130th
repayment?
iii. After making the 150th repayment Jack and Jill receive an amount of $50,000, which
they use to reduce their loan. The bank allows them to make the same monthly
payment. How much will the term of the loan be reduced by if the interest rate
remains the same?

(Answers to parts (i) and (ii) must be accurate to the nearest dollar; part (iii) answer
should be rounded up to the next whole month)

Question 2

Today is Stanley’s 55th birthday. He plans to retire on his 65th birthday. He wants to put
aside the same sum of money every birthday (starting today) up to and including his 65th. He
then wants to be able to withdraw $9000 every birthday (starting with his 66th) up to and
including his 85th birthday. He believes that an interest rate of 7% pa is a reasonable estimate
of the opportunity cost of funds. How much does he need to put away each birthday?

(Your answers should be as a percentage accurate to one basis point) - the answer should
be to the nearest dollar.

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Question 3

A perpetuity with the first annual cash flow paid at the beginning of year 4 is equivalent to
receiving $103,000 in 15 years’ time. Assume that the perpetuity and the lump sum are of
equivalent risk and that j12 = 14.32% pa is the appropriate interest rate. How much is the
annual cash flow associated with the perpetuity?
(Accurate to the nearest dollar)

Question 4

Many creditors of your firm offer early payment discounts. The accounts payable supervisor
does not believe in paying early “as the bank overdraft rate of j 12 = 8% pa is more than the
average 2% offered for payment within 10 days from date of invoice”. The supervisor
stretches the accounts to 40 days from the last date of early payment discount. If average
creditors terms are 2%, 10: net 30, what is the minimum number of days beyond the net date
that accounts must be stretched to make stretching a viable alternative? Use the effective
annual rate approach as described on pages 773-774 of your textbook (11th edition).

(Round part of a day up to a full day before finalising your answer, e.g. t = 63.12 days is 64
days)

Question 5

A ninety day bank bill with 90 days to maturity has a price of $99427.95. What is the effective annual
yield implied by this price and maturity? Be careful I am not asking for the annual nominal yield,
which by convention is normally quoted in financial markets.

(Your answers should be as a percentage accurate to one basis point) the price of the bill
implies a Face Value of 100,000.

Question 6

Polycorp Treasury a company in the land of Zanadu is holding a parcel of Zanadu Government
Bonds with a face value of $2,000,000. The bonds were issued seven years and nine months
ago and still have two years and three months to maturity. They pay a coupon rate of interest
of 6.25% pa, with interest being paid semi-annually. Currently the market yield quoted for
Zanadu bonds is 4.62% pa. The convention in Zanadu financial markets is that the market
yield and coupon rate are quoted as annual nominal rates. What is the current market value of
the bonds?

(In dollars accurate to three decimal places)

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Question 7

Polycorp has a current dividend of $5.00 due tomorrow and is expected to pay a dividend $5.50 at the
end of the first year. Its dividend is expected to grow at 8% pa for the following year. Dividends are
then expected to grow at 4% pa for another two years. Then they are expected to grow at 3.5%pa
forever after that. Shareholders required return on equity is 11.85% pa. What is the current price
(cum-dividend) of Polycorp shares?

(Accurate to the nearest cent)

Question 8

Gamma Ltd is not expecting to pay dividends for three years, at the end of year four, a dividend of
$2.45 is planned and dividends are expected to be constant forever after that. The required rate of
return for Gamma Ltd equity is j4 = 12.25% pa. What is the expected price (cum-dividend) of Gamma
Ltd’s shares at the beginning of year eight? Explain your logic.

(Accurate to the nearest cent)

Question 9

Mooncorp Insurance has quoted you an annual premium to insure your car of $3100. You are offered
a 15% discount if you pay the lump sum immediately. They also offer an alternative payment method.
You can pay the account in full by making 12 equal beginning of the month payments of $270, rather
than the lump sum. What is the effective annual opportunity cost of paying monthly?

You must provide one complete manual calculation of the IRR to demonstrate that you understand the
process. Failure to follow this instruction will attract a mark of zero.

(Accurate to one basis point)

Question 10

One of your customers is having trouble paying her account. You agree to a repayment schedule of
$300 per month. You charge 1% per month interest on late accounts. If the current balance is $2000,
how long will it take to pay off the debt?

(In months round to the next month)

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 Marking Criteria
Criteria
Problem solving - Questions Selects techniques that meet all context requirements

Technical skills - Questions Consistently performs complex techniques correctly

Understanding and use of Outstanding range and depth of multiple links to

concepts - Questions suggested models and concepts

Analysis - Questions Can analyse a range of data and situations correctly

using appropriate techniques

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