GUERRERO, LEIGH FRANCIS - GC21

Department of Civil Engineering

Ateneo de Naga University

PROBLEM SET 6 ( Group 2 )

EVALUATING A SINGLE PROJECT

Problem 1 Stan Moneymaker has the opportunity to purchase a certain U.S. Treasury bond
that matures in eight years and has a face value of 10,000. This means that Stan will receive
10,000 cash when the bond’s maturity date is reached. The bond stipulates a fixed nominal
interest rate of 8% per year, but interest payments made to the bondholder every three months,
therefore, each payment amounts to 2% of face value. Stan would like to earn 10% nominal
interest (compounded quarterly) per year on his investment, because interest rates in the
economy have risen since the bond was issued. How much should Stan be willing to pay for the
bond?
Given:
C = Z = Php 10,000.00
r=2%
i = 10 % / 4 = 2.5 % per quarter
8 * 4 = 32 quarters of the bond’s life
Solution:

( PF ,i % , N )+ rZ ( PA , i % , N )
V N =C

P P
V =10,000 ( , 2.5 % , 32 )+ ( 0.02 )( 10,000 ) ( ,2.5 % ,32 )
N
F A

−32 (1+0.025)32−1
V N =10,000 ( 1+0.025 ) + ( 0.02 ) ( 10,000 ) [ ]
0.025(1+ 0.025)32
V N =4,537.71+ 4,369.84

V N =$ 8,907.55
Stan should be willing to pay $ 8,907.55 for the bond.
Problem 2 A bond with a face value of Php 5,000 pays interest of 8% per year. This bond
will be redeemed at par value at the end of its 20-year life, and the first interest payment is due
one year from now.
a) How much should be paid now for this bond in order to receive a yield of 10% per year
on the investment?
b) If this bond is purchased now for Php 4,600, what annual yield would the buyer receive?
Given:
GUERRERO, LEIGH FRANCIS - GC21
Department of Civil Engineering
Ateneo de Naga University

C = Z = Php 5,000.00
r=8%
i = 10 %
N = 20
Solution:

V N =C ( PF ,i % , N )+ rZ ( PA , i % , N )
a)

V N =5,000 ( PF , 10 % , 20)+(0.08)(5,000)( PA , 10 % ,20)

−20 ( 1+ 0.1 )20−1
V N =5,000( 1+ 0.1) + ( 0.08 )( 5,000 ) [ 20
]
0.1 ( 1+0.1 )
V N =743.22+3,405.43

V N =$ 4,148.65
In order to receive a yield of 10% per year on the investment, he/she should pay $
4,148.65.

b) V N =4,600
( 1+i )20−1
4600=5,000 ( 1+ i )−20+(0.08)(5,000)[ 20
]
i ( 1+ i )
4600 ( 1+0.1 )20−1
=(1+ 0.1)−20+ ( 0.08 ) [ 20
]
5000 0.1 ( 1+ 0.1 )
4600 1 0.8 0.08
= + −
5000 (1+i) 20
i i (1+i)20
i=0.08868=8.868 %
The annual yield that the buyer would receive is 8.868 %.
Problem 3 Josh Ritchey has just been hired as a cost engineer by a large airlines company.
Josh’s first idea is to stop giving complimentary cocktails, wine, and beer to the international
flying public. He calculates this will save 5,000,000 drinks per year, and each drink costs $0.50,
for a total of $2.5 million per year. Instead of complimentary drinks, Josh estimates that the
airlines company can sell 2,000,000 drinks at $5.00 per drink. The net savings would amount to
$12.5 million per year! Josh’s boss really likes the idea and agrees to give Josh a lump-sum
bonus now equaling 0.1% of the present equivalent worth of three years of net savings. If the
company’s MARR is 20% per year, what is Josh’s bonus?
Given:
GUERRERO, LEIGH FRANCIS - GC21
Department of Civil Engineering
Ateneo de Naga University

Net Savings = 12.5 million

MARR = 20 %
n=3
Solution:
Present Value of Annuity Formula

1−(1+r )−n
A=P[ ]
r

1−( 1+ 0.2 )−3

A=12.5 [ 0.02 ]
=12.5 ( 2.106 )

A=26.331million
Josh’s bonus = 0.1 % of Present Value of three year’s net savings

¿ 26.331 million ( 0.001 )

¿ $ 0.02633101852million=$ 26,331.019
Josh’s bonus is $ 26, 331.019
Problem 4  A new municipal refuse-collection truck can be purchased for Php 84,000. Its
expected useful life is six years, at which time its market value will be zero. Annual receipts less
expenses will be approximately Php 18,000 per year over the six-year study period. Use the PW
method and a MARR of 18% to determine whether this is a good investment.  
Given:
I = 84,000
A = 18,000
n=6
Solution:

PW = A ( PA , i% , n)−I
( 1+0.18 )6 −1
PW =18000
[
0.18 ( 1+0.18 )6 ]
−84,000

PW =62,956.84608−84,000=−21, 043.154
Using the PW method, this is not a good investment.
Problem 5 Vidhi is investing in some rental property in Collegeville and is investing her
income from the investment. She knows the rental revenue will increase each year, but so will
GUERRERO, LEIGH FRANCIS - GC21
Department of Civil Engineering
Ateneo de Naga University

the maintenance expenses. She has been able to generate the data that follows regarding this
investment opportunity. Assume that all cash flows occur at the end of each year and that the
purchase and sale of this property are not relevant to the study. If Vidhi’s MARR=6% per year,
what is the FW of Vidhi’s projected net income?
Revenu
Year Year Expenses
e
1 6,000 1 3,100
2 6,200 2 3,300
3 6,300 3 3,500
4 6,400 4 3,700
5 6,500 5 3,900
6 6,600 6 6,100
7 6,700 7 4,300
8 6,800 8 4,500
9 6,900 9 4,700
10 7,000 10 4,900

Given:
A = 2,900
G = 100
F6 = 2,000
Solution:

P0=2,900 ( PA , 6 % , 10)−100 ( GP ,6 % , 9 )( PF , 6 % ,1 )−2000( PF , 6 % , 6)

10 9
( 1+0.06 ) −1 (1+ 0.06 ) −0.06 ( 9 )−1
P0=2,900 [
(
0. 06 (1+ 0.06 )
10 ) ([
] −100
( 0.06 ) 2
])
( 1+0.06 ) −2000(1+006)6
−1

P0=17,615.76831

F
FW 10=17,615.76831( , 6 % ,10) = 17,615.76831(1+0.06)10
P
FW 10=34,547.158
The FW of Vidhi’s projected net income is 34,547.158.
Problem 6 A simple, direct space heating system is currently being used in a professional
medical office complex. An upgraded “variable air-volume system“ retrofit can be purchased and
installed for Php 200,000 (investment cost). Its power savings in the future will be 500,000 kilo-
watt hours per year over its estimated life of 8 years. The cost of electricity is Php 0.10 per kilo-
GUERRERO, LEIGH FRANCIS - GC21
Department of Civil Engineering
Ateneo de Naga University

watt hour. If the firm’s cost of capital is 12% per year and the residual value of the system in 8
years is Php 20,000, should the new system be purchased? Use the present worth method.
Given:
I = 200,000
A = 500,000 * 0.10 = 50,000
N=8
i = 12 %
S = 20,000
Solution:

PW = A ( PA , i% , n)+ S( PF , i% ,−n)−I
( 1+0.12 )8−1
PW =50,000
[ ]
0.12 ( 1+ 0.12 ) 8
+20,000(1+ 0.12)−8−200,000

PW =248,381.65+ 8,077.66 – 200,000

PW =56 , 459.65≥ 0
The new system should be purchased.