Chapter One

Accounting Information for Decision Making

Return on investment
It is a financial ratio used to calculate the benefit an investor will receive in
relation to their investment cost.
Return of investment
A principle amount invested in organization by investor and investor is expecting
that amount will be payback or return on some future date (maturity)

Interest or return on investment calculation formula

A = P (1 + rt )

A = final interest amount

P = initial principal balance
r/i = annual interest rate
t = time (in years)

Year converted into semiannually, quarterly and monthly

Semiannually = 6 months period = 2 semiannually in year

Quarterly = 3 month period = 4 quarter in years
Monthly = 1month period = 12 months in year

QUESTION 1 You recently invested $500,000 of your savings in a security issued by a large
company. The security agreement pays you 18 percent per year and has a maturity FIVE years
from the day you purchased it. What is the total cash flow you expect to receive from this
investment, if compounded semiannually separated into the return on your investment and the
return of your investment?
Solution
Investment /principle amount = $500000
Interest rate = 18% per year
Maturity years = 5 years
Return on your investment =?
Return of your investment =?

For Semiannually
Interest = 18/2= 9%
Maturity time = 5 years = 5x2=10 times
You expect cash flows from your investment:
Return of investment (at maturity) ……………………………………………. $500,000
Return on investment (semiannually, as stated in your investment Agreement
($500,000 X9 % X 10 times) ……………………………………… $450000
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Total expected cash flow …………………………………………………….. $950000

The return of your investment will come at one time—5 years later at the maturity
Date.
The return on the investment can come in different patterns.

Return on investment on annually, monthly, quarterly and after 5 years calculated as below
 Return on investment (periodically/after 5 years)
($500,000 X18% X 5 years) = $450000 one time
 If it is annually, you would receive
($500,000X 18%) =$90,000 5times.
 If it is monthly, you would receive
($500,000 X 18% X 1/12)= 7500 60times
 If it is quarterly , you would receive
($500,000 X 4.5% )= 22500 20 times

Question 2
You recently invested $650,000 of your savings in a security issued by a large company. The
security agreement pays you 12.5 percent per year and has a maturity FIVE years from the day you
purchased it.
Required

1. What is the total cash flow you expect to receive from this investment, if compounded
semiannually make a proper chart of return on investment.
2. What will be the situation of the investment if you want to with draw after the period of 3
years? Will the investor receive the profit or not?

Solution
Investment /principle amount = $650000
Interest rate = 12.5% per year
Maturity years = 5 years
Return on your investment =?
Return of your investment =?

For Semiannually
Interest = 12.5/2= 6.25%
Maturity time = 5 years = 5x2=10

You expect two cash flows from your investment:

Return of investment (at maturity) ……………………………………………. $650,000
Return on investment (periodically, as stated in your investment
Agreement ($650,000 X6.25% X 10 years) …………………………………… $406250
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Total expected cash flow …………………………………………………….. $1056250
QUESTION 3 You recently invested $400,000 of your savings in a security issued by a large
company. The security agreement pays you 12.5 percent per year and has a maturity FIVE
years from the day you purchased it. What is the total cash flow you expect to receive from
this investment, if compounded quarterly, separated into the return on your investment?

QUESTION 4 You recently invested $300,000 of your savings in a security issued by a large
company. The security agreement pays you 8 percent per year and has a maturity 2years
from the day you purchased it. What is the total cash flow you expect to receive from this
investment, separated into the return on your investment?

QUESTION 5 You recently invested $300,000 of your savings in a security issued by a large
company. The security agreement pays you 6.5% semi-annually and 3% on quarterly basis
and has a maturity 6years from the day you purchased it.
What is the total cash flow you expect to receive from this investment, if compounded
semiannually for the first 3years and on quarterly basis for the 3 years, separated into the
return on your investment?

QUESTION 6 Khalid recently invested $80,000 of your savings in a security issued by a

large company. The security agreement pays you 12% per year and has a maturity 3years
from the day you purchased it. What is the total cash flow Khalid expect to receive from
this investment after 3 years?