CORPORATE FINANCE – MIDTERM EXAM

QUESTION

You have $20,000 you want to invest for the next 40 years. You are offered an investment
plan that will pay you 7 percent per year for the next 20 years and 11 percent per year for the
last 20 years.
a) How much will you have at the end of the 40 years? (3 points)
b) Does it matter if the investment plan pays you 11 percent per year for the first 20 years
and 7 percent per year for the next 20 years? Why or why not? (3 points)
c) What are your conclusions? (4 points)
 CORPORATE FINANCE – MIDTERM EXAM

NAME : RANGGA HANDIKA

STUDENT ID : 12345678

ANSWER

(EXCELLENT 90 – 100%)

a)
PV = 20,000 ;
NPER1 = 20 ; RATE1 = 7%
NPER2 = 20 ; RATE1 = 11%
FV20 = FV(0.07,20,0,-20000) = 77,393.69.
PV40 = FV(0.11,20,0,- 77393.69) = 623,972. (rounding)

You can do the calculation in the spreadsheet or calculator. Please type some steps in the
Moodle answer space.

b)
PV = 20,000 ;
NPER1 = 20 ; RATE1 = 11%
NPER2 = 20 ; RATE1 = 7%
FV20 = FV(0.11,20,0,-20000) = 161,246.23.
PV40 = FV(0.07,20,0,-161246.23) = 623,972. (rounding)

You can do the calculation in the spreadsheet or calculator. Please type some steps in the
Moodle answer space.

Both a) and b) will result in the same final numbers (FV40) because of the associative
property of multiplication.
(1+0.07)^20 * (1+0.11)^20 * 20000 = (1+0.11)^20 * (1+0.07)^20 * 20000

c) According to Ross et al. (2015), the compounding will be the same for different rates at
two different but the same length periods. In this case, period 1 and period 2 are both 20
years. But period with different years can provide almost similar results if the
compounding rates are not very different or close to zero. An example if Japan with close
to zero inflation or growth (The Japan Times, 2020).

Of course, you can use additional references. But, make sure that your argument is strong
(i.e., logic and supported by reliable references/data).

References

Ross, S.A., Westerfield, R.W., Jordan, B.D., Wong, R. and Wong, B. 2015. Essentials of
Corporate Finance Asia Global Edition. McGraw-Hill Education: New York, USA.
The Japan Times, 2020. https://www.japantimes.co.jp/news/2019/03/04/business/economy-
business/flat-line-japan-inflation-barometer-points-zero-price-growth-
summer/#.Xorwe4gzbIU, viewed April 6, 2020.
 CORPORATE FINANCE – MIDTERM EXAM

NAME : RANGGA HANDIKA

STUDENT ID : 12345678

ANSWER

(POOR < 60%)

a) 623,972.

No calculation step here. How can we know that the student really understands?

b) 623,972.

No calculation step here. How can we know that the student really understands?

c) The results are the same because it is multiplications of both 20 years period. If we
multiply 20 and 20, we will get 400. If we multiply 20 and 20, we will also get 20. This is
called the multiplication rule/law so that we obtain a) and b) both 623,972. You can try
detailed calculations as follows: 20 x 20 = 400. And 400/20 = 20. The impact on
compounding, as we have seen in the answers a and b. (1+R) and R = interest rate to the
power of 20. In the end, both compounding rates will be multiplied, and given the present
value of 20,000 will bring the future value as both 623,972. This is the explanation and
conclusion after my calculations in both a) and b). Whether you do the compounding in
Japan, in Europe, or in the US, you will obtain the same results.