Chapter 26: Q16RQ (page 1464)
Question: What is an annuity? How does it differ from a lump sum payment?
Answer
An annuity is an equal monetary payment, while a lump sum payment is a one-time payment.
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How is ARR calculated?
You are planning for a very early retirement. You would like to retire at age 40 and have enough money saved to be able to withdraw \(215,000 per year for the next 40 years (based on family history, you think you will live to age 80). You plan to save by making 10 equal annual installments (from age 30 to age 40) into a fairly risky investment fund that you expect will earn 10% per year. You will leave the money in this fund until it is completely depleted when you are 80 years old.
Requirements
1. How much money must you accumulate by retirement to make your plan work? (Hint:Find the present value of the \)215,000 withdrawals.)
2. How does this amount compare to the total amount you will withdraw from the investment during retirement? How can these numbers be so different?
How is IRR calculated with equal net cash inflows?
Question: Using payback to make capital investment decisions Consider the following three projects. All three have an initial investment of \(800,000.
| Net Cash Inflows | ||||||
| Project L | Project M | Project N | ||||
Year | Annual | Accumulated | Annual | Accumulated | Annual | Accumulated |
1 | \) 100,000 | \( 100,000 | \) 200,000 | \( 200,000 | \) 400,000 | $ 400,000 |
2 | 100,000 | 200,000 | 250,000 | 450,000 | 400,000 | 800,000 |
3 | 100,000 | 300,000 | 350,000 | 800,000 | ||
4 | 100,000 | 400,000 | 400,000 | 1,200,000 | ||
5 | 100,000 | 500,000 | 500,000 | 1,700,000 | ||
6 | 100,000 | 600,000 | ||||
7 | 100,000 | 700,000 | ||||
8 | 100,000 | 800,000 | ||||
Requirements
List some common cash inflows from capital investments.
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