Corporate Finance: Time Value of Money
1)Please be kind to read below my personal requirement for the essay :
- This essay must be NO less than 2475 words, the assignment itself ( WIthout Reference List ) must be no less than 2200 words.
-Please write the essay in a very simple and direct way , so when I will receive it I can understand its content , and if needed I can do some edit. If the assignment is too technical or complex, I cannot understand it and I cannot edit it, as I am not an expert in the field.
-Please make the assignment also argumentative , do not just write symbols or calculation, but please explain with words and try to argument end to explain the calculations that have been done, so I can also understand what are these calculations for and their meaning.
-Please do not use High Technical language otherwise that can make someone suspicious, but please use simple language to describe the topics.
-Please provide my assessment in WORD document and NOT IN PDF.
-Please use reliable references which I can put into the essay and for which I will not be marked down. You can use also a company website, or a reliable and famous financial website as reference, that will make my life easier when I ll need to edit it. ( If you'll put academic references from book, and you do not write then in the way my College wants , then I ll have to edit it, but it will be hard to edit it as I ll probably will not have all information to reference the way they want), so please use company website or financial official website, so I can easily access to them and check them.
-Pease write the assignment in the following structure and in the following order : 1) Introduction 2)Body 3) Conclusion 4) References List
- Please be aware that my university portal uses Turnitin for detecting plagiarism so please be very careful when writing things which comes from other sources , as Turnitin will immediately detect them and if it will find some similarity they will make me fail the assignment immediately. That's why I would like the assignment to be quite personal and argumentative.
- Please always use third person for the assignment and never write in the first person
2 ) Now that you have my personal requirements for the assignment , I will write below the assessment question :
Time value of money is an important and widely used finance concept. As an individual you are interested in using the time value of money techniques to compare your investment options. You are contemplating whether to invest in shares, bonds, preferred equity, real estate, etc. You have also heard from the Chief Financial Officer (CFO) of your company, that he uses the time value of money techniques to make accept/reject decisions for the company’s projects. The purpose of this activity is to apply the time value of money techniques to evaluate personal as well as organisation investment options as given below. This activity assesses your understanding and application of the material you have learnt in Topics 1, 2, 4 and 5.
Personal investment decisions:
As part of your personal finance, you are planning to buy a house. You have saved $10,000 toward a down payment on a home. The money is invested in an account earning 7% interest. You will be ready to purchase the new home once your savings account grows to $25,000. Approximately how many years will it take for the account to reach $25,000?
You and your spouse are also both planning for retirement. Your spouse plans to invest $1,000 per month into the defined contribution superannuation plan beginning next month. You intend to invest $2,000 per month into your super plan, but your plan is not to begin investing until 10 years after your spouse begins investing. Suppose both of you have just reached the age of 40 and are planning to retire at age 67, and your super plans average a 12% annual return. Who will have more superannuation funds available at retirement?
To supplement your planned retirement, you estimate that you need to accumulate $220,000 in 32 years. You plan to make equal annual end-of-year deposits into an account paying 8% annual interest.
a. How large must the annual deposits be to create the $220,000 fund in 32 years?
b. If you can afford to deposit only $600 per year into the account, how much will you have accumulated by the end of the thirty-second year?
Evaluate your financial plan above and make recommendations.
-Firm’s investment decisions :
Suppose you are working as an external capital budgeting advisor to a highly successful manufacturing firm. You have recently received a proposal for equipment replacement that will presumably lead to more capacity and less cost. The replacement details are given below.
If the new equipment replaces the old equipment, an additional investment of $80,000 in net working capital will be required. The tax rate is 30% and the required rate of return is 10%.
As you work through the NPV and IRR analysis provided by the company, you discover the following errors:
The initial outlay correctly accounts for incremental investment in new fixed capital and net working capital, but after-tax cash proceeds from the sale of old fixed capital are not adjusted.
Annual operating cash flows are not adjusted for tax and depreciation is not added back.
Terminal-year after-tax non-operating cash flows do not recapture investment in net working capital. Also, incremental capital gains on salvage value are not taxed.
You realise that you need to do the entire project feasibility report from scratch. You believe using a spreadsheet will be very helpful for this exercise. Prepare a spreadsheet financial analysis of the proposed project.
Find out the NPV, IRR and profitability index for the replacement proposal. Conduct a sensitivity analysis of NPV to the required rate of return fallin between the range of 10% to 16% pa (with increments of 1%) for the replacement proposal.
Begin the report by briefly explaining your suggested capital budgeting methods and justifying your chosen method. Explain why these criteria are considered superior to the accounting rate of return and payback period used by some firms.
Evaluate the different capital budgeting practices used by developed countries and less developed countries. For this part, you should read the article:
Szucsne Markovics, K 2016, ‘Capital budgeting methods used in some European countries and in the United States’, Universal Journal of Management, vol. 4, no. 6, pp. 348–360.
The article comments on the different capital budgeting methods, both discounted and non-discounted, used by finance managers in Europe and the United States. The article found that the most popular capital budgeting methods used by American companies are net present value and internal rate of return, whereas European companies generally use simple payback period for evaluating their project.
Summarise your findings and present your recommendations.
Corporate Finance
Name
Institutional Affiliation
Corporate Finance
The topic of finance is sensitive to how people handle the money they possess and the time they have. Especially, this is important when looking at finance from the Time Value of Money (TVM) point of view. TVM is an important concept in financial management because it assumes that a dollar in a person’s hand today has value if one makes a wise decision on it. The decision can be to compare investment, solve problems involving loans, or savings. Financial managers assume that the money that a person is holding today is worth more because it can be invested at an interest rate and generate good returns. This is possible through the calculation of the future value of the amount of money that one owns. For instance, if one has 4.00 dollars and decides to invest them at 10% annual interest rate, their future value will be $4.1. The present value of the amount I have now is $4.00, but the future value is $4.01. Conversely, TVM will allow financial managers to determine the present value of money promised in the future provided there is a determined date and the interest rate. It is possible to determine any missing value whenever one is provided with the four of the following: Interest Rate, Number of Periods, Payments, Present Value, and Future Value (Ohio University, n.d.). The importance of TVM technique is that it allows individual to evaluate and make personal investment options or financial managers in organizations to evaluate and make investment options. This assignment discusses the significance of TVM at both personal and organizational levels.
Personal Investments
Example:
As part of your personal finances, you are planning to buy a house. You have saved $10,000 toward a down payment on a home. The money is invested in an account earning 7% interest. You will be ready to purchase the new home once your savings account grows to $25,000. Approximately how many years will it take for the account to reach $25,000?
Solution
I will first pick the values that I have been given in the question.
i=7%=0.07
PV= 10,000 (the present value of the amount I have saved)
FV=25,000 (the future value of the money I need)
n=? (The number of years I need to save)
The formula for calculating the number of periods is
number of periods = natural log [(FV * i) / (PV * i)] / natural log (1 + i)
Source: (Get Objects, n.d.)
Substituting my values in the formula,
N= ln [(25000*0.07)/ (10,000*0.07)]/ln (1+0.07)
= ln (2.5)/ln (1.07)
=13.54 years. This implies that for me to obtain the future value of the money I have now, I will need to save for 13.54 years.
You and your spouse are also both planning for retirement. Your spouse plans to invest $1,000 per month into the defined contribution superannuation plan beginning next month. You intend to invest $2,000 per month into your super plan, but your plan is not to begin investing until ten years after your spouse begins investing. Suppose both of you have just reached the age of 40 and are planning to retire at age 67, and your super plans average a 12% annual return. Who will have more superannuation funds available at retirement?
Solution
Spouse payment (PV)= 1000 per month
Spouse number of periods (n) = 67-40= 27 years (retirement time-present time)
My payment (PV) =2000 per month
My investment period (n)= 67-50 =17 years (retirement time – ten years after spouse started saving)
Annual return rate (r)=12%=0.12
Future value of a spouse
To determine the future value of each payment the spouse is making, one will first compound the future value of each payment that the wife is making using the formula
FV=PV(1+r)nr
Since payments are made monthly, we will need to find the monthly rate by dividing the annual rate with 12 and converting our time into months.
Therefore,
Inserting the values in the equation gives:
FV=1000(1+12%/12)27*1212%/12
=1000(1+0.01)3240.01
=1000(1.01)3240.01
=100025.12610.01
=$2, 512, 610.125
The future value for the spouse will be $2, 512,610.125
Next, is to compute the future value of the savings of the husband using the same procedure
FV=$2000(1+12%/12)17*1212%/12
=$2000(1+0.01)2040.01
=$2000(1.01)2040.01
=$20007.61310.01
=$1, 522, 615.503
From the computation results, it is evident that the spouse will have more superannuation funds at the retirement compared to the husband, even though the husband is saving twice the amount of money of the wife. The future value of the amount of money the wife is saving is higher than the future value of the amount of money the husband is saving. The reason for the husband having a lower value compared to the wife is the time factor. The husband started late, and even though he doubled his investment, the future value remained constant because of the standard return rate of 12%. To supplement your planned retirement, you estimate that you need to accumulate $220,000 in 32 years. You plan to make equal annual end-of-year deposits into an account paying 8% annual interest.a. How large must the annual deposits be to create the $220,000 fund in 32 years?
Solution
This question requires the computation of the present value which is missing. The values provided are:
FV=$220,000
Rate= 0.08
n=32 years
The question is solved using the formula
PV=FV1(1+r)n
Note that this formula can be derived from the formula used to solve the above question.
There is no need to change the rates into months because all values are provided in years
Therefore, inserting the value gives,
PV=$220,0001(1+0.08)32
PV=$220,000111.737083
PV=$220,000*0.085200045
PV=18,744.0099
N/B
You can get the value above directly by keying in your values on the link /present-value-calculator.html?c1futurevalue=220000&c1yearsv=32&c1interestratev=8&x=70&y=14
b. If you can afford to deposit only $600 per year into the account, how much will you have accumulated by the end of the thirty-second year? Evaluate your financial plan above and make recommendations
This question asks for computation of the future value of the present money one has in possession.
The provided values are:
PV= $600
Rate (r) = 0.08
n= 32 years
Using the formula
FV=PV(1+r)nr
FV=$600(1+0.08)320.08
=$88, 028.1225
Evaluation of the Financial Plan
The above financial plan helps to make decisions on saving by promoting the idea that a dollar invested is worth has a higher future value than a dollar spent today. In the first example where the husband saves with the wife, the wife started saving earlier $1000 a month while the husband waited ten years later before starting saving $2000 a month. Surprisingly, the wife saved more than the husband because of the time she started saving. This indicates the value of the time factor in financial decisions. However, the problem with TVM is that it does not consider inflation, which is likely to occur at any time. If one is investing in buying an asset and inflation rises within the specified number of periods, the future value of the present value will be affected. Nevertheless, TVM allows one to make reasonable decisions on savings and financial management.
In the second part of the question, the computation of present value for thirty-two years on expected $220,000 results to $18,744.0099. However, when one decides to deposit only $600 for thirty-two years, the future value of that money is $88, 028.1225. Comparison of PV and FV shows that FV has a higher value than PV. This encourages saving and investment. There are, however, financial risks associated with savings that FV ignores. From the computations in the second part of the question, it is evident that a higher PV leads to a higher FV and a lower PV leads to a lower FV. If one wants to take a shorter time to meet the target, I would recommend that one saves a higher amount at present.
Part II: Firm’s Investment Decisions: Suppose you are working as an external capital budgeting advisor to a highly successful manufacturing firm. You have recently received a proposal for equipment replacement that will presumably lead to more capacity and less cost. The replacement details are given below.
Old equipment
New equipment
Current book value
$ 400,000
Current book value
Current market value
$ 600,000
Current market value
$ 1000000
Remaining life years
10
Remaining life years
10
Annual sales
$ 300,000
Annual sales
$ 450,000
Cash operating expenses
$ 120,000
Cash operating expenses
$ 150,000
Annual depreciation
$ 40,000
Annual depreciation
$ ...