Question

A company borrowed $500,000 and repaid the loan through yearly payments of $20,000 for 24 years plus a single lump-sum payment of $1,000,000 million at the end of 24 years. The interest rate on the loan was closest to:

		6% per year
		4% per year
		0.5% per year
		8% per year

The following five alternatives that are evaluated by the rate of return method, If the alternatives are mutually exclusive and the MARR is 15% per year, the alternative to select is:

Alternative	Initial Investment, $	Alternative i*, %	Incremental ROR, %, When Compared with Alternative
			A	B	C	D	E
A	−25,000	9.6	–	27.3	19.4	35.3	25.0
B	−35,000	15.1		–	0	38.5	24.4
C	−40,000	13.4			–	46.5	27.3
D	−60,000	25.4				–	26.8
E	−75,000	10.2					–

		Either B, D, or E
		Only D
		Only E
		Only B

10 points

Answer 1

At required rate the net present worth of the cash flow must be equal to zero.

In the question it is mentioned a lump sum payment of $ 1,000,000 million is made but this is not possible. It must be $ 1 million.

Assume rate = 6%

Interest rate = 6% (Approximately).

Question 2.

The alternatives are mutually exclusive therefore only one alternative has to be selected. Here we can evaluate the different alternatives using the incremental rate of return method.

We have to select the alternative with minimum initial investment as the base selection and then subtract the cash flow of this based selection from the next costlier alternative.

In the given case alternative a has the lowest initial investment while alternative B has second lowest initial investment therefore we have to compare alternative A and B.

The incremental rate of return between a and b is greater than MARR(15%) there for select the costlier alternative. Select alternative B and reject A.

Now alternative B is the new Defender and the new Challenger is alternative C. The incremental rate of return between B and C is

The incremental rate of return between B and C is less than MARR. Select alternative B and reject alternative C.

No compare alternative B with alternative D, the incremental rate of return between alternative B and D is

Incremental rate of return is greater than and the m a r are therefore select the Challenger that is the alternative D will be selected.

Now compare alternative D with alternative E, the incremental rate of return between D and E is

Incremental rate of return between D and E is greater than MARR therefore alternative E must be selected.

Only E.

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