Question

Consider a firm with a contract to sell an asset for $145,000 four years from now. The asset costs $91,700 to produce today. a. The relevant discount rate is 11 percent per year. What is the firm's profit on this asset? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) b. At what rate does the firm just break even? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.) Profit b. Break-even rate

Answer 1

1-a). PV = FV / (1 + r)ⁿ

= $145,000 / (1 + 0.11)⁴ = $145,000 / 1.5181 = $95,515.99

Profit = PV of Sales Price - Cost price of Asset

= $95,515.99 - $91,700 = $3,815.99

1-b). To find the break-even rate, we need to put the following values in the financial calculator:

N = 4; PV = -91,700; PMT = 0; FV = 145,000;

Press CPT, then I/Y, which gives us 12.14

So, Break-even rate is 12.14%

2). r = [FV/PV]^1/n - 1

= [3/1]^1/4 - 1 = 1.3161 - 1 = 0.3161, or 31.61%