Financial Management Assignment Questions -

1. If you assume market interest rates are expected to increase over the term of the loan, would you prefer a loan with a fixed interest rate for the life of the loan or rather a loan with a variable rate that changes in response to market interest rate? (Assume that both loans start with the same interest rate.) Would your answer change if market interest rates are expected to decrease over the term of the loan?

2. A person plans to retire today and expects to begin living off $50,000 received annually beginning one year from now and continuing until death. The person currently has $550,000 in savings that earns 10% interest annually. How long will the savings be able to accommodate this retirement plan?

3. Suppose you make monthly mortgage payments of $2,545 and have 12 years left on the mortgage (next payment due next month). Assuming a 5.6% stated annual interest rate for the mortgage, how much would you need today to pay off the mortgage?

4. You are considering a unique investment opportunity. If you invest $10,000 today, you will receive $1,000 one year from now, $1,500 two years from now, and $15,000 ten years from now.

a. What is the NPV of the opportunity if the interest rate is 6% per year? Should you take the opportunity?

b. What is the NPV of the opportunity if the interest rate is 8% per year? Should you take it now?

5. David West has been working on a new technology to improve manufacturing performance. His technology will be available in the near term. He estimates his first annual cash flow from the technology to be $500,000, received three years from today. Subsequent annual cash flows will grow at 5 percent in perpetuity. What is the present value of the technology if the discount rate is 10 percent?

6. Consider a firm with a contract to sell an asset for $150,000 five years from now. The asset costs $75,000 to produce today. Given a relevant discount rate on this asset of 10 percent per year, will the firm make a profit on this asset? At what rate does the firm just break even?

Discussion -

1. In recent years, publicly traded companies are under pressure to meet or beat the analysts' consensus earnings estimates in their quarterly reports because the market will punish those that fail to deliver expected earnings. Thus, managers tend to utilize many methods to improve reported profitability that are cosmetic in nature and do not affect "real" operating performance to meet the market expectations. These methods are referred as earnings management (commonly called" cooking the books"). Managers have different motivations to engage in earnings management, and they usually defend their actions including following arguments: (1)Increasing stock price by managing earnings benefits stockholders; no one is hurt by these actions, (2)Earnings management is a temporary fix; such actions will be curtailed once "real" profitability improves, as managers expect.

So, what are the affected parties in schemes above to manage profits to prop up stock price? Do the ends of earnings management justify the means? What governance structure you think to curb earnings management and increase the reporting quality? Please discuss.

2. According to CBS News, 3M has reached an $850 million settlement for dumping PFCs into the Mississippi River for over 50 years. Minnesota Attorney General Lori Swanson had accused 3M of contaminating the state's water supply by dumping millions of pounds of waste into the ground and water from the production of fluoro chemicals, or PFCs, that the company used in its Scotchgard product for protecting furniture and carpets from stains. Under the agreement, 3M will provide an $850 million grant aimed at improving water quality and sustainability. The money would also pay for fishing piers, trails and preserving open space. 3M currently faces at least 11 class-action lawsuits in state and federal courts related to PFCs.

Why do you think 3M continued polluting waters with PFCs from the 1950s well into the 2000s? Does it matter if 3M's settlement includes an admission of wrongdoing or not? Why do many companies, on the heels of their trial date, go ahead and reach a settlement with prosecutors? Please discuss.