BUAD 306 Fall 2015 Professor Cary Frydman Practice Problems 1 Answers Posted Monday August 31st 1 Suppose you hire a real estate agent and tell him to sell your house to the highest bidder You pay the real estate agent a flat fee of 50 000 when the house is sold You learn that unfortunately the agent sells the house to the first bidder at a low price a What is this type of problem called b What is one way to change the real estate agent s incentive so he does sell to the highest bidder instead of to the first one 2 Suppose you own one share of stock in ABC Inc and one share of stock in XYZ Co You can sell both shares at 100 but it will take you much longer to find a buyer willing to pay 100 for XYZ compared to ABC a Which stock is more liquid b If you had to sell both stocks today which one would sell for a higher price 3 National Bank pays 3 simple interest on its savings account balances whereas First City Bank pays 3 simple interest compounded annually If you made a 165 000 deposit in each bank how much more money would you earn from your First City Bank account at the end of 6 years 4 Assume you will need 500 000 when your child enters college in 17 years You presently have 79 000 to invest What annual rate of interest must you earn on your investment to cover the cost of your child s college education 5 Why might maximizing revenue today not be best when trying to achieve the goal of financial management 6 You want to buy a 190 000 Porsche If you believe your mutual fund can achieve a 7 percent annual rate of return and you want to buy the car in 9 years on the day you turn 30 how much must you invest today 7 The US government offered some securities for sale to the public on February 28 2008 Under the terms of the deal the government promised to repay the owner of one of these securities 1 000 000 on February 2038 but investors would receive nothing until then Investors paid the California government 443 000 for each of these securities a Based on the 443 000 price what rate was the US government paying to borrow money b Suppose that on February 28 2019 the security s price is 643 380 If an investor had purchased it for 443 000 at the offering and sold it on this day what annual rate of return would she have earned c If an investor had purchased the security at market on February 28 2019 and held it until it matured what annual rate of return would she have earned 8 Refer to tax rates in Table 2 3 below Mineral Inc has 14 800 000 in taxable income and Oil Co has 347 600 000 in taxable income a What is the tax bill for each firm b Suppose both firms have identified a new project that will increase taxable income by 10 000 How much in additional taxes will each firm pay Why is this amount the same c What is the average tax rate for each firm d A CFO for a small firm with 75 000 in taxable income argues that launching a new product that generates 4 000 in taxable income will increase the firm s average tax rate to 34 Is the CFO correct Why or why not