Alice's Investment Advisor Is Trying to Convince Her to Purchase

question 90

Multiple Choice

Alice's investment advisor is trying to convince her to purchase an investment that pays R250 per year.The investment has no maturity; therefore the R250 payment will continue every year forever.Alice has determined that her required rate of return for such an investment should be 14 percent and that she would hold the investment for 10 years and then sell it.If Alice decides to buy the investment, she would receive the first R250 payment one year from today.How much should Alice be willing to pay for this investment?

• A) R1,304.03, because this is the present value of an ordinary annuity that pays R250 a year for 10 years at 14 percent.
• B) R1,486.59, because this is the present value of an annuity due that pays R250 a year for 10 years at 14 percent.
• C) R1,785.71, because this is the present value of a R250 perpetuity at 14 percent.
• D) There is not enough information to answer this question, because the selling price of the investment in 10 years is not known today.
• E) None of the above is correct.

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Definitions:

Note Receivable

A written promise for amounts to be received by a debtor, acknowledging a debt to be paid to the creditor at a future date.

Maturity Date

The specific date on which the principal amount of a bond, loan, or other financial instrument is due to be paid in full.

Note Dated

Indicates the specific date on which a note payable, receivable, or other legal financial document becomes effective.

Promissory Note

A financial instrument that contains a written promise by one party to pay another party a definite sum of money either on demand or at a specified future date.