THE TIME VALUE OF MONEY
QUESTIONS AND ANSWERS
LATEST UPDATES 2024
Helen Constantinides
DELL COMPUTER CORPORATION [Company address]
, Chapter 3 The Time Value of Money 25
THE TIME VALUE OF MONEY
Questions and Answers Latest Updates
2024
TRUE/FALSE
1. Cash flow time lines are used primarily for decisions involving paying off debt or investing in
financial securities. They cannot be used when making decisions about investments in physical
assets.
ANS: F DIF: Easy TOP: Cash flow time lines
2. One of the potential benefits of investing early for retirement is that an investor can receive
greater benefits from the compounding of interest.
ANS: T DIF: Easy TOP: Retirement and compounding
3. Of all the techniques used in finance, the least important is the concept of the time value of
money.
ANS: F DIF: Easy TOP: Time value concepts
4. Compounding is the process of converting today's values, which are termed present value, to
future value.
ANS: T DIF: Easy TOP: Compounding
5. The coupon rate is the rate of return you could earn on alternative investments of similar risk.
ANS: F DIF: Easy TOP: Coupon rate
6. A perpetuity is an annuity with perpetual payments.
ANS: T DIF: Easy TOP: Perpetuity
7. An amortized loan is a loan that requires equal payments over its life; its payments include both
interest and repayment of the debt.
ANS: T DIF: Easy TOP: Amortization
8. The greater the number of compounding periods within a year, the greater the future value of a
lump sum invested initially, and the greater the present value of a given lump sum to be received
at maturity.
ANS: F DIF: Medium TOP: Compounding
9. Suppose an investor can earn a steady 5% annually with investment A, while investment B will
yield a constant 12% annually. Within 11 years time, the compounded value of investment B will
be more than twice the compounded value of investment A (ignore risk).
ANS: T DIF: Medium TOP: Comparative compounding
,26 Chapter 3 The Time Value of Money
10. Solving for the interest rate associated with a stream of uneven cash flows, without the use of a
calculator, usually involves a trial and error process.
ANS: T DIF: Medium TOP: Uneven cash flows and interest
11. When a loan is amortized, the largest portion of the periodic payment goes to reduce principal in
the early years of the loan such that the accumulated interest can be spread out over the life of the
loan.
ANS: F DIF: Medium TOP: Amortization
12. The effective annual rate is always greater than the simple rate as a result of compounding
effects.
ANS: F DIF: Medium TOP: Effective and simple rates
13. Because we usually assume positive interest rates in time value analyses, the present value of a
three-year annuity will always be less than the future value of a single lump sum, if the annuity
payment equals the original lump sum investment.
ANS: F DIF: Medium TOP: Lump sum and annuity
14. All else equal, a dollar received sooner is worth more than a dollar received at some later date,
because the sooner the dollar is received the more quickly it can be invested to earn a positive
return.
ANS: T DIF: Medium TOP: Time value concepts
15. An annuity is a series of equal payments made at fixed equal-length intervals for a specified
number of periods.
ANS: T DIF: Medium TOP: Annuities
16. The difference between an ordinary annuity and an annuity due is that each of the payments of
the annuity due earns interest for one additional year (period).
ANS: T DIF: Medium TOP: Annuities
17. The difference between the PV of an annuity due and the PV of an ordinary annuity is that each
of the payments of the annuity due is discounted by one more year.
ANS: T DIF: Medium TOP: Annuities
18. The effective annual rate is less than the simple rate when we have monthly compounding.
ANS: F DIF: Medium TOP: Effective annual rate
MULTIPLE CHOICE
1. Given some amount to be received several years in the future, if the interest rate increases, the
present value of the future amount will
a. Be higher.
b. Be lower.
c. Stay the same.
d. Cannot tell.
e. Be variable.
ANS: B DIF: Easy OBJ: TYPE: Conceptual TOP: PV of a sum
, Chapter 3 The Time Value of Money 27
2. You have determined the profitability of a planned project by finding the present value of all the
cash flows form that project. Which of the following would cause the project to look more
appealing in terms of the present value of those cash flows?
a. The discount rate decreases.
b. The cash flows are extended over a longer period of time, but the total amount of the cash
flows remains the same.
c. The discount rate increases.
d. Answers b and c above.
e. Answers a and b above.
ANS: A DIF: Easy OBJ: TYPE: Conceptual
TOP: PV and discount rate
3. As the discount rate increases without limit, the present value of the future cash inflows
a. Gets larger without limit.
b. Stays unchanged.
c. Approaches zero.
d. Gets smaller without limit, i.e., approaches minus infinity.
e. Goes to ekn.
ANS: C DIF: Easy OBJ: TYPE: Conceptual
TOP: PV and discount rate
4. Which of the following statements is most correct?
a. If annual compounding is used, the effective annual rate equals the simple rate.
b. If annual compounding is used, the effective annual rate equals the periodic rate.
c. If a loan has a 12 percent simple rate with semiannual compounding, its effective annual
rate is equal to 11/66 percent.
d. Both answers a and b are correct.
e. Both answers a and c are correct.
ANS: D
Statement d is correct. The equation for EAR is as follows:
If annual compounding is used, m = 1 and the equation above reduces to EAR = kSIMPLE. The
equation for the periodic rate is:
If annual compounding is used then m = 1 and kPER = kSIMPLE and since EAR = kSIMPLE then KPER
= EAR.
DIF: Easy OBJ: TYPE: Conceptual TOP: Effective annual rate
QUESTIONS AND ANSWERS
LATEST UPDATES 2024
Helen Constantinides
DELL COMPUTER CORPORATION [Company address]
, Chapter 3 The Time Value of Money 25
THE TIME VALUE OF MONEY
Questions and Answers Latest Updates
2024
TRUE/FALSE
1. Cash flow time lines are used primarily for decisions involving paying off debt or investing in
financial securities. They cannot be used when making decisions about investments in physical
assets.
ANS: F DIF: Easy TOP: Cash flow time lines
2. One of the potential benefits of investing early for retirement is that an investor can receive
greater benefits from the compounding of interest.
ANS: T DIF: Easy TOP: Retirement and compounding
3. Of all the techniques used in finance, the least important is the concept of the time value of
money.
ANS: F DIF: Easy TOP: Time value concepts
4. Compounding is the process of converting today's values, which are termed present value, to
future value.
ANS: T DIF: Easy TOP: Compounding
5. The coupon rate is the rate of return you could earn on alternative investments of similar risk.
ANS: F DIF: Easy TOP: Coupon rate
6. A perpetuity is an annuity with perpetual payments.
ANS: T DIF: Easy TOP: Perpetuity
7. An amortized loan is a loan that requires equal payments over its life; its payments include both
interest and repayment of the debt.
ANS: T DIF: Easy TOP: Amortization
8. The greater the number of compounding periods within a year, the greater the future value of a
lump sum invested initially, and the greater the present value of a given lump sum to be received
at maturity.
ANS: F DIF: Medium TOP: Compounding
9. Suppose an investor can earn a steady 5% annually with investment A, while investment B will
yield a constant 12% annually. Within 11 years time, the compounded value of investment B will
be more than twice the compounded value of investment A (ignore risk).
ANS: T DIF: Medium TOP: Comparative compounding
,26 Chapter 3 The Time Value of Money
10. Solving for the interest rate associated with a stream of uneven cash flows, without the use of a
calculator, usually involves a trial and error process.
ANS: T DIF: Medium TOP: Uneven cash flows and interest
11. When a loan is amortized, the largest portion of the periodic payment goes to reduce principal in
the early years of the loan such that the accumulated interest can be spread out over the life of the
loan.
ANS: F DIF: Medium TOP: Amortization
12. The effective annual rate is always greater than the simple rate as a result of compounding
effects.
ANS: F DIF: Medium TOP: Effective and simple rates
13. Because we usually assume positive interest rates in time value analyses, the present value of a
three-year annuity will always be less than the future value of a single lump sum, if the annuity
payment equals the original lump sum investment.
ANS: F DIF: Medium TOP: Lump sum and annuity
14. All else equal, a dollar received sooner is worth more than a dollar received at some later date,
because the sooner the dollar is received the more quickly it can be invested to earn a positive
return.
ANS: T DIF: Medium TOP: Time value concepts
15. An annuity is a series of equal payments made at fixed equal-length intervals for a specified
number of periods.
ANS: T DIF: Medium TOP: Annuities
16. The difference between an ordinary annuity and an annuity due is that each of the payments of
the annuity due earns interest for one additional year (period).
ANS: T DIF: Medium TOP: Annuities
17. The difference between the PV of an annuity due and the PV of an ordinary annuity is that each
of the payments of the annuity due is discounted by one more year.
ANS: T DIF: Medium TOP: Annuities
18. The effective annual rate is less than the simple rate when we have monthly compounding.
ANS: F DIF: Medium TOP: Effective annual rate
MULTIPLE CHOICE
1. Given some amount to be received several years in the future, if the interest rate increases, the
present value of the future amount will
a. Be higher.
b. Be lower.
c. Stay the same.
d. Cannot tell.
e. Be variable.
ANS: B DIF: Easy OBJ: TYPE: Conceptual TOP: PV of a sum
, Chapter 3 The Time Value of Money 27
2. You have determined the profitability of a planned project by finding the present value of all the
cash flows form that project. Which of the following would cause the project to look more
appealing in terms of the present value of those cash flows?
a. The discount rate decreases.
b. The cash flows are extended over a longer period of time, but the total amount of the cash
flows remains the same.
c. The discount rate increases.
d. Answers b and c above.
e. Answers a and b above.
ANS: A DIF: Easy OBJ: TYPE: Conceptual
TOP: PV and discount rate
3. As the discount rate increases without limit, the present value of the future cash inflows
a. Gets larger without limit.
b. Stays unchanged.
c. Approaches zero.
d. Gets smaller without limit, i.e., approaches minus infinity.
e. Goes to ekn.
ANS: C DIF: Easy OBJ: TYPE: Conceptual
TOP: PV and discount rate
4. Which of the following statements is most correct?
a. If annual compounding is used, the effective annual rate equals the simple rate.
b. If annual compounding is used, the effective annual rate equals the periodic rate.
c. If a loan has a 12 percent simple rate with semiannual compounding, its effective annual
rate is equal to 11/66 percent.
d. Both answers a and b are correct.
e. Both answers a and c are correct.
ANS: D
Statement d is correct. The equation for EAR is as follows:
If annual compounding is used, m = 1 and the equation above reduces to EAR = kSIMPLE. The
equation for the periodic rate is:
If annual compounding is used then m = 1 and kPER = kSIMPLE and since EAR = kSIMPLE then KPER
= EAR.
DIF: Easy OBJ: TYPE: Conceptual TOP: Effective annual rate
