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# Applied Math 40S May 20, 2008

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### Applied Math 40S May 20, 2008

1. 1. Finance Cat by ﬂickr user o205billege
2. 2. Dave, age 30 and single, is concerned about his ﬁnances. He visits a ﬁnancial advisor to help him determine whether his ﬁnances are in good order. The advisor requires the following information to prepare a Net Worth Statement. He lives in a \$100,000.00 home on which there is an outstanding mortgage of \$60,000.00. There is a car loan of \$15,000.00 on a car that is valued at \$20,000.00. The loan is for three years. Dave has \$3000.00 in the bank and a \$4000.00 cash surrender value (near cash) on his life insurance policy. He has \$10,000.00 in mutual funds and \$3000.00 in Canada Savings Bonds. He also has RRSPs totaling \$15,000.00. At the present time, Dave has a credit card balance of \$4000.00 and a small loan of \$2000.00 that must be paid this year. Prepare a Net Worth Statement for Dave. What is his debt/equity ratio?
3. 3. Answer (1) Dave's net worth is \$74,000, and his debt/equity ratio is 0.28, or 28%.
4. 4. * Bill is married and has a young family. He wants to borrow money to buy a travel trailer. The loan officer at the bank uses the following information to prepare a net worth statement. Bill and his family live in an \$80,000.00 home on which there is an outstanding mortgage of \$52,000.00. He owns a car valued at \$20,000.00 and owes \$12,000.00 on a loan he took to buy the car. He has \$30 000.00 in an RPP (Registered Pension Plan). He also has RRSPs valued at \$7000.00. Bill owes a credit card company \$6000.00, and he has a personal loan for \$2500.00 that must be paid in the next few months. The family has \$1500.00 in a chequing account and another \$3000.00 in a savings account at the local bank. He owns a boat worth \$5000.00. (a) What is the family's present net worth? (b) What is their debt/equity ratio? (c) The loan required to buy the travel trailer is \$25,000.00. Will the loan increase their debt/equity ratio beyond 0.5? (d) Should Bill buy the travel trailer? Explain. (e) Suggest some ways the family could increase their net worth and/or decrease their debt/equity ratio.
5. 5. Answers (2)(a) Net worth is \$74,000. (b) Debt/equity ratio is 0.28, or 27.7%. (c) Their assets increase by \$25,000, and the liabilities also increase by \$25,000. The debt/equity ratio increases to 0.62, or 62%. (d) Bill should probably postpone buying the travel trailer until he has at least half of the money saved up for it. By doing this, he would keep the debt/equity ratio below 50%. He should not cash in his RRSPs and RPPs to pay for the trailer, because these funds are intended for retirement. (e) The family could increase their net worth by: • limiting their consumer spending (which would likely decrease the credit card and short-term loans debts) • increasing their savings (they have a reasonable amount in RRSPs and RPPs, but very little in bank savings or other semi-liquid assets) • investing their money in accounts that pay more interest or returns than a bank savings account
6. 6. Who wants to be a millionaire? HOMEWORK You want to retire at age 55 with \$1 000 000 in savings. You can invest regularly in an account that pays 8% interest compounded quarterly. If you are 17 years old now, what should you be paying as a monthly payment to attain your goal? How would this change if How would this change if you started at age 25? 35? you could get a 12% interest rate?
7. 7. Alice invests \$10 000.00 with the help of a ﬁnancial advisor. Her expected rate of return is 6% compounded annually. Her advisor requires a management fee of \$100.00 each year. HOMEWORK a) Determine the value of Alice’s investment at the end of 5 years. Show your work. b) Alice would like to accumulate a total of \$20 000.00 after 10 years. What minimum interest rate would allow Alice to achieve her goal if the management fees were eliminated?
8. 8. Rick is entering the University of Winnipeg and needs a computer. He wonders whether he should purchase or lease it. HOMEWORK OPTION 1: Purchase OPTION 2: Lease • \$1299 plus taxes to be ﬁnanced • Payment of \$39.90 plus taxes a at 16.5% over 36 months month for 36 months. compounded monthly (monthly • The computer may be purchased at payments). the end of the lease for \$850 plus taxes. a) Compare the costs of Option 1 and Option 2. b) State one advantage for each option. Justify your answer.