Chapter 6 Discounted Cash Flow Valuation

Slides:



Advertisements
Similar presentations
1 Chapter 05 Time Value of Money 2: Analyzing Annuity Cash Flows McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.
Advertisements

McGraw-Hill © 2004 The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Discounted Cash Flow Valuation Chapter 5.
Discounted Cash Flow Valuation
Discounted Cash Flow Valuation Chapter 5 2 Topics Be able to compute the future value of multiple cash flows Be able to compute the present value of.
4 The Time Value Of Money.
© 2003 The McGraw-Hill Companies, Inc. All rights reserved. Discounted Cash Flow Valuation (Formulas) Chapter Six.
Present and Future Value Exercises. Want to be a millionaire? No problem! Suppose you are currently 21 years old, and can earn 10 percent on your money.
T6.1 Chapter Outline Chapter 6 Discounted Cash Flow Valuation Chapter Organization 6.1Future and Present Values of Multiple Cash Flows 6.2Valuing Level.
Fundamentals of Corporate Finance, 2/e ROBERT PARRINO, PH.D. DAVID S. KIDWELL, PH.D. THOMAS W. BATES, PH.D.
Ch 4. Time Value of Money Goal:
McGraw-Hill/Irwin Copyright © 2008 by The McGraw-Hill Companies, Inc. All rights reserved. 6 6 Calculators Discounted Cash Flow Valuation.
Multiple Cash Flows –Future Value Example 6.1
© 2003 The McGraw-Hill Companies, Inc. All rights reserved. Discounted Cash Flow Valuation (Formulas) Chapter Six.
© 2002 David A. Stangeland 0 Outline I.Dealing with periods other than years II.Understanding interest rate quotes and conversions III.Applications – mortgages,
Discounted Cash Flow Valuation
Chapter McGraw-Hill/Irwin Copyright © 2006 by The McGraw-Hill Companies, Inc. All rights reserved. 6 Discounted Cash Flow Valuation.
T6.1 Chapter Outline Chapter 6 Discounted Cash Flow Valuation Chapter Organization 6.1Future and Present Values of Multiple Cash Flows 6.2Valuing Level.
Chapter McGraw-Hill/Irwin Copyright © 2006 by The McGraw-Hill Companies, Inc. All rights reserved. 6 Discounted Cash Flow Valuation.
Chapter McGraw-Hill/Irwin Copyright © 2006 by The McGraw-Hill Companies, Inc. All rights reserved. 6 Discounted Cash Flow Valuation.
© 2002 David A. Stangeland 0 Outline I.More on the use of the financial calculator and warnings II.Dealing with periods other than years III.Understanding.
Chapter McGraw-Hill/Irwin Copyright © 2006 by The McGraw-Hill Companies, Inc. All rights reserved. 6 Discounted Cash Flow Valuation.
BBA(Hons.), MBA(Finance), London
British Columbia Institute of Technology
Topic # 03 TVM Effective Annual Rate and Annuities Senior Lecturer
Copyright  2004 McGraw-Hill Australia Pty Ltd PPTs t/a Fundamentals of Corporate Finance 3e Ross, Thompson, Christensen, Westerfield and Jordan Slides.
5.0 Chapter 5 Discounte d Cash Flow Valuation. 5.1 Key Concepts and Skills Be able to compute the future value of multiple cash flows Be able to compute.
5.0 Chapter 4 Time Value of Money: Valuing Cash Flows.
T5.1 Chapter Outline Chapter 5 Introduction to Valuation: The Time Value of Money Chapter Organization 5.1Future Value and Compounding 5.2Present Value.
Discounted Cash Flow Valuation Chapter 4 Copyright © 2010 by the McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin.
Multiple Cash Flows –Future Value Example
© 2003 The McGraw-Hill Companies, Inc. All rights reserved. Discounted Cash Flow Valuation Lecture 5.
CHAPTER 6 Discounted Cash Flow Valuation. Key Concepts and Skills Be able to compute the future value of multiple cash flows Be able to compute the present.
T6.1 Chapter Outline Chapter 6 Discounted Cash Flow Valuation Chapter Organization 6.1Future and Present Values of Multiple Cash Flows 6.2Valuing Level.
Chapter 6 Discounted Cash Flow Valuation
Copyright © 2011 Pearson Prentice Hall. All rights reserved. The Time Value of Money: Annuities and Other Topics Chapter 6.
Future Value Present Value Annuities Different compounding Periods Adjusting for frequent compounding Effective Annual Rate (EAR) Chapter
Chapter 4 The Time Value of Money Chapter Outline
Discounted Cash Flow Valuation.  Be able to compute the future value of multiple cash flows  Be able to compute the present value of multiple cash flows.
TIME VALUE OF MONEY CHAPTER 5.
Chapter McGraw-Hill Ryerson © 2013 McGraw-Hill Ryerson Limited 6 Prepared by Anne Inglis Discounted Cash Flow Valuation.
6-0 Week 3 Lecture 3 Ross, Westerfield and Jordan 7e Chapter 6 Discounted Cash Flow Valuation.
© 2003 McGraw-Hill Ryerson Limited 9 9 Chapter The Time Value of Money-Part 2 McGraw-Hill Ryerson©2003 McGraw-Hill Ryerson Limited Based on: Terry Fegarty.
0 Chapter 6 Discounted Cash Flow Valuation 1 Chapter Outline Future and Present Values of Multiple Cash Flows Valuing Level Cash Flows: Annuities and.
Chapter 6 Calculators Calculators Discounted Cash Flow Valuation McGraw-Hill/Irwin Copyright © 2010 by The McGraw-Hill Companies, Inc. All rights reserved.
The Time Value of Money A core concept in financial management
Finance 2009 Spring Chapter 4 Discounted Cash Flow Valuation.
CORPORATE FINANCE II ESCP-EAP - European Executive MBA 23 Nov p.m. London Various Guises of Interest Rates and Present Values in Finance I. Ertürk.
© 2003 McGraw-Hill Ryerson Limited 9 9 Chapter The Time Value of Money-Part 1 McGraw-Hill Ryerson©2003 McGraw-Hill Ryerson Limited Based on: Terry Fegarty.
Chapter 6 Discounted Cash Flow Valuation 6.1Future and Present Values of Multiple Cash Flows 6.2Valuing Level Cash Flows: Annuities and Perpetuities 6.3Comparing.
NPV and the Time Value of Money
McGraw-Hill/Irwin ©2001 The McGraw-Hill Companies All Rights Reserved 5.0 Chapter 5 Discounte d Cash Flow Valuation.
6-1 CHAPTER 5 Time Value of Money. 6-2 Time lines Show the timing of cash flows. Tick marks occur at the end of periods, so Time 0 is today; Time 1 is.
Quick Quiz – Part 1 Suppose you are looking at the following possible cash flows: Year 1 CF = $100; Years 2 and 3 CFs = $200; Years 4 and 5 CFs = $300.
1 Chapter 05 Time Value of Money 2: Analyzing Annuity Cash Flows McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.
© 2009 Cengage Learning/South-Western The Time Value Of Money Chapter 3.
2-1 CHAPTER 2 Time Value of Money Future Value Present Value Annuities Rates of Return Amortization.
McGraw-Hill © 2004 The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Discounted Cash Flow Valuation Chapter 5.
1 Chapter 5 – The Time Value of MoneyCopyright 2008 John Wiley & Sons MT 480 Unit 2 CHAPTER 5 The Time Value of Money.
The Time value of Money Time Value of Money is the term used to describe today’s value of a specified amount of money to be receive at a certain time in.
© 2003 The McGraw-Hill Companies, Inc. All rights reserved. Discounted Cash Flow Valuation Chapter Six.
5-1 Chapter Five The Time Value of Money Future Value and Compounding 5.2 Present Value and Discounting 5.3 More on Present and Future Values.
T6.1 Chapter Outline Chapter 6 Discounted Cash Flow Valuation Chapter Organization 6.1Future and Present Values of Multiple Cash Flows 6.2Valuing Level.
5-1 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Fundamentals of Corporate Finance 4e, by Ross, Thompson, Christensen, Westerfield & Jordan.
Discounted Cash Flow Valuation Chapter Five. 1Barton College Don’t TEXT and DRIVE!!!
Chapter 5 Time Value of Money. Basic Definitions Present Value – earlier money on a time line Future Value – later money on a time line Interest rate.
Time Value of Money Chapter 5  Future Value  Present Value  Annuities  Rates of Return  Amortization.
Copyright © 2008 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin 0 Chapter 5 Discounted Cash Flow Valuation.
Introduction to Valuation: The Time Value of Money And
Presentation transcript:

Chapter 6 Discounted Cash Flow Valuation T6.1 Chapter Outline Chapter 6 Discounted Cash Flow Valuation Chapter Organization 6.1 Future and Present Values of Multiple Cash Flows 6.2 Valuing Level Cash Flows: Annuities and Perpetuities 6.3 Comparing Rates: The Effect of Compounding 6.4 Loan Types and Loan Amortization 6.5 Summary and Conclusions CLICK MOUSE OR HIT SPACEBAR TO ADVANCE Irwin/McGraw-Hill copyright © 2002 McGraw-Hill Ryerson, Ltd.

Summary of Time Value Calculations (Table 5.4) I. Symbols: PV = Present value, what future cash flows are worth today FVt = Future value, what cash flows are worth in the future r = Interest rate, rate of return, or discount rate per period t = number of periods C = cash amount II. Future value of C invested at r percent per period for t periods: FVt = C  (1 + r )t The term (1 + r )t is called the future value factor.

Summary of Time Value Calculations (Table 5.4) (concluded) III. Present value of C to be received in t periods at r percent per period: PV = C/(1 + r )t The term 1/(1 + r )t is called the present value factor. IV. The basic present value equation giving the relationship between present and future value is: PV = FVt/(1 + r )t

Present Value of $1 for Different Periods and Rates (Figure 5.3)

Discounted Cash Flow Valuation Multiple Cash Flows progress to compounding or discounting multiple cash flows vs. the single cash flow situations that we reviewed in Chapter 5 discount multiple future cash flows - typical of a capital investment analysis (more in-depth study - Chapter 9) valuing level cash flows - annuities & perpetuities loans/mortgages/pensions are all forms of annuities valuing multiple cash flows is a common and practical application of corporate finance - building on the basic time value of money concept

Future Value Calculated (Fig. 6.3-6.4) Future value calculated by compounding forward one period at a time Future value calculated by compounding each cash flow separately

Present Value Calculated (Fig 6.5-6.6) Present value calculated by discounting each cash flow separately Present value calculated by discounting back one period at a time

Annuities and Perpetuities Annuity – a series of constant or level cash flows that occur at the end of each period for some fixed number of periods Perpetuity – an annuity in which the cash flows continue forever or indefinitely

Annuities and Perpetuities -- Basic Formulas Annuity Present Value PV = C  {1 - [1/(1 + r )t]}/r Annuity Future Value FVt = C  {[(1 + r )t - 1]/r} Perpetuity Present Value PV = C/r ‘C’ is the cash flow per period (payment/receipt) ……important formulas in corporate finance!!

Example: Finding C Annuity Example Q. You want to buy a Mazda Miata. It costs $25,000. With a 10% down payment, the bank will loan you the rest at 12% per year (1% per month) for 60 months. What will your monthly payment be? A. You will borrow ___  $25,000 = $______ . This is the amount today, so it’s the ___________ . The rate is ___ , and there are __ periods: $ ______ = C  { ____________}/.01 = C  {1 - .55045}/.01 = C  44.955 C = $22,500/44.955 C = $________

Example: Finding C Annuity Example Q. You want to buy a Mazda Miata . It costs $25,000. With a 10% down payment, the bank will loan you the rest at 12% per year (1% per month) for 60 months. What will your monthly payment be? A. You will borrow .90  $25,000 = $22,500 . This is the amount today, so it’s the present value. The rate is 1%, and there are 60 periods: $ 22,500 = C  {1 - (1/(1.01)60}/.01 = C  {1 - .55045}/.01 = C  44.955 C = $22,500/44.955 C = $500.50 per month

Annuity Example Annuity Present Value Suppose you need $20,000 each year for the next three years to make your tuition payments. Assume you need the first $20,000 in exactly one year. Suppose you can place your money in a savings account yielding 8% compounded annually. How much do you need to have in the account today? (Note: Ignore taxes, and keep in mind that you don’t want any funds to be left in the account after the third withdrawal, nor do you want to run short of money.)

Annuity Present Value - Solution Annuity Example Annuity Present Value - Solution Here we know the periodic cash flows are $20,000 each. Using the most basic approach: PV = $20,000/1.08 + $20,000/1.082 + $20,000/1.083 = $18,518.52 + $_______ + $15,876.65 = $51,541.94 Here’s a shortcut method for solving the problem using the annuity present value factor: PV = $20,000 [____________]/__________ = $20,000 2.577097 = $________________

Annuity Present Value - Solution Annuity Example Annuity Present Value - Solution Here we know the periodic cash flows are $20,000 each. Using the most basic approach: PV = $20,000/1.08 + $20,000/1.082 + $20,000/1.083 = $18,518.52 + $17,146.77 + $15,876.65 = $51,541.94 Using the formula for solving the problem using the annuity present value factor: PV = $20,000  [1 - 1/(1.08)3]/.08 = $20,000  2.577097

Let’s continue our tuition problem. Annuity Example Annuity Present Value Let’s continue our tuition problem. Assume the same facts apply, but that you can only earn 4% compounded annually. Now how much do you need to have in the account today?

Annuity Present Value - Solution Annuity Example Annuity Present Value - Solution Again we know the periodic cash flows are $20,000 each. Using the basic approach: PV = $20,000/1.04 + $20,000/1.042 + $20,000/1.043 = $19,230.77 + $18,491.12 + $17,779.93 = $55,501.82 Using the formula for solving the problem using the annuity present value factor: PV = $20,000  [1 - 1/(1.04)3]/.04 = $20,000  2.775091

Annuities – Solving for t Example 1: Finding t Q. Suppose you owe $2000 on a Visa card, and the interest rate is 2% per month. If you make the minimum monthly payments of $50, how long will it take you to pay off the debt? (Assume you quit charging stuff immediately!)

Annuities – Solving for t Example 1: Finding t Q. Suppose you owe $2000 on a Visa card, and the interest rate is 2% per month. If you make the minimum monthly payments of $50, how long will it take you to pay off the debt? PV - $2000 FV - 0 Solve for ‘t’ A long time: 82 months r - 2% PMT - $50

Annuities – Solving for C Example 2: Finding C Previously we determined that a 21-year old could accumulate $1 million by age 65 by investing $15,091 today and letting it earn interest (at 10%compounded annually) for 44 years. Now, rather than plunking down $15,091 in one chunk, suppose she would rather invest smaller amounts annually to accumulate the million. If the first deposit is made in one year, and deposits will continue through age 65, how large must they be? Set this up as a FV problem: $1,000,000 = C  [(1.10)44 - 1]/.10 C = $1,000,000/652.6408 = $1,532.24 ……Becoming a millionaire just got easier!

Annuity Future Value Example Previously we found that, if one begins saving at age 21, accumulating $1 million by age 65 requires saving only $1,532.24 per year. Unfortunately, most people don’t start saving for retirement that early in life. (Many don’t start at all!) Suppose Bill just turned 40 and has decided it’s time to get serious about saving. Assuming that he wishes to accumulate $1 million by age 65, he can earn 10% compounded annually, and will begin making equal annual deposits in one year and make the last one at age 65, how much must each deposit be? Setup: $1 million = C  [(1.10)25 - 1]/.10 Solve for C: C = $1 million/98.34706 = $10,168.07 By waiting, Bill has to set aside over six times as much money each year!

Annuity Future Value Example Consider Bill’s retirement plans one more time. Again assume he just turned 40, but, recognizing that he has a lot of time to make up for, he decides to invest in some high- risk ventures that may yield 20% annually. (Or he may lose his money completely!) Anyway, assuming that Bill still wishes to accumulate $1 million by age 65, and will begin making equal annual deposits in one year and make the last one at age 65, now how much must each deposit be? Setup: $1 million = C  [(1.20)25 - 1]/.20 Solve for C: C = $1 million/471.98108 = $2,118.73 So Bill can catch up, but only if he can earn a much higher return (which will probably require taking a lot more risk!).

Summary of Annuity and Perpetuity Calculations (Table 6.2) I. Symbols PV = Present value, what future cash flows bring today FVt = Future value, what cash flows are worth in the future r = Interest rate, rate of return, or discount rate per period t = Number of time periods C = Cash amount II. FV of C per period for t periods at r percent per period: FVt = C  {[(1 + r )t - 1]/r} III. PV of C per period for t periods at r percent per period: PV = C  {1 - [1/(1 + r )t]}/r IV. PV of a perpetuity of C per period: PV = C/r

Perpetuity present value * rate = cash flow Perpetuities An annuity in which the cash flows continue forever - the cash flow is ‘perpetual’ Perpetuity present value * rate = cash flow PV = C/r Preferred Stock - a fixed rate preferred stock is an example be careful of redemption options by the issuer (if the shares are redeemed they do not end up as a perpetuity !) - bank preferred shares are good examples where the issue has the option to redeem the shares at specified times

Example: Perpetuity Calculations Suppose we expect to receive $1000 at the end of each of the next 5 years. Our opportunity rate is 6%. What is the value today of this set of cash flows? PV = $1000  {1 - 1/(1.06)5}/.06 = $1000  {1 - .74726}/.06 = $1000  4.212364 = $4212.36 Now suppose the cash flow is $1000 per year forever. This is called a perpetuity. And the PV is easy to calculate: PV = C/r = $1000/.06 = $16,666.66… So, payments in years 6 thru  have a total PV of $12,454.30!

Growing Perpetuities & Annuities Growing perpetuity - a constant stream of cash flows without end that is expected to grow indefinitely. PV = C/r-g C - cash flow one year hence r - interest rate g - growth rate example - stock dividends that are expected to grow indefinitely Growing Annuity - a finite number of growing annual cash flows PV = C/r-g * (1-(1+g/1+r)T)

Perpetuities Consider the following questions. The present value of a perpetual cash flow stream has a finite value (as long as the discount rate, r, is greater than 0). How can an infinite number of cash payments have a finite value? Here’s an example related to the question above. Suppose you are considering the purchase of a perpetual bond. The issuer of the bond promises to pay the holder $100 per year forever. If your opportunity rate is 10%, what is the most you would pay for the bond today? One more question: Assume you are offered a bond identical to the one described above, but with a life of 50 years. What is the difference in value between the 50-year bond and the perpetual bond?

The value today of the perpetual bond = $100/.10 = $1,000. Perpetuities An infinite number of cash payments has a finite present value is because the present values of the cash flows in the distant future become infinitesimally small. The value today of the perpetual bond = $100/.10 = $1,000. Using Table A.3, the value of the 50-year bond equals $100  9.9148 = $991.48 So what is the present value of payments 51 through infinity (also an infinite stream)? Since the perpetual bond has a PV of $1,000 and the otherwise identical 50-year bond has a PV of $991.48, the value today of payments 51 through infinity must be $1,000 - 991.48 = $8.52 (!)

Stated and Effective Annual Interest Rates Stated Interest Rate - the interest rate expressed in terms of the interest payment made each period Effective Annual Rate (EAR) - the interest rate expressed as if it were compounded once per year 10% compounded semi-annually is equal to 5% every 6 months 5% every 6 months is not equal to 10% per year $1*1.052= $1.1025 ....earning 5% on the .05 earned after 6 months = .25 cents convert to EAR’s to ensure comparability!

Interest Rates – How they are Quoted Effective Annual Rate - EAR The interest rate expressed as if it were compounded once a year E.g 10% compounded semi-annually is really 5% every 6 months which is equivalent to 10.25% Stated Interest Rate E.g. 10% compounded semi-annually Annual Percentage Rate – APR The interest rate charged per period multiplied by the number of periods per year

A formula to move from EAR to APR or visa versa EAR & APR A formula to move from EAR to APR or visa versa EAR = (1+(quoted rate/m))m -1 What is the EAR with a quoted rate of 8% compounded monthly? -solve for EAR If you want to earn an effective rate of 10 % what rate would you quote? -solve for quoted rate or ‘q’

Compounding Periods, EARs, and APRs Compounding Number of times Effective period compounded annual rate Year 1 10.00000% Semi-annual 2 10.24675 Quarter 4 10.38129 Month 12 10.47131 Week 52 10.50648 Day 365 10.51558 Hour 8,760 10.51703 Minute 525,600 10.51709

Compounding Periods, EARs, and APRs Q. If a rate is quoted at 16%, compounded semi-annually, then the actual rate is 8% per six months. Is 8% per six months the same as 16% per year? A. If you invest $1000 for one year at 16%, then you’ll have $1160 at the end of the year. If you invest at 8% per period for two periods, you’ll have FV = $1000  (1.08)2 = $1000  1.1664 = $1166.40, $6.40 more because of the compounding semi-annually

Compounding Periods, EARs, and APRs (concluded) The Effective Annual Rate (EAR) is _____%. The “16% compounded semiannually” is the quoted or stated rate, not the effective rate. By law, in consumer lending, the rate that must be quoted on a loan agreement is equal to the rate per period multiplied by the number of periods. This rate is called the _________________ (____). Q. A bank charges 1% per month on car loans. What is the APR? What is the EAR? A. The APR is __  __ = ___%. The EAR is: EAR = _________ - 1 = 1.126825 - 1 = 12.6825%

Compounding Periods, EARs, and APRs (concluded) The Effective Annual Rate (EAR) is 16.64%. The “16% compounded semiannually” is the quoted or stated rate, not the effective rate. By law, in consumer lending, the rate that must be quoted on a loan agreement is equal to the rate per period multiplied by the number of periods. This rate is called the Annual Percentage Rate (APR). Q. A bank charges 1% per month on car loans. What is the APR? What is the EAR? A. The APR is 1%  12 = 12%. The EAR is: EAR = (1.01)12 - 1 = 1.126825 - 1 = 12.6825% The APR is thus a quoted rate, not an effective rate!

The three main forms of a loan are: Loan Types The three main forms of a loan are: Pure Discount loans Interest Only Loans Amortized Loans Pure Discount Loan – borrower receives money today and repays a single lump sum at some point in the future – e.g. t-bills and stripped bonds! Interest only loan – borrower pays interest only in each period and then repays entire principal at some point in the future e.g. bonds issued by the Govt. of Canada, some bank loans Amortized Loans – borrower pays interest and part of the principal in each period. 2 approaches…….fixed principal and fixed payment.

Example: Amortization Schedule - Fixed Principal Beginning Total Interest Principal Ending Year Balance Payment Paid Paid Balance 1 $5,000 $1,450 $450 $1,000 $4,000 2 4,000 1,360 360 1,000 3,000 3 3,000 1,270 270 1,000 2,000 4 2,000 1,180 180 1,000 1,000 5 1,000 1,090 90 1,000 0 Totals $6,350 $1,350 $5,000

Example: Amortization Schedule - Fixed Payments Beginning Total Interest Principal Ending Year Balance Payment Paid Paid Balance 1 $5,000.00 $1,285.46 $ 450.00 $ 835.46 $4,164.54 2 4,164.54 1,285.46 374.81 910.65 3,253.88 3 3,253.88 1,285.46 292.85 992.61 2,261.27 4 2,261.27 1,285.46 203.51 1,081.95 1,179.32 5 1,179.32 1,285.46 106.14 1,179.32 0.00 Totals $6,427.30 $1,427.31 $5,000.00

Example Bob’s Life Insurance Co. is trying to sell you an investment policy that will pay you and your heirs $1,000 per year forever. If the required return on this investment is 12 percent, how much will you pay for the policy? The present value of a perpetuity equals C/r. So, the most a rational buyer would pay for the promised cash flows is C/r = $1,000/.12 = $8,333.33 Notice: $8,333.33 is the amount which, invested at 12%, would throw off cash flows of $1,000 per year forever. (That is, $8,333.33  .12 = $1,000.)

In the previous problem, Bob’s Life Insurance Co In the previous problem, Bob’s Life Insurance Co. is trying to sell you an investment policy that will pay you and your heirs $1,000 per year forever. Bob told you the policy costs $10,000. At what interest rate would this be a fair deal? Again, the present value of a perpetuity equals C/r. Now solve the following equation: $10,000 = C/r = $1,000/r r = .10 = 10.00% Notice: If your opportunity rate is less than 10.00%, this is a good deal for you; but if you can earn more than 10.00%, you can do better by investing the $10,000 yourself!