Question

EXERCISE 13-10 Basic Net Present Value Analysis (L013-2] Kathy Myers frequently purchases stocks and bonds, but she is uncertain how to determine the rate of return that she is earning. For example, three years ago she paid $13,000 for 200 shares of Malti Company's common stock. She received a $420 cash dividend on the stock at the end of each year for three years. At the end of three years, she sold the stock for $16,000. Kathy would like to earn a return of at least 14% on all of her investments. She is not sure whether the Malti Company stock provided a 14% return and would like some help with the necessary computations. Required: Using the net present value method, determine whether or not the Malti Company stock provided a 14% return. Round all computations to the nearest whole dollar.

Answer 1

a	Purchase price	$13,000
b	Yearly dividend	$420
c	Selling price	$16,000
d	Expected rate of return	14%
e	Present value annuity factor for three years (1/(1+r)^1 + 1/(1+r)^2+1/(1+r)^3, r=expected rate of return	2.321632
f	Present value of yearly dividend (e*b)	$975.09
g	Present value factor for third year	0.6749715
h	Present value of amount received on sale of stock (1/1+r)^3 (g*c)	$10,799.54
i	Net present value	Present value of cashinflows-present value of cashoutflows
j	Net present value (h+f-a)	($1,225.37)
Kathy expected return is 14 % but she is not able to get at least 14 % since the Net present value is negative when the cashinfows are discounted at 14% and compared with cashoutflow. If the NPV is zero or positive then the return might be 14 % are more but not in the present case