Question 1

The rate that is used to discount expected future cash flows can be thought of as the return the investor is forgoing on an alternative investment of equal risk. In this framework, the discount rate is being thought of as which of the following?
A) Net present value
B) Opportunity cost
C) Closing cost
D) Future value

Accepted Answer

The discount rate is the rate of return that is lost or forgone by investing in a particular project, instead of investing in an alternative project with similar risk. This is known as the opportunity cost of investing in the particular project. Therefore, the best choice is B, opportunity cost. Choices A, C, and D do not accurately describe the concept of discount rate.

Question 2

The purchase price of an income producing property today is $570,000. After analysis of the expected future cash flows, expected sales price, and expected yield, the investor determines that the future cash flows have a present value (PV) of $580,000. Taking into consideration the price of the property today, what is the net present value (NPV) of this investment opportunity, and should the investor take the deal?
A) $10,000; Yes
B) $10,000; No
C) -$10,000; Yes
D) -$10,000; No

Accepted Answer

The NPV can be calculated by subtracting the purchase price from the PV of expected future cash flows: NPV = $580,000 - $570,000 = $10,000. A positive NPV indicates the investment is profitable, so the investor should take the deal. Therefore, the best choice is A.

Question 3

Risk is the possibility that actual outcomes will vary from what was expected when the asset was purchased. If investors require a higher rate of return for undertaking more risk, the underlying assumption is that investors are:
A) risk neutral
B) risk averse
C) risk taking
D) hedging risk

Accepted Answer

The fact that investors require a higher rate of return for undertaking more risk implies that they do not want to take risks and are risk averse. If they were risk-neutral, they would not require a higher rate of return for taking on more risk, and if they were risk-taking, they would be willing to take on more risk without requiring a higher rate of return. Hedging risk is a different concept altogether, and not applicable in this context.

Question 4

Assume that a piece of land is currently valued at $50,000. If this piece of land is expected to appreciate at an annual rate of 5% per year for the next 20 years, how much will the land be worth 20 years from now?
A) $100,898.99
B) $112,633.09
C) $123,860.81
D) $132,664.89

Accepted Answer

The answer of Assume that a piece of land is...

Question 5

Which of the following terms refers to a fixed amount of money paid or received at the beginning of every recurring period (i.e. a series of equal lump sums)?
A) Future value
B) Present value
C) Ordinary annuity
D) Annuity due

Accepted Answer

An annuity due refers to a series of equal payments made at the beginning of each period.

Question 6

Suppose an investor is interested in purchasing the following income producing property at a current market price of $450,000. The prospective buyer has estimated the expected cash flows over the next four years to be as follows: Year 1 = $40,000, Year 2 = $45,000, Year 3 = $50,000, Year 4 = $55,000. Assuming that the required rate of return is 12% and the estimated proceeds from selling the property at the end of year four is $500,000, what is the NPV of the project?
A) $8,829.96
B) $9,889.56
C) $428,113.65
D) $459,889.56

Accepted Answer

The answer of Suppose an investor is interested in purchasing...

Question 7

The internal rate of return (IRR) and the net present value (NPV) are tools that are widely used in real estate investment and finance decision making. An investor would most likely pursue an investment if which of the following circumstances was true?
A) The going-in IRR exceeds the investor's required rate of return
B) The going-in IRR is less than the investor's required rate of return
C) The going-in IRR exceeds the NPV
D) The going-in IRR is less than the NPV

Accepted Answer

An investor would pursue an investment if the going-in IRR exceeds their required rate of return, as this indicates that the investment is likely to provide returns that meet or exceed their expectations. The NPV is also an important consideration, but a high NPV alone does not guarantee a profitable investment, as it is dependent on the discount rate used.

Question 8

The Real Estate Research Corporation (RERC) regularly surveys a sample of institutional investors and managers in order to gain insight into the required returns and risk adjustments used by industry professionals when making real estate acquisitions. Most of the properties that RERC examines are large, relatively new, located in major metropolitan areas and fully or substantially leased. These classifications of properties are commonly referred to as:
A) investment grade properties
B) speculative grade properties
C) net-lease properties
D) industrial properties

Accepted Answer

The properties described in the question are typically considered investment grade properties due to their desirable characteristics such as location, occupancy, and size. This classification is often used to describe properties that are considered low risk and are targeted by institutional investors.

Question 9

Suppose an investor deposits $2500 in an interest-bearing account at her local bank. The account pays 2.5% interest compounded annually. If the investor plans on withdrawing the original principal plus accumulated interest at the end of 7 years, what is the total amount that she should expect to receive assuming interest rates do not change?
A) $2,971.71
B) $2,974.89
C) $3,532.43
D) $11,920.93

Accepted Answer

The total amount can be calculated using the formula for compound interest: A = P(1 + r/n)^(nt), where A is the amount of money accumulated after n years, including interest, P is the principal amount ($2500), r is the annual interest rate (2.5% or 0.025), n is the number of times that interest is compounded per year (1, since it's compounded annually), and t is the time the money is invested for (7 years). Plugging in the values: A = $2500(1 + 0.025/1)^(1*7) = $2500(1.025)^7 ≈ $2,971.71.

Question 10

Since investors prefer to have money now rather than later, money received next week, instead of today, is not worth as much to those receiving it, assuming the magnitude of the cash flow in each period is the same. Therefore an adjustment to the prospective cash flows is required. This process is referred to as:
A) compounding
B) discounting
C) amortizing
D) hedging

Accepted Answer

Discounting is the process of adjusting future cash flows to reflect the time value of money. It involves reducing the value of future cash flows by an appropriate discount rate, which reflects the opportunity cost of waiting to receive the money. This makes it comparable to cash flows received today, allowing investors to make better investment decisions. Compounding involves calculating the future value of money invested today, while amortizing refers to the process of paying off a loan or debt over time. Hedging, on the other hand, involves using financial instruments to reduce the risk of an investment.

Question 11

Suppose that a landlord is interested in renting out a two-bedroom apartment for $1000 a month for the next year. The landlord requires rent to be paid at the beginning of the month, at which point he will deposit the rental check into a local savings account. If the annual interest that the tenant can earn on this account is 5% and interest is compounded monthly, how much will the tenant have in his savings account at the end of the year?
A) $12,278.86
B) $12,330.01
C) $13,330.02
D) $15,917.13

Accepted Answer

The tenant will pay $12,000 in rent over the year ($1000 x 12 months). If the landlord deposits the rent check into an account earning 5% interest compounded monthly, then the effective annual interest rate is approximately 5.12% ((1 + 0.05/12)^12 - 1). Using the formula for compound interest, the tenant will have approximately $12,330.01 in their savings account at the end of the year.

Question 12

Assuming that an investor requires a 10% annual yield over the next 12 years, how much would she be willing to pay for the right to receive $20,000 at the end of year 12?
A) $6,053.91
B) $6,372.62
C) $62,768.57
D) $136,273.84

Accepted Answer

To calculate the present value of $20,000 to be received after 12 years with a required yield of 10%, we can use the formula:
PV = FV / (1 + r)^n
Where PV is the present value, FV is the future value, r is the required yield and n is the number of years. 
Plugging in the values, we get:
PV = 20,000 / (1 + 0.1)^12
PV = $6,372.62
Therefore, the investor would be willing to pay $6,372.62 for the right to receive $20,000 at the end of year 12.

Question 13

Assume that an industrial building can be purchased for $1,500,000 today, is expected to yield cash flows of $80,000 for each of the next five years (with the cash flows occurring at the end of each year), and can be sold at the end of the fifth year for $1,625,000. Calculate the internal rate of return (IRR) for this transaction.
A) 3.14%
B) 6.78%
C) 9.20%
D) 10.37%

Accepted Answer

The internal rate of return (IRR) is the discount rate that makes the net present value (NPV) of all cash flows from a particular project equal to zero. In this case, the IRR can be found by setting the NPV equation to zero and solving for the discount rate (r). The cash flows are $80,000 annually for five years, with an initial investment of $1,500,000 and a final sale price of $1,625,000 at the end of the fifth year. The IRR that satisfies these conditions is 6.78%, as it is the rate that equates the present value of the inflows to the initial investment. Calculating the exact IRR typically requires the use of financial calculators or software, as it involves solving for the root of a polynomial equation.

Question 14

With compound interest, the investor earns interest on the principal amount invested plus interest on accumulated interest. Which of the following compounding frequencies would yield the investor the greatest ending balance assuming all else is equal?
A) Daily
B) Monthly
C) Quarterly
D) Annually

Accepted Answer

The more frequently interest is compounded, the greater the ending balance will be due to the effect of compounding. Daily compounding allows for the maximum possible compounding, resulting in the highest ending balance.

Question 15

An investor agreed to sell a warehouse 5 years from now to the tenant who currently rents the space. The tenant will continue to pay $20,000 rent at the end of each year including year five in which he will purchase the building for an additional $150,000. Assuming the investor's required rate of return is 10%, how much is this deal presently worth to the investor who was willing to sell?
A) $168,953.93
B) $241, 451.07
C) $363,678.50
D) $1,032,475.67

Accepted Answer

To calculate the Present Value (PV) of the deal, we need to discount each future cash flow back to the present using the investor's required rate of return of 10%.

PV of Rent Payments:
Year 1: $20,000 / (1+0.1)^1 = $18,181.82
Year 2: $20,000 / (1+0.1)^2 = $16,528.93
Year 3: $20,000 / (1+0.1)^3 = $15,025.39
Year 4: $20,000 / (1+0.1)^4 = $13,657.62
Year 5: $20,000 / (1+0.1)^5 = $12,414.20

PV of Purchase Price:
$150,000 / (1+0.1)^5 = $86,374.07

Total Present Value:
$18,181.82 + $16,528.93 + $15,025.39 + $13,657.62 + $12,414.20 + $86,374.07 = $168,953.93

Therefore, the deal is worth $168,953.93 to the investor who was willing to sell.

Question 16

Assume that an individual puts $10,000 into a savings account that pays 3% interest, with interest being compounded monthly. The individual plans to withdraw the balance in 5 years to buy a car. If he does not make any further deposits over this period, how much will the individual be able to put towards his purchase?
A) $10,125.63
B) $11,592.74
C) $11,616.17
D) $58,916.03

Accepted Answer

We can use the formula for compound interest:

A = P(1 + r/n)^(nt)

where A is the final amount, P is the initial principal, r is the annual interest rate, n is the number of times interest is compounded per year, and t is the time in years.

Using this formula, we can calculate the final amount after 5 years:

A = 10,000(1 + 0.03/12)^(12*5) = 11,616.17

Therefore, the individual will be able to put $11,616.17 towards the purchase of the car.

Question 17

Assuming all else the same, the ___________ of an annuity due will be _____________ that of an ordinary annuity.
A) future value; greater than
B) present value; equal to
C) future value; less than
D) present value; less than

Accepted Answer

The future value of an annuity due will be greater than that of an ordinary annuity because payments are made at the beginning of each period, allowing for more compounding.

Question 18

When discussing time-value-of-money it is necessary to understand some key terminology. Which of the following terms refers to a fixed amount of money paid or received at the end of every recurring period (i.e. a series of equal lump sums)?
A) Future value
B) Present value
C) Ordinary annuity
D) Annuity due

Accepted Answer

An ordinary annuity refers to a series of equal lump sum payments that occur at the end of each recurring period. This is different from an annuity due, which refers to payments made at the beginning of each period. Future value and present value refer to the value of money at different points in time.

Question 19

You have just had a tenant sign a lease contract that guarantees you payments of $100,000 at the end of each year for the next five years. If you wish to determine the present value of these future cash flows (i.e. the value of this cash flow stream to you today), you would use which of the following time value of money processes?
A) Compounding
B) Discounting
C) Amortizing
D) Aggregating

Accepted Answer

To determine the present value of future cash flows, we need to discount the future cash flows back to their present value. This involves the process of discounting, which is the opposite of compounding. Amortizing refers to the process of paying off a loan with regular payments, and aggregating refers to combining or adding multiple items together.

Question 20

Uncertainty of cash flows can vary significantly across property types. Which of the following property types is often considered to have the most uncertain expected cash flows?
A) Multifamily
B) Industrial
C) Office
D) Hospitality

Accepted Answer

Hospitality properties, such as hotels and resorts, are often considered to have the most uncertain expected cash flows due to factors such as seasonality, fluctuating demand, and the impact of global events. Multifamily, industrial, and office properties generally have more stable and predictable cash flows.

Quiz 14: The Effects of Time and Risk on Value

The rate that is used to discount expected future cash flows can be thought of as the return the investor is forgoing on an alternative investment of equal risk. In this framework, the discount rate is being thought of as which of the following?

Risk is the possibility that actual outcomes will vary from what was expected when the asset was purchased. If investors require a higher rate of return for undertaking more risk, the underlying assumption is that investors are:

Assume that a piece of land is currently valued at $50,000. If this piece of land is expected to appreciate at an annual rate of 5% per year for the next 20 years, how much will the land be worth 20 years from now?

Which of the following terms refers to a fixed amount of money paid or received at the beginning of every recurring period (i.e. a series of equal lump sums) ?

The internal rate of return (IRR) and the net present value (NPV) are tools that are widely used in real estate investment and finance decision making. An investor would most likely pursue an investment if which of the following circumstances was true?

Assuming that an investor requires a 10% annual yield over the next 12 years, how much would she be willing to pay for the right to receive $20,000 at the end of year 12?

With compound interest, the investor earns interest on the principal amount invested plus interest on accumulated interest. Which of the following compounding frequencies would yield the investor the greatest ending balance assuming all else is equal?

Assuming all else the same, the _ of an annuity due will be ___ that of an ordinary annuity.

When discussing time-value-of-money it is necessary to understand some key terminology. Which of the following terms refers to a fixed amount of money paid or received at the end of every recurring period (i.e. a series of equal lump sums) ?

Uncertainty of cash flows can vary significantly across property types. Which of the following property types is often considered to have the most uncertain expected cash flows?