A new business opportunity has a 70% chance of being worth $500,000 next year and a 30% chance of being worth $100,000. The appropriate expected rate of return is 10%.
-Refer to the information above. This new opportunity will be financed with a $150,000 loan. What must the promised rate of return on the loan be? Round your answer to the nearest
Hundredth of a percent.
A)10.00%
B)13.00%
C)28.57%
D)14.29%

Question

Quizplus · Accepted Answer

To find the promised rate of return on the loan, we need to calculate the expected cash flows for next year.

70% chance of $500,000 = 0.7 * $500,000 = $350,000
30% chance of $100,000 = 0.3 * $100,000 = $30,000

Expected cash flow = $350,000 + $30,000 = $380,000

To calculate the promised rate of return on the loan, we need to use the following formula:

Promised rate of return = (Expected cash flow - Loan amount)/Loan amount

Promised rate of return = ($380,000 - $150,000)/$150,000

Promised rate of return = 1.53 or 153%

Rounded to the nearest hundredth of a percent, the answer is 28.57% (Option C). Therefore, option C is the best choice.

A New Business Opportunity Has a 70% Chance of Being