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 will the lender's rate of return be if the business opportunity returns only $100,000 next
Year?
A)0.0%
B)-33.3%
C)+1.5%
D)none of the above

Question

Quizplus · Accepted Answer

If the business opportunity returns $100,000 next year, the lender will receive $150,000 + (interest rate x $150,000) in one year. Setting this equal to $100,000 and solving for the interest rate gives an answer of -33.3% (i.e. a loss of 33.3%). If the business opportunity only returns $100,000 next year, the lender will only receive $100,000 + $150,000 = $250,000 in total. They will make a loss of $100,000 compared to their initial investment of $150,000. Therefore, their rate of return will be a negative percentage equal to the loss divided by the initial investment, or -33.3%. ([$100,000 - $150,000] / $150,000 = -0.33 or -33.3%)

A New Business Opportunity Has a 70% Chance of Being