DE LA SALLE UNIVERSITY – MANILA
Ramon V. Del Rosario College of Business
Financial Management Department
Case 1: Financial Planning
(Time Value of Money)
In Partial fulfillment
of the Course Requirements of
Corporate Finance
(1st Term A.Y. 2023-2024)
Submitted to:
Mr. Julius O. Buendia
Submitted by: Caraan,
Chenel Anne L. Castillo,
Alvin Glenn E. David,
Kara Carmela M. Tala,
Mark Anthony V.
September 28, 2023
Case 1
Financial Planning
Time Value of Money
Introduction
Ambrose Studebaker, a well-known historian and prolific author wrote textbooks that
earned him a substantial amount of money. His present income comes from his salary, book
royalties, and fees from being a guest lecturer. His frugality helped him to accumulate various
investments and some fine art. Knowing that the value of his home appreciated, he became
interested in accumulating additional money so he could retire 20 years later at the age of 60 and
finance the future education expenses of his newborn child. He invited Robert Morton, the
president of R.G.D. Morton and Associates (a firm specializing in financial planning), to discuss
where he can put his investments so he could maximize the earning potential of his investments.
Upon the assessment of Studebaker’s investment and mortgage balance, Morton
recommended him to move his $55,000 worth of investments, which consists of his equity balance
of $25,000 and the excess of $30,000 in a money market mutual fund, into a single-premium life
insurance policy. According to Morton, this movement would earn him $176,392 in 20 years
representing an annual return of 6%, which is higher than the 5% that he is currently receiving
from his investments. However, Morton stated that he will incur that his yearly mortgage will
increase by $3,052 but its earning potential will exceed its costs in the long run.
After his long chat with Morton, he became skeptical about Morton’s recommendation so
he asked Phyllis Comer, his colleague from the economics department, about his investment
situation. According to Comer, investing in life insurance is a bad deal because of these four
reasons: 1. It ignores taxes. 2. There is a hidden cost of $5,000 from moving his investment into
the life insurance policy. 3. He has to give up his 7% mortgage and take out a new mortgage at
9%. 4. If he invested his money in a life insurance policy, he will actually incur the annual cost of
$5,152, which includes the additional annual cost of $3,052 and the lost interest of $2,100 for not
investing his money in the investment that yields him the annual return of 7%, in year 1 and this
cost will become $18,632 in year 20. Comer recommended him to invest his $30,000 in long-term
investments of a similar risk that yields an annual return of 7% and deposit $3,052 in the same
investment annually instead of paying it annually to the life insurance policy. Hence, Morton
missed two important details which are his needs for long-term, safe, and tax-sheltered investment
and he had excess yearly income in addition to his investments.
Statement of the Problem
What kind of long-term investment should Ambrose Studebaker venture into to manage
his financial responsibilities and to get the most money back on his investments?
Point of View
To assess this case, the group would adopt Dr. Ambrose Studebaker's point of view.
SWOT Analysis
Investment that Earns 7%
Investment in Life Insurance
Strengths
compounded Annually
This investment can provide
He can accumulate $241,209 from this
security in case of unforeseen
investment (if $3,052 is deposited in this
circumstances such as accidents or
kind of investment), which is higher than
death, guaranteeing the investor that his investment in life insurance policy.
he/she will receive a lump sum of
In addition, he can easily withdraw his
money.
investment.
There are other significant costs
Since the return of 7% compounded
associated with this investment, like annually is relatively high, it can be
Weakness
taxes, the transfer fee of $5,000 (if
associated with higher risks that could
he will do an equity transfer to pay
lose his money rather than gain
for the annual cost of his life
additional income from this investment.
insurance), and commissions. In
addition, if nothing happens to him,
he will have difficulty withdrawing
his investment.
It provides the security of his other
Opportunities
This maximizes the potential earnings of
investments and the financial health his investment, and it can help him in
of his family in case of
financing the education expenses of his
unanticipated accidents or death.
child and secure his retirement.
If nothing happens to him upon the Financial crisis, business weather, and
Threat
expiration of his life insurance, his financial market volatility would
investment will go to waste.
negatively affect the financial return of
that investment.
Answers to Questions:
1. Morton notes that the $55,000 invested in the single-premium life insurance policy would grow
to $176,392 in 20 years for a return of 6 percent a year. Show and explain how the return of 6
percent was calculated.
Answer: The $55,000 comes from two sources: $30,000 invested by Baker in a money market
mutual fund and an anticipated $25,000 in savings from obtaining a new mortgage. The life
insurance policy generates an annual return of 6%, accumulating value over 20 years. In the first
year, it adds $3,300 to the initial payment of $55,000, resulting in a total of $58,300. The policy's
value increases yearly, reaching $176,392 by the 20th year. This growth rate is determined through
compounding to calculate the future value of the cash flow.
Alternatively, using the formula FV = � 𝑉 (1 + 𝑖)� where, FV is the Future Value; PV is the
present value, i is the yield/interest and n number of periods.
𝐹𝑉 = � 𝑚𝑡 (1 + 𝑖)�
𝑛
𝐹𝑉
𝑖 = √ 𝑃�
20
𝑖 = √
𝑡
-1
$176, 392
$55,000
-1
𝑖 = 6%
Checking:
Year
Balance
Interest (6%)
Accumulated Value
1
55,000
3,300
58,300
2
58,300
3,498
61,798
3
61,798
3,708
65,506
4
65,506
3,930
69,436
5
69,436
4,166
73,602
6
73,602
4,416
78,019
7
78,019
4,681
82,700
8
82,700
4,962
87,662
9
87,662
5,260
92,921
10
92,921
5,575
98,497
11
98,497
5,910
104,406
12
104,406
6,264
110,671
13
110,671
6,640
117,311
14
117,311
7,039
124,350
15
124,350
7,461
131,811
16
131,811
7,909
139,719
17
139,719
8,383
148,103
18
148,103
8,886
156,989
19
156,989
9,419
166,408
20
166,408
9,984
176,392
2. What should be the percentage return for the $55,000 investment in the single-premium life
insurance to double in value in 5 years?
Answer: Using the same method in #1, 14.87% must be the return in order for it to double its
value in 5 years.
𝐹𝑉 = � 𝑚𝑡 (1 + 𝑖)�
𝐹𝑉
𝑛
𝑖 = √
5
𝑖 = √
𝑃� 𝑡
-1
$110. 000
-
1
$55,000
𝒊 = � � .� � %
3. In order to reposition the equity in his home, Studebaker would have to take out a 30-year,
$75,000 mortgage at 9 percent. Explain how the yearly mortgage payments on this loan were
obtained.
Answer: Given that the present value of the mortgage payment is $75,000 discounted at 9%
compounded annually, yearly mortgage payments are calculated by solving the annual stream of
payments algebraically in the present value of ordinary annuity formula. Hence, Morton came up
to the annual mortgage payment of $7,300 to Studebaker.
1 − (1 + 𝑖)−�
� 𝑉 = � 𝑚𝑡 [
]
𝑖
1 − (1 + 𝑖)−�
� 𝑚𝑡 = � 𝑉 ÷� [
]
𝑖
1 − (1.09)−30
� 𝑚𝑡 = $75,000 ÷� [
]
0.09
� 𝑚𝑡 = $7,300
4. In relation to question number 3, calculate the monthly mortgage payment.
Answer: Studebaker’s monthly mortgage payment is $608.33 ($7,300/12)
5. Exhibit 3 indicates that $176,392 will be accumulated after 20 years in the life insurance policy.
Is this really true? (Hint: If Studebaker were to make this investment, what would his debt position
look like in year 20?)
● Investment from Life Insurance: $176,392: This value comes from Exhibit 3, which
illustrates the expected accumulation in the life insurance policy over 20 years.
●
Accumulated Insurance Service Fee: ($61,040): This is likely an estimate of the total cost
or fees associated with the life insurance policy over the 20-year period. It's derived from
the increase in the annual mortgage payment, as shown in Exhibit 3, taking into account
both the increased mortgage payment and the lost interest on the $30,000 invested in the
policy.
● Balance from the Existing Mortgage: ($0): This assumes that Studebaker's existing
mortgage is fully paid off or that it has been replaced by the new mortgage over the 20year period. This may or may not be accurate depending on the mortgage terms and
payments.
● Estimated Balance from the New Mortgage: ($46,860): This represents the remaining
balance on the new 30-year, $75,000 mortgage at a 9% interest rate after 20 years. This
balance is calculated based on the mortgage terms and the payments made over the years.
Balance of the new Mortgage at year 20
Year
Mortgage
Monthly
Balance
Payment
Applied to
Interest (9%) Principal
Balance
1
75,000
7,300
6,750
550
74,450
2
74,450
7,300
6,701
600
73,851
3
73,851
7,300
6,647
653
73,197
4
73,197
7,300
6,588
712
72,485
5
72,485
7,300
6,524
776
71,708
6
71,708
7,300
6,454
846
70,862
7
70,862
7,300
6,378
922
69,940
8
69,940
7,300
6,295
1,005
68,934
9
68,934
7,300
6,204
1,096
67,838
10
67,838
7,300
6,105
1,195
66,644
11
66,644
7,300
5,998
1,302
65,342
12
65,342
7,300
5,881
1,419
63,923
13
63,923
7,300
5,753
1,547
62,376
14
62,376
7,300
5,614
1,686
60,689
15
60,689
7,300
5,462
1,838
58,851
16
58,851
7,300
5,297
2,003
56,848
17
56,848
7,300
5,116
2,184
54,664
18
54,664
7,300
4,920
2,380
52,284
19
52,284
7,300
4,706
2,594
49,690
20
49,690
7,300
4,472
2,828
46,862
To calculate the overall financial position in year 20, you would subtract the accumulated
insurance service fee and the estimated balance from the new mortgage from the initial investment
from the life insurance policy:
Future Value of Life Insurance Investment
$ 176,392
Accumulated Insurance Service Fee
(61,040)
Balance from Existing Mortgage
0.00
Estimated Balance from the New Mortgage
(46,862)
Net position in Year 20
$ 68,490
So, the result of $68,490 indicates that in year 20, Studebaker is estimated to have a positive
net financial position, primarily due to the costs associated with the life insurance policy and the
remaining mortgage balance on the new mortgage. This means that, according to the calculations
presented, Studebaker would have a net financial gain in year 20.
6. (a) If the excess $30,000 were invested in a long-term asset yielding 8 percent a year, how much
would be accumulated after 20 years? (b) Suppose Studebaker placed $3,052 a year into a longterm investment paying 8 percent a year. How much would be accumulated after 20 years (amounts
invested at the end of each year)?
Answer: (A.) If the excess $30,000 were invested in a long-term asset yielding 8 percent a year,
how much would be accumulated after 20 years?
𝐹𝑉 = � 𝑚𝑡 (1 + 𝑖)�
𝐹𝑉 = $30,000 (1.08)20
𝐹𝑉 = $� � � , � � � .
Year
Balance
1
2
3
4
5
30,000.00
32,400.00
34,992.00
37,791.36
40,814.67
� � Interest (8%)
2,400.00
2,592.00
2,799.36
3,023.31
3,265.17
Accumulated Value
32,400.00
34,992.00
37,791.36
40,814.67
44,079.84
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
44,079.84
47,606.23
51,414.73
55,527.91
59,970.14
64,767.75
69,949.17
75,545.10
81,588.71
88,115.81
95,165.07
102,778.28
111,000.54
119,880.58
129,471.03
3,526.39
3,808.50
4,113.18
4,442.23
4,797.61
5,181.42
5,595.93
6,043.61
6,527.10
7,049.26
7,613.21
8,222.26
8,880.04
9,590.45
10,357.68
47,606.23
51,414.73
55,527.91
59,970.14
64,767.75
69,949.17
75,545.10
81,588.71
88,115.81
95,165.07
102,778.28
111,000.54
119,880.58
129,471.03
139,828.71
If Studebaker invests the excess $30,000 in a long-term asset yielding 8 percent a year, he would
accumulate approximately $139,828.71
(B) Suppose Studebaker placed $3,052 a year into a long-term investment paying 8 percent
a year. How much would be accumulated after 20 years (amounts invested at the end of each year)?
(1 + 𝑖)20 − 1
𝐹𝑉� 𝐴 = � 𝑚𝑡 [
]
𝑖
𝐹𝑉� 𝐴 = $3,052 [
(1)20 − 1
]
0.08
𝐹𝑉� 𝐴 = $� � � , � � � .
� �
Year
Interest (8%)
Payment
Total
Accumulated Value
1
2
3
4
5
6
0.00
244.16
507.85
792.64
1,100.21
1,432.39
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,296.16
3,559.85
3,844.64
4,152.21
4,484.39
0.00
3,052.00
6,348.16
9,908.01
13,752.65
17,904.87
22,389.26
7
8
9
10
11
12
13
14
15
16
17
18
19
20
1,791.14
2,178.59
2,597.04
3,048.96
3,537.04
4,064.16
4,633.46
5,248.29
5,912.31
6,629.46
7,403.98
8,240.46
9,143.85
10,119.52
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
4,843.14
5,230.59
5,649.04
6,100.96
6,589.04
7,116.16
7,685.46
8,300.29
8,964.31
9,681.46
10,455.98
11,292.46
12,195.85
13,171.52
27,232.40
32,462.99
38,112.03
44,212.99
50,802.03
57,918.19
65,603.65
73,903.94
82,868.25
92,549.71
103,005.69
114,298.14
126,494.00
139,665.52
8. Repeat problem 5 but assume a 7 percent return can be earned.
Future Value of Life Insurance Investment (See
Computation)
Accumulated Insurance Service Fee
Balance from Existing Mortgage
Estimated Balance from the New Mortgage
Net position in Year 20
$ 212,832.65
(61,040.00)
0.00
(46,862.00)
$ 104,930.65
Assuming that the investment from life insurance has the potential to earn 7%, its Future
value at year 20 is expected to be 212,832.65, leaving him at a positive financial position of
$104,930. 65
Computation:
Year
1
2
3
4
5
6
Balance
55,000.00
58,850.00
62,969.50
67,377.37
72,093.78
77,140.35
Interest (7%)
3,850.00
4,119.50
4,407.87
4,716.42
5,046.56
5,399.82
Accumulated Value
58,850.00
62,969.50
67,377.37
72,093.78
77,140.35
82,540.17
7
8
9
10
11
12
13
14
15
16
17
18
19
20
82,540.17
88,317.98
94,500.24
101,115.26
108,193.32
115,766.86
123,870.54
132,541.48
141,819.38
151,746.73
162,369.01
173,734.84
185,896.28
198,909.01
5,777.81
6,182.26
6,615.02
7,078.07
7,573.53
8,103.68
8,670.94
9,277.90
9,927.36
10,622.27
11,365.83
12,161.44
13,012.74
13,923.63
88,317.98
94,500.24
101,115.26
108,193.32
115,766.86
123,870.54
132,541.48
141,819.38
151,746.73
162,369.01
173,734.84
185,896.28
198,909.01
212,832.65
9. Comer’s criticisms implied that the single-premium life insurance policy is an unattractive
investment by Studebaker. What do your previous answers suggest?
Answer: The single life insurance policy lacks appeal for the following reasons:
1. Excessive Insurance Costs: The problem with whole life insurance policies is that they tend to
be perceived primarily as an investment rather than insurance. Buyers often assume they are paying
standard rates for the insurance component, similar to what they would pay for term insurance.
However, this assumption can lead to higher costs. Insurance companies charge as much as they
can get away with, and if buyers aren't vigilant, they end up paying inflated prices. Additionally,
young individuals may not afford sufficient whole life insurance to meet their actual insurance
needs, resulting in the purchase of separate term policies or inadequate coverage.
2. High Fees: While policyholders may not see fees directly deducted from their accounts, these
fees impact returns indirectly. For instance, the commission structure for whole life insurance
typically includes a substantial commission (100% of the first year's premiums) and ongoing fees
(6% of premiums annually). These fees divert money away from potential investments. In contrast,
term policies have lower initial commissions (about 50% of the first year's premiums) and reduced
ongoing fees (4% of premiums). This commission structure provides a financial incentive to sell
whole life insurance and encourages policy upgrades.
3. Complexity Benefits the Insurer: To obscure the unfavorable aspects of whole life insurance
policies, insurance companies have introduced complexity into their products. This complexity
serves to confuse policyholders, making it challenging to decipher the true value of the policy.
Even individuals who invest significant time attempting to understand these policies often struggle
to comprehend them fully. Salespeople may not possess a comprehensive understanding of the
policies themselves, but they are well-versed in the commission structure. Essentially, the greater
the complexity, the less advantageous the deal becomes for policyholders.
10. Suppose Studebaker’s goal is to accumulate $400,000 in 20 years. Assume the $30,000 is
invested at 8 percent. How much will he have to save in equal amounts at the end of each year of
the next 20 years if he can earn 8 percent per year on any investments?
Answer: Given the initial deposit of $30,000, which is compounded at 8% annually, for
Studebaker to accumulate $400,000 at the end of 20 years, he will have to deposit $5,685.32 at the
end of each year.
Target Value
$ 400,000.00
$30,000 deposit compounded at 8% in 20
years
Future Value of 20 payments
Divided by FVOA factor at 8%
Annual Payment
139,828.71
260,171.29
45.76
$ 5,685.32
Checking:
Year
Interest (8%)
Deposit
Total
1
2
3
4
5
6
7
2,400.00
3,046.83
3,745.40
4,499.85
5,314.67
6,194.67
7,145.07
5,685.32
5,685.32
5,685.32
5,685.32
5,685.32
5,685.32
5,685.32
8,085.32
8,732.15
9,430.72
10,185.17
10,999.99
11,879.99
12,830.39
Balance
30,000.00
38,085.32
46,817.47
56,248.18
66,433.36
77,433.35
89,313.33
102,143.72
8
9
10
11
12
13
14
15
16
17
18
19
20
8,171.50
9,280.04
10,477.27
11,770.28
13,166.73
14,674.89
16,303.71
18,062.83
19,962.68
22,014.52
24,230.51
26,623.78
29,208.50
5,685.32
5,685.32
5,685.32
5,685.32
5,685.32
5,685.32
5,685.32
5,685.32
5,685.32
5,685.32
5,685.32
5,685.32
5,685.32
13,856.82
14,965.36
16,162.59
17,455.60
18,852.05
20,360.21
21,989.03
23,748.15
25,648.00
27,699.84
29,915.83
32,309.10
34,893.82
116,000.54
130,965.90
147,128.49
164,584.09
183,436.14
203,796.35
225,785.38
249,533.53
275,181.53
302,881.37
332,797.20
365,106.30
400,000.13
11. Repeat part 10 but assume he will not be able to save any money in years 13 to 20. This is, he
will save an equal amount at the end of years 1 to 12 and nothing thereafter.
Answer: Given that the initial deposit of $30,000, which is compounded at 8% annually, in order
for Studebaker to accumulate $400,000 at the end of 20 years without the need to deposit any
money in year 13 to 20, he will have to deposit $7,406.94 annually from year 1 to year 12.
Target Value
$ 400,000.00
$30,000 deposit compounded at 8% in 20
years
Targeted FV less Initial Deposit
139,828.71
260,171.29
Divided by: Compound Interest Factor
from Y13 to Y20 (8 years)
FV of 12 payments
Divided by: FVOA factor at 8% for 12
years
Annual Payment
1.8509
140,562.45
$
18.9771
7,406.94
Checking:
Year
1
Interest (8%)
2,400.00
Deposit
Total
7,406.94
9,806.94
Balance
30,000.00
39,806.94
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
3,184.56
4,031.87
4,946.98
5,935.29
7,002.67
8,155.44
9,400.43
10,745.02
12,197.18
13,765.51
15,459.30
17,288.60
18,671.69
20,165.43
21,778.66
23,520.96
25,402.63
27,434.84
29,629.63
7,406.94
7,406.94
7,406.94
7,406.94
7,406.94
7,406.94
7,406.94
7,406.94
7,406.94
7,406.94
7,406.94
0.00
0.00
0.00
0.00
0.00
0.00
0.00
0.00
10,591.50
11,438.82
12,353.92
13,342.23
14,409.61
15,562.38
16,807.37
18,151.96
19,604.12
21,172.45
22,866.25
17,288.60
18,671.69
20,165.43
21,778.66
23,520.96
25,402.63
27,434.84
29,629.63
50,398.44
61,837.25
74,191.17
87,533.41
101,943.02
117,505.40
134,312.78
152,464.74
172,068.86
193,241.31
216,107.55
233,396.16
252,067.85
272,233.28
294,011.94
317,532.90
342,935.53
370,370.37
400,000.00
12. Exhibit 3 suggests that the annual cost of the life insurance policy is $3,052. With the
adjustments mentioned in the case, Comer calculated the cost to be $5,152 in year 1 and $18,632
by year 20 assuming a 7 percent annual return. Explain how these were determined.
Answer: Supposed that Studebaker will deposit his $30,000 in the long-term investment that earns
7% compounded annually and deposit $3,052 annually in the same investment rather than giving
up his investment to pay the annual cost of his life insurance, by following the sinking fund
schedule, he will incur cost of $5,152 in year 1 and $18,632 in year 20. Take note that the cost he
incurred is rather his missed opportunity to gain interest from his deposits plus his missed deposit
for that year.
Sinking Fund Schedule:
Year
Interest (7%)
Deposit
Total
1
2,100.00
3,052.00
5,152.00
Balance
30,000.00
35,152.00
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
2,460.64
2,846.52
3,259.42
3,701.22
4,173.95
4,679.76
5,220.99
5,800.10
6,419.74
7,082.76
7,792.20
8,551.29
9,363.52
10,232.61
11,162.53
12,157.55
13,222.22
14,361.41
15,580.35
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
3,052.00
5,512.64
5,898.52
6,311.42
6,753.22
7,225.95
7,731.76
8,272.99
8,852.10
9,471.74
10,134.76
10,844.20
11,603.29
12,415.52
13,284.61
14,214.53
15,209.55
16,274.22
17,413.41
18,632.35
40,664.64
46,563.16
52,874.59
59,627.81
66,853.75
74,585.52
82,858.50
91,710.60
101,182.34
111,317.10
122,161.30
133,764.59
146,180.11
159,464.72
173,679.25
188,888.80
205,163.02
222,576.43
241,208.78
Alternative Course of Action
ACA 1:
Studebaker has the option to forego investing in the equity transfer and instead, place his
funds in different investment avenues. At present, he has his money invested in money market
funds, which yield an annual interest of 5%. The single-premium life insurance policy, on the other
hand, offers a more attractive interest rate of 6% annually, which is 1% higher than what his current
investment in the money market fund provides. This appears promising because the annual returns
from the life insurance policy can more than cover the increase in his mortgage payment,
effectively allowing him to earn 1% more than his present investment.
However, it's important to note that by opting for the insurance policy, Studebaker would
forfeit the liquidity feature of the money market fund. Additionally, if he chooses to invest in the
insurance policy, he would need to lock his money in for a 20-year period. On the other hand, if
he decides to explore alternative investments, such as the one mentioned in question number 12,
he could potentially earn a higher income from interest and would not be bound by the 20-year
commitment, provided he invests and continue to reinvests his funds in debt securities for 20 years.
Decision Criteria
1. Length of Financial Goal: In order for Studebaker to accomplish his overall financial
goals, setting short-term and long-term financial goals is a must. These financial goals are
essential for achieving financial freedom. It’s the unique, specific, measurable and
attainable ideals and aspirations for his and his dependencies’ lives that explains the case.
As for acquiring life insurance, a short-term goal, on which it provides security to
Studebaker but with significant costs can indeed guarantee him with money but is uncertain
of the release and it is dependent on the occurrence of death. On the other hand, obtaining
investment from the market, a long-term goal may project higher risks but warrants
Studebaker with higher and undoubtful return.
2. Purpose of Financial Goal: As Studebaker decides on attaining investments, he must
decide if what he really needs is an investment that can be easily converted in cash or an
investment that yields higher return over a period of time at a reasonable rate. In this case,
one must consider lengthy gains despite short term volatility.
3. Risk Appetite: Considering Studebaker's financial objective is to allocate funds for both
his children's education and retirement, one of the factors he needs to weigh is the extent
to which he is prepared to take financial risks to achieve this objective. One must balance
the uncertainty of change of outcome and the potential benefits.
4. Tax Considerations and other costs: It is important for Studebaker to thoroughly
understand the tax and other costs implications of his investments as this will heavily
influence his after-tax inflows and outflows.
5. Diversification Strategies: Properly diversifying investments across various asset classes
can help manage risk. Studebaker should consider diversification strategies to spread risk
and optimize returns.
Recommendation
Studebaker should seriously consider exploring alternative long-term investment options
instead of moving forward with the "equity transfer" plan, as it could lead to unnecessary expenses
associated with unwanted life insurance coverage. This suggestion aligns with the advice provided
in response to question 12, where we discussed the potential benefits of seeking out a different
investment strategy.
One viable alternative for Studebaker is to delve into the realm of long-term investments
that offer a consistent 7% annual compounded return. By dedicating an annual deposit of $3,052
to such an investment, he can anticipate the accumulation of significantly more substantial gains
over time. This contrasts starkly with the mere $241,208 return that was mentioned as part of the
"equity transfer" plan.
The advantages of pursuing a different investment path are multifaceted. First and
foremost, Studebaker can harness the power of compounding to exponentially grow his initial
investment. Over the long haul, the effects of compounding can lead to substantial wealth
accumulation. Moreover, by avoiding the unnecessary payments associated with life insurance, he
can allocate his financial resources more efficiently, allowing him to maximize his investment
potential.
In summary, opting for an alternative long-term investment strategy, characterized by a 7%
annual compounded return and annual deposits of $3,052, promises to be a financially prudent
choice for Studebaker. This approach has the potential to yield significantly higher gains,
ultimately positioning him for a more secure and prosperous financial future.
Implementation Plan
After recommending Studebaker to invest his money into the investment that yields him 7% return
per annum. These are the possible plans for him in order to maximize his financial goal:
1. Reassessing his financial situation to Comer
Effectivity: Immediately
Reassessing his financial situation can help him to determine his actual
discretionary income, where it is his income after taxes, mandatory charges, and necessary
expenses. Determining his discretionary income can help him to maximize his earning
potential if he invests it to the investment that yields him 7% per annum. By assessing his
yearly discretionary income, it might turned-out that his annual income is more than
$3,052, which can be maximized further if he will put it in that investment. In addition to
that, since Comer know personal finance well, because of his deep knowledge in
economics, and has no vested interest that will gain money substantially, seeking some
financial advice to a trusted person can actually help him to come up with a good financial
plan that will actually help him in achieving his financial goals.
2. Sinking Fund Schedule Creation
Effectivity: After the assessment of his financial situation
After the assessment, he can easily revise the sinking fun schedule, wherein this
schedule contains the projections about his deposits for 20 years, in order to come up with
the more accurate projection. This projection is necessary to plan his retirement and his
child’s education plan more effectively.
3. Depositing $30,000 balance from his Money Market Account to the Recommended
Investment
Effectivity: Immediately
An immediate deposit of his balance to the recommended investment will earn him
considerable interest at the end of the year. Meaning, the sooner he deposits his current
money to that investment, the higher the interest he can earn at the end of the year.
4. Depositing his Annual Discretionary Income
Effectivity: At the end of every year, for 20 years
Depositing his annual discretionary income at the said effectivity follows his
sinking fund schedule. If this schedule is followed, he could accumulate his money
according to his projection at the end of 20 years.
Conclusion
There are investment recommendations that are seemingly auspicious. At a glance, these
investments could yield a substantial return. However, before considering these investments, a
thorough analysis of the financial situation, risk appetite, and financial goals must be done in order
to come up with the best recommendation. If somebody is not careful with his/her investment
decision, it might actually yield him the same return or worse, lose a substantial amount of money.
In the case of Studebaker, Morton recommended him to invest in a life insurance policy
where he his investment will grow significantly over time. However, his skeptism lead him to a
better alternative. With the help of his colleague, he found out that he could actually incur higher
cost rather than maximize his investment because of its features, hidden costs and taxes, additional
annual cost, increasing the mortgage rate (given his financial situation), and missed opportunities
if he invests it in other alternatives that could actually earn him higher returns.
Overall, the investment decision must be aligned with the investment goals and carefully
projecting the value of his investment over time can actually help him to make an informed and
rational decision where the investment must be put in order to achieve that goal and maximize the
earning potential. One must be skeptical not only in choosing where to invest but also considering
the financial plans and goals of an individual. Thus, upon considering this, possible risks and
considerable situations may occur, but the financial decision of one is crucial for growth and
profitability.