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Endowment: calculate amounts to fund for Marla Lee's parents

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Upon completion of her introductory finance course Marla lee was so pleased with the amount of useful and interesting knowledge she gained that she convinced her parents, who were wealthy alumni of the university she was attending, to create an endowment.

The endowment is to allow three needy students to take the introductory finance course each year in perpetuity. The guaranteed annual cost of tuition and books for the course is $600 per student. The endowment will be created by making a single payment to the university. The university expects to earn exactly 6% per year on these funds.

a. How large an initial single payment must Marla's parents make to the university to fund the endowment?

b. What amount would be needed to fund the endowment if the university could earn 9% rather than 6% per year on the fund?

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Solution Summary

The solution explains the endowment concept, describes common practices for maintaining the fund, calculates amounts required to be deposited, and links to an article of negative commentary about some university practices.

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An endowment is normally designed to pay out only the earnings on the principal without ever decreasing the principal. Following that concept:

a. If the fund earns 6% each year, and the payout is $600 x 3 = $1800, then $1800 is 6% ...

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