Please help with this question:
Mr Manaton has recentrly won a competition where he has the choice between receiving $5,000 now or an annual amount forever starting now (a level perpetuity starting immediately). The interest rate is 8% per annum.
What would be the value of the annual perpetuity to the nearest $?
Why the answer is A?
Yes, pleeeease explain!
I don’t understand this example…
And I don’t understand your math: 5000 / 8% = 62 500 and 400 / 8% = 5000
400/0.08 = 370
Present value of a perpetuty formula is :
PV= cashflow / rate of interest
PV= cash flow * 1/rate of interest so..1/rate is perp… factor
Assumption: This is the prep… starting in 1 year time..
As per your question it is starting now! so we add one factor year to this..
Step 1: 1/.08=12.5
Step 2: Add 1 ….12.5+1=13.5
Step 3: cal……5000/13.5=370 approx
Here PV is given as 5000..so we rearrange the formula…to PV/Factor as we are looking for a cash flow..
Great answer I am learning as well with this explanation:-) Thanks
We assume the PV to be an “a”
The general formula for annual perpetuity is
PV x (1 + 1/rate of interest)= Annual Perpetuity
a x (1+1/ 0.08)= 5000
a x ( 1.08/0.08)=5000
a x (13.5)= 5000
a= 370.37 or 370 to the nearest $
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