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Question: An individual has the option of receiving $10,000 now or an annual amount forever starting now (i.e. a perpetuity starting now). The interest rate is 10% per annum.
What would be the value of the annual perpetuity to the nearest $?
$__________
(((((Hello Mr. John, I have the answer but I need the explanation))))), The formula is CASH FLOW PER ANNUM/ INTEREST RATE , probably I just got stuck with any stupid logic but please if you can help me out with this problem as Annuities and perpetuities are confusing topics for me.
Answer:
$909
x = annual perpetuity
$10,000 = x + x/0.1
$10,000 = 11x
x = $10,000/11 = $909I assume that you have watched my free lectures on this (the lectures are a complete free course for Paper F2 and cover everything needed to be able to pass the exam well).
The discount factor for a perpetuity (1/r) assumes that the perpetuity starts in 1 years time.
In this question it starts immediately, and so the present value of X immediately is X, and the present value of X from 1 to infinity is X/r, or here X/0.10 = 10 X.
So the total present value is X + 10 X = 11X.
Which should then make sense of the answer 🙂
Thank you so much Mr. John for your an immediate reply. It’s really clear to me now. Thanks again
May i Request to you following two questions explanation as well, please,
(2 marks)A company is evaluating a project that requires two types of material (T and V). Data relating to the material requirements are as follows:
Material type
T
V
Quantity for project kg
500
400
Quantity currently in stock kg
100
200
Original cost of quantity in stock £/kg
40
55
Current purchase price £/kg
45
52
Current resale price £/kg
40
Material T is regularly used by the company in normal production. Material V is no longer in use by the company and has no alternative use within the business.What is the total relevant cost of materials for the project?
A. £40,400.
B. £40,900.
C. £43,400.
D. £43,900.
answer is B
A machine owned by a company has been idle for some months but could now be used on a one year contract which is under consideration. The net book value of the machine is £1,000. If not used on this contract, the machine could be sold now for a net amount of £1,200. After use on the contract, the machine would have no saleable value and the cost of disposing of it in one year’s time would be £800.
What is the total relevant cost of the machine to the contract?
A. £400.
B. £800.
C. £1,200.
D. £2,000.
Answer is D.
Bless you for your kind knowledge which you distribute.
In future you must start a new thread when it is a new topic – these two questions have nothing at all to do with perpetuities!!!
Secondly, these two questions are not now asked in Paper F2 – it is now Paper F5 where they get asked and not F2 (and you will find lectures covering it linked from the Paper F5 pages of this website).
Hello Mr. John,
I apologise, next time I’ll start a new thread, and thanks to let me know, I was worrying not to understand this topic.
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