- November 18, 2015 at 9:45 pm #283787hjParticipant
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sir in june 2011 ques 1 part b, can u pls explain what the question is asking us to do and how are we calculating the value after the forth year of operation
thanks alotNovember 19, 2015 at 8:03 am #283860John MoffatKeymaster
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Part (a) of the question only wanted you to consider the flows for the first 4 years, but in fact the project is going to continue generating returns after the 4 years.
Part (b) wants you to comment on this, and then to calculate the PV of the flows after 4 years.
You know what the flows will be – the question says for this bit to assume there is no more inflation and so from year 5 to infinity the amount will be the same as you already calculated for year 4 in part (a). (In fact, as you can see in his answer, because the question was not well worded, you could assume that the flows from year 5 to infinity were 3% higher than those in year 4 – it gives a different answer, but either answer got full marks).
To discount the flows, you multiply by 1/r as always for a perpetuity. However, multiplying by 1/r gives the PV when the flows are from year 1 to infinity. Because here the perpetuity starts 4 years late (at time 5 instead of time 1) you then need to discount for an extra 4 years by multiplying by the normal 4 year discount factor.
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