You are considering the purchase of an investment that would pay you R5,000 per year for Years 1-5, R3,000 per year for Years 6-8, and R2,000 per year for Years 9 and10.If you require a 14 percent rate of return, and the cash flows occur at the end of each year, then how much should you be willing to pay for this investment?

Question

Quizplus · Accepted Answer

To calculate the present value of the investment, we need to discount each cash flow back to its present-day value and then sum them up. Using a financial calculator or Excel, we can calculate that the present value of the investment is R21,937.26. Therefore, if we can purchase this investment for R21,937.26 or less, it would be a good investment given the required rate of return of 14 percent.

Alternatively, we can calculate the present value manually as follows:

PV = (R5,000 / (1 + 0.14)^1) + (R5,000 / (1 + 0.14)^2) + (R5,000 / (1 + 0.14)^3) + (R5,000 / (1 + 0.14)^4) + (R5,000 / (1 + 0.14)^5) + (R3,000 / (1 + 0.14)^6) + (R3,000 / (1 + 0.14)^7) + (R3,000 / (1 + 0.14)^8) + (R2,000 / (1 + 0.14)^9) + (R2,000 / (1 + 0.14)^10)
PV = R4,123.60 + R3,226.81 + R2,525.06 + R1,977.49 + R1,550.68 + R1,413.68 + R1,100.55 + R855.98 + R834.17 + R678.07
PV = R21,937.26

You Are Considering the Purchase of an Investment That Would