The Bluebird Company has a $10,000 liability it must pay three years from today. The company is opening a savings account so that the entire amount will be available when this debt needs to be paid. The plan is to make an initial deposit today and then deposit an additional $2,500 a year for the next three years,starting one year from today. The account pays a 3% rate of return. How much does the Bluebird Company need to deposit today?

Question

Quizplus · Accepted Answer

The first thing to do is to find the future value of the liability using compound interest formula:

FV = PV x (1 + r)^n 
FV = $10,000 x (1 + 0.03)^3 
FV = $10,912.70

This is the amount that the savings account must accumulate in three years. We can use the present value formula to find out how much the Bluebird Company needs to deposit today:

PV = FV / (1 + r)^n 
PV = $10,912.70 / (1 + 0.03)^3 
PV = $9,415.62

This means that the Bluebird Company needs to deposit $9,415.62 today to accumulate $10,912.70 in three years, assuming an annual deposit of $2,500 for the following three years. The closest answer is B) $2,079.89.

The Bluebird Company Has a $10,000 Liability It Must Pay