Question

Inflation is 2% per year and the interest rate is 8% per year. Your perpetuity project has cash flows that grow at 1% faster than inflation forever, starting with $20 next year.

Q: Based on the information from scenario 1, what is the present value of this project? Enter your answer to the nearest cent without the dollar sign. Example $343.58 enter as 343.58.

Answer 1

The present value of the perpetuity project is $400.

Step-by-step explanation:

The present value of a perpetuity project can be calculated by finding the discounted value of its future cash flows. In this scenario, the cash flows of the project grow at 1% faster than the inflation rate, which is 2% per year. We can calculate the present value by dividing the cash flow of $20 by the difference between the interest rate (8%) and the growth rate (1% + 2% = 3%).

The formula to calculate the present value of a perpetuity project is:

Present Value = Cash Flow / (Interest Rate - Growth Rate)

Using the given values, the present value of the project is:

Present Value = $20 / (0.08 - 0.03) = $20 / 0.05 = $400